Markets, economy take divergent paths amid Covid-19 uncertainties

The trillion-dollar worth of stimulus packages, record low interest rates and unlimited bond-buying plans have clearly improved risk appetite
Former General Electric boss Jack Welch’s famous quote “If you are not confused, you don´t know what is going on” aptly fits the current situation, where the stock market and the economy have taken divergent paths over the past one month.

The domestic equity market has soared 20 per cent from its coronavirus lows exactly a month ago, even as most forecasters, including the International Monetary Fund (IMF), have said India will record its worst economic growth since the 1991 liberalisation.

It appears investors have been undeterred by the lockdown extension amid a sharp growth in Covid-19 cases -- from less than 100 a month ago to about 20,000 as of Wednesday. So what explains the resilience shown by the market over the past one month?

To begin with, the latest rebound in the market has come on the back of a sharp 40 per cent correction in the preceding one-month period, with valuations of most stocks plunging to multi-year lows. Experts are quick to add that after such a sudden drop, some recovery was on the cards. However, the sharp bounce has taken many by surprise.

Aggressive stimulus packages announced in the developed world, particularly the US, hopes of a medical breakthrough to cure the coronavirus disease, and slowing cases in key geographies are some of the reasons being attributed to the latest surge in the market.

“The fall was the sharpest we have ever seen, and the rise has to be looked in that context. Anytime if the markets fall 40 per cent, there will be investors who will come and buy,” says Jyoti Jaipuria, founder, Valentis Advisors. “The fall and the rebound have been on account of global factors. The US Fed has injected double the amount it did during the 2008 financial crisis. Also, the flattening of the Covid-19 curve in Europe has helped.”

The trillion-dollar worth of stimulus packages, record low interest rates, and unlimited bond-buying plans have improved risk appetite. After a record sell-off in March, the selling by foreign portfolio investors (FPIs) has clearly subsided, which has given traders the ammunition to take stocks higher by building long-positions, thanks to a fall in volatility. India Vix, known as the fear gauge, has come off from its record close of 86 on March 24 to 43 now. The volatility has cooled off substantially, but is still at elevated levels compared to the long-term average of about 20.

Attractive valuations have meant that domestic investors, who typically take a counter view to FPIs, have largely been buyers as well.
While on the one hand this optimism and stimulus measures have kept the markets afloat, the economy has drifted into unchartered territory due to the nationwide lockdown.

Last week, the IMF warned that the global recession due to Covid-19 lockdowns would be the worst in almost a century and economic contraction this year would be worse than the 2008-09 financial crisis. Barclays expects India’s growth to come in at 0.8 per cent for FY21. It says losses could exceed $230 billion (8 per cent of the GDP) if lockdowns in the country extend till May end.

Given the grim economic forecast and uncertainty when the lockdowns will end, many are dismissing the market resurgence as a ‘bear-market rally’.

“The current gain in the markets is a trap for retail investors,” says G Chokkalingam, founder, Equinomics. “A lot of investors are of the view that the market is entirely disconnected with the fundamentals and have made a bottom on March 23. Such scale of economic disruption has a lot of repercussions. This is severe than what we have ever seen in history. The pain will continue until a medical breakthrough is achieved. The market could fall another 10 per cent from here.”

Some believe that as the lockdowns started almost at the fag-end of the March quarter, the earnings impact will only be felt from the June quarter onwards.

“Some investors have been enthused by the March quarter results for a few companies. But the June quarter is going to be a write-off as there has not been much economic activity. Forget earnings growth; many companies won't have any earnings at all,” says U R Bhat, director, Dalton Capital Advisors.

Experts say the market believes the worst of Covid-19 impact is behind us, but if there is a resurgence of the epidemic, the market could retest the lows made in March.

Also, how things will play out when the lockdown ends and what the exact long-term impact on earnings and growth will be are still unknowns.

“The way this virus operates, the minute you open it goes viral and it will force another shutdown, so you will have no choice but to do spot opening, spot closing and this is going to recur for the next 12 months. This virus is not going to go to zero and there is no alternative to keep you locked down for 12 months,” says Manish Chokhani, director of Enam Holdings.


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