Home > Education, NIFTY Strategy > Can Indian markets go down even while remaining “fundamentally” good?

Can Indian markets go down even while remaining “fundamentally” good?

Sunday, August 12, 2007 Leave a comment Go to comments

The last week was very high on the volatility making investors and traders nervous. Every investor is looking towards US markets for further cues. With the problems in the subprime markets still looming large and the fears of large liquidations by hedge funds in the credit markets,the scene is not that pretty in the US.

Coming to India, we are not aloof from these global developments. Today we have so many global investors in India that any adverse conditions in global markets tend to affect us.

Now, I hear lots of experts say -India is fundamentally good-good for next 10 years!Being an Indian-even I am optimistic about India and its economic growth.But will that economic growth lead us to higher stock prices in the near future-thats a question we need to answer.

Markets in India have been going up primarily two factors- cheap access to credit which is resulting in excess liquidity and good economic growth.

What these global problems are doing are-putting a check on ‘liquidity”. What big hedge funds do is simple- borrow money at cheap rates,employ huge leverage and then invest this money in equity markets to generate excess returns. Thats why you see so much of FII money being pumped into an emerging market like India. The movement this supply of money dries up, the markets might stop moving up as the buying might stop suddenly! Second when global investors suffer losses in one market/asset class, sometimes they book profits in other markets and get out of “riskier” assets.

So a market which goes up 1000 points on $10 billion can fall even 1200 points or more on a selling of $3-4 billion.Why? Simple- Nobody wants to buy while markets are falling sharply!This is a big ‘risk” to an emerging market like ours.

We have to keep in mind that when going is good, investors are ready to pay a ‘growth premium”.

All of us know that price of a stock or market depends on two factors -Price Earning Ratio multiplied by Earnings.

So if earning growth continues,if the average PER goes down, the stock prices might remain the same or may even come down in some cases! What happens in such a case that the market or your favourite midcap stock which was earlier enjoying a PE of 50, now suddenly has a PE of 30 because of perceived “risk”. So a 40% growth in earnings gets nullified by a 40% reduction in PER.

And remember, calculating future earning might be more of “science”, but it is always difficult to measure future “PER” as it is more on an “art”!

So even if India remains “fundamentally good” and companies continues to grow their earnings, stock prices can still come down.

As a trend follower, I usually don’t bother myself with PEs and earnings growth, but many of you who do, might do well to keep these perspectives in mind and take “expert” opinion with a pinch of salt!

Categories: Education, NIFTY Strategy
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