For countless new investors who got used to a one-way climb in Indian stocks, the past month has been a rude awakening. Since the Chinese central bank’s ‘bazooka’ stimulus for its economy, India’s stock market has been on a slide, as many foreign investors swung to Chinese stocks instead.
India’s S&P BSE Sensex index is down some 6.7% from its September peak, while other indices have fallen as well. Declines of such magnitude are not too sharp and do not suggest panic. This is an asset class given to volatility.
But since the market has long been on a steep incline—that index has risen 24% over the past year and more than doubled in half a decade—to reach levels that made shares look overpriced, it’s a fair question to ask if a prolonged bull run has finally exhausted itself.
What caused the month-long slide? Sell-offs by foreign portfolio investors (FPIs). So far in October, on a net basis, they have sold close to ₹85,000 crore worth of Indian shares.
In fact, this month looks set to be the heaviest month of FPI liquidation, with the covid-shock record of March 2020 likely to be smashed. It is natural for investors to be somewhat nervous amid this scenario of a ‘China shock.’
Proportionally, though, the scale of this FPI selling has not hit stocks as hard as the pandemic sell-off did. The Sensex had dropped 20% back then. What our market has developed since is an enlarged cushion of domestic buying support, thanks to retail participants rushing in, even as mutual fund schemes pool in large sums to invest in equities.
While FPIs pulled out of India, attracted partly by China’s new prop for its stock market that had slumped under its slowdown, net local purchases worth ₹77,000 crore have been made in Indian stocks so far this month. To be sure, investment experts tracking valuations had been warning for months that our market has gone into overbought territory.
Shares that compose major indices have been trading at over 20 times their one-year forward earnings, with Chinese scrips available for less than half as much as a ratio of what they earn. This valuation gap left Indian shares vulnerable.
Foreign portfolio re-allocation patterns suggest a search for attractively priced picks, rather than stocks driven chiefly by market momentum.
Although the jury is still out on the efficacy of China’s booster dose (and the policy idea of a central bank taking explicit action to reverse an equity slump), its CSI 300 index has gone up by about 17% over the month. South Korea, Indonesia and Japan also gained.
Where does all this leave us? Apart from absorbing the lesson that markets move both ways, retail investors must pay more attention to value: i.e., whether a stock’s earnings justify its price.
Long-horizon equity holders need to track value drivers, like the strategic approach of companies within the larger context of how the economy, its policy settings and other key variables enable them to expand their earnings.
India’s economic growth has held up well and profits have swollen faster than wages in recent years, as value-addition data shows. Yet, what listed businesses rake in for their bottom-lines must accelerate to catch up with their high share prices.
This means the market could stay choppy. Further drops should not be a surprise, although new investors still seem to be coming in and the local cushion effect may stem losses.
Eventually, basic value drivers will count. So long as these are intact, there is no cause for anxiety. This slide is best taken as a ‘correction’ that’s educative no less than numerical.
