Sensex extends record run; Fed says policy tightening pace will be gradual

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The stock markets got a fresh shot in the arm with the US Federal Reserve reaffirming it will continue to follow a path of gradual tightening. 

The benchmark Sensex rose 442 points, or 1.2 per cent — most since May 31 — to close at 38,694, a new high. The Nifty index gained 135 points, or 1.2 per cent, to end at 11,692, just 2.6 per cent shy of the  12,000-mark.

The risk-on sentiment was triggered by dovish commentary by Fed Chairman Jerome Powell, who signalled that there was little need to tighten the policy aggressively. The comments helped offset concerns around lack of progress in the trade talks between the US and China last week. The US dollar and developed world bonds remained steady, indicating investors were not entirely moving away from safe havens. Both domestic as well as foreign investors were net buyers in the cash segment. Foreign portfolio investors bought shares worth Rs 2.5 billion, while domestic institutional investors pumped in Rs 11.2 billion. All the 19 BSE sectoral indices, except the realty index, ended with gains. 

Shares of commodity firms rallied sharply amid a rise in global metal prices. Broad-based gains were seen in the market, with the number of advancing stocks on the BSE outpacing the number of stocks declining. The gains in the mid- and small-cap indices were in line with the benchmarks. “Markets have rallied to new highs, supported by positive global market, which was buoyed by the Fed’s comment on a gradual pace of rate hikes. The rally was broad based. The buying by foreign and domestic investors is adding to the liquidity,” said Vinod Nair, head of research, Geojit Financial Services.

All of the BSE components advanced except for Sun Pharmaceutical, which declined 1.2 per cent amid reports of a US inspection at one of its plant. Infosys, ICICI Bank, Reliance Industries (RIL) and State Bank of India contributed to nearly half of the Sensex gains. With Monday’s rally, the Indian markets cemented their position as the best-performing Asian market. The benchmark Sensex has rallied 13.6 per cent this year. In comparison, the MSCI Emerging Markets Index and the MSCI Asia-Pacific Index are down 9 per cent and 6 per cent, respectively.

What’s buoyed the Indian markets this year?

Consistent buying in shares of RIL and Tata Consultancy Services (TCS), India’s most-valued companies, accounted for 42 per cent of the Sensex’s 4,637-point gain this year. Given their high weight, these two stocks have a significant influence on the market. 

Besides, strong institutional flows have benefited Indian equities. While domestic mutual funds have been strong and consistent buyers of equities, foreign institutional investor flows have turned positive in recent months. Since July, FIIs have invested in Rs 43 billion while MFs have pumped in almost 50 per cent more at Rs 65 billion.

The reversal in foreign flows has come on the back of improvement in global investor sentiment amid positive global growth outlook and continued easy monetary policy. This, too, has reflected in the flows. India’s peers such as Thailand and Indonesia, too, have done well this quarter.  “We see the share markets being higher by the year-end as global growth remains solid helping drive good earnings growth and monetary policy remains easy, but we are likely to see ongoing bouts of volatility and weakness,” said Shane Oliver, head of investment strategy, AMP Capital. Also, the June quarter (Q1) earnings surprise has added to market momentum. The first quarter results have been ahead of expectations. The top 100 companies have posted highest year-on-year sales growth in five years. The operating margin for companies (ex-financials), too, has been the highest in three years. 

Analysts believe the Q1 marks the start of an earnings up-cycle for India Inc.

“Corporate confidence is at a multi-year high and profits are likely to revert from below trend. Indeed, India's corporate profit share in gross domestic product is close to an all-time low, which means the upcycle could be quite significant,” said Ridham Desai, managing director, Morgan Stanley India in a note.

India’s accelerating growth relative to other emerging markets, macrostability, thanks to a retreat in oil prices and low policy uncertainty despite upcoming elections, have added to the earnings optimism. Oil prices have come off 5 per cent this quarter, but are still up 13 per cent year-to-date. In the past two months, market gains have got more broad-based, with the mid- and small-cap indices gaining 10 per cent each — same as the benchmarks. In the preceding two months, the small- and mid-cap universe had seen a sharp correction, with the former even slipping into bear market territory.

However, following the sharp gains, market valuations have once again become pricey, compared to long-term averages. The Nifty currently trades at 17 times its estimated one-year forward earnings, compared to the long-term average of 16 times. “The strong run-up in certain stocks this year has led to stretched valuations that imply expectations of very high growth, leaving little scope for a slip.

Taking cognisance of the valuation multiple, we are selective,” said Saion Mukherjee, head of India equity research at Nomura.