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Is the Rally on Back of Strong macro Economic Measures or Global Liquidity ?

October 5, 2012

Several Large Institutional Investors have been focused on India’s tepid macro [For beginners, Read macro as Govt, RBI, etc – Policies & Measures ]and missed the proverbial “market” boat. The market has seemingly defied a bad macro and made gains through 2012 even before recent events unfolded.

Bad Macro does not necessarily mean Bad Earnings for companies – GDP growth is crucial to corporate fundamentals. However, a high GDP growth does not mean high profit growth and vice versa. Profits are about revenues and margins. Margins are impacted by various other macro variables [Fuel Price Hike means lesser Deficit for Govt, RBI Easing CRR] ranging from the relative gap between the current and the fiscal account, the level of savings in the economy.

The macro is material to share prices but is not the only thing that drives its change. We think the starting point of valuation is crucial to determining the performance of share prices as much as growth in earnings and liquidity / sentiment. So the chances are that if shares are cheap and sentiment is poor (low expectations), share prices could rise even when macro is weak.

India could just be the good house in a bad neighborhood, and this could help share prices rise. So the macro can be bad, but if it is getting less bad at the margin, markets could run ahead. Indeed, the crucial driver of Indian equity market this year has been global. This is what we said 3 weeks ago on twitter Huge FII investments (USD16.2b until early October and USD3.6b in September alone) have driven Indian equities’ out-performance. However, a comparison of FII flows into India with that into rest of Asia shows that the recent massive flows are a result of global liquidity injection.

Investors are increasingly looking at playing those equity markets where currencies are likely to be supportive. Emerging market currencies are obvious beneficiaries of global liquidity injection. In India in particular, the RBI recently intervened only to support the INR, not to depreciate it.

In conclusion, we would say that markets are a sum total of macro, corporate fundamentals, valuations, sentiment, liquidity
and ownership or positioning.

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