Economic Highlights

New Delhi, 24 September 2010

Sensex Rise Implies Little

INTEREST HIKE MEANS LOT

By Shivaji Sarkar

Touching the 20,000 mark by the Mumbai stock market index, the sensex, after about three years has not cheered many. Not even Finance Minister Pranab Mukherjee. On the contrary, the hike in repo rate by the RBI has sent shockwaves and is being seen as an inappropriate move and counter-productive as it draws more foreign money to the country and defeats what it wants to do --- reduce the money supply.

Importantly, the surge in the sensex is not being viewed as an indicator for the economy. Mukherjee made a remarkable but cautious remark, “We all know that the sensex is always a little unpredictable. I am happy that for the first time after January 2008, it has crossed the 20,000 level”.

There is a reason. The surge has not benefited domestic companies, except in a small band. The unexpected rallying is led by foreign institutional investors (FII). They have invested over Rs 2311 crore in one day, on September 21, and in the last 20 days Rs 16037 ($3.46 billion) crore.  Since January they have invested Rs 71,000 crore. The sensex gained over 2000 points this month.

It is an indicator that Indian equities are in demand beyond the shores. Some of the ADRs (American Depository receipts) like Sify made record gains of 66% and Rediff 150%, states Alex Mathews, research head at Geojit BNP Paribas. But this might also mean that Indian companies could become prey to global predators.

The flip side of the investment is that FIIs are known to pull out first. They did so after the sensex touched the 20,000 mark for the first time on 29 October 2007 and again after 15 January 2008. They make the market extremely volatile and the investments made in the stock market are short-term. Also, except for showcasing some companies or their scrip it does not benefit the country. International players are known to rake in profit from one stock exchange to another and to earn both in the bull and bear phases. They just manipulate the market.

The head of wealth management of Deutsche Bank Ajay Bagga avers that the momentum might continue but volatility is also likely to increase, thus he advises investors to exercise caution.

In the present game, domestic investors have not gained. Domestic funds are pulling out, in other words, they are selling their stakes riding the high prices. As FIIs went on a purchasing spree, domestic institutions sold stocks worth Rs 1259 crore and have sold over Rs 6100 crore stock so far. Besides, some of the major companies’ scrip value has drastically come down causing jitters in the market. This may be a ploy to sell these so that FIIs could feast on them.

Significantly, the absence of big local investors is raising doubts. Unlike some previous occasions, mutual funds and insurance companies are not big buyers now. Whether there would be enough local buyers when the FIIs start selling needs to be seen. As SEBI has approved 37 IPOs (initial public offers) or new equity issues, selling is likely to get triggered off as investors need money to buy the fresh bids, which are always the cheapest investment and give high gains in the short term.

The market is certain to roll down and the process has begun. Much of the rallying was because of some projections of job rise in the US. The new figures suggest that recovery thus far has been so anaemic that the job picture there might stagnate or even worsen, according to the US National Bureau of Economic research’s Business Cycle Dating Committee.

Another worry is that the stock market has actually grown more than the economy. The companies are becoming expensive and the fundamentals are not seen to justify the current optimism, some mutual funds have observed. India’s market capitalisation exceeds that of the German economy, which is more than two-and-a-half times the size of India.

The FII enthusiasm on a short range in the IT, automobiles, fast moving consumer goods and sectors of the Indian stock market has now raised concern among the best of fund managers who have become cautious on stock investments. Real estate, capital goods, oil and gas have not reached their past levels.

As the concern for the stock investments grow, there is also concern over the move by the RBI at tightening the money supply – something now recognised beyond its domain. During the last one year all its moves have terribly failed at controlling inflation, the only objective the RBI had. It is believed that the RBI is nearly at the end of the road so far as planned tightening is concerned.

Its moves, however, has shot lending rates across the board. This is not considered a good sign. It is expected to add to the inflation, contrary to the RBI’s objective, as investment and other costs increase. The Planning Commission Deputy Chairman Montek Singh echoed this sentiment, “The notion that by raising 25 basis points of key rates you will bring down the inflation is wrong”.

The move to raise the interest rates is also against the western trends, where interest rates continue to remain extremely low. A sharp hike in rates here would lead to flood of foreign capital, which in turn could push up inflation. It is unlikely that the RBI has seen the linkage. But it was goaded by the impulse that it had to do something to demonstrate.

There is yet another reason that might have forced it. As banks because of low rates were unable to attract deposits and instead they have seen a deceleration of deposit growth, as people look for higher returns elsewhere. Many banks since have increased the deposit rates.

Further, the RBI has been unable to delink the lending and deposit rates. Banks work on high spread and bolster their profits at the cost of the depositors. This should have been corrected and not led to a general rise of interest rates. It would make Indian goods less competitive and also leave less in the hands of people to purchase more.

In sum, correcting the sensex is not easy but what the RBI is doing could be reversed with far more ease. It need not function like a bureaucratic organisation but is expected to be a real think tank and regulator to guide the nation’s economy to new heights. ----- INFA

(Copyright, India News and Feature Alliance)