2018 will be a roller-coaster ride, it's time to say Dow-Wow to Sensex

Asian markets found a semblance of calm on Monday as S&P futures extended their bounce, though bond investors were still fretting about the risks from looming US inflation data. The benchmark S&P 500 fell 5.2 percent last week, its biggest decline since January 2016. However, this author believes that while the Indian markets will obviously take their cues from the Dow and S&P in the US, the reality is that the Sensex’s sex appeal is actually higher than that of the Dow.

Don’t shoot the FM. The over six percent fall in the Bombay Stock Exchange Sensex, and the commensurate fall in the Nifty had almost nothing to do with what Arun Jaitley did – or did not do – in his 1 February budget. You can yell and scream about the long-term capital gains tax on shares, or the slight slippage in the fiscal deficit this fiscal, blaming both for the market crash, but just look at the Dow and you will get some sense of schadenfreude. The Dow fell more than 10 percent between 26 January and 8 February.

Looking ahead, while the Indian markets will obviously take their cues from the Dow and S&P in the US, the reality is that the Sensex’s sex appeal is actually higher than that of the Dow.

Consider these basic points: While interest rates and bond yields are set to rise in both countries, growth in the US is expected to slow down, while in India it is expected to take off in 2018. The US is still to cross its 3 percent GDP rate achieved last in 2005, but India could even touch 8 percent in 2018-19, assuming the monsoons are reasonable and oil prices don’t soar above $70 a barrel.

So, if one were to make a prediction about the future direction of stocks in India, we must balance the bull factors against the bear ones.

So, what are the bear factors for Indian stocks?

One is high valuations, with the Sensex price-earnings ratio close to 25 – which is the red zone. Another is the overhang of share issues: the government is planning Rs 80,000 crore of disinvestment in 2018-19, and private sector players will probably raise big sums too. When new share supplies rise, investors tend to sell in the secondary market and buy IPOs. Then there are the macro factors – inflation could spike, leading the RBI to raise interest rates faster than expected. And, above all, there is politics. If the major state elections due in 2018 – Karnataka, Rajasthan, Madhya Pradesh and Chhattisgarh being the major ones – show a weakening BJP, the markets could crash further, and this weakness will remain in the initial months of 2019, in the run-up to the general elections.

But the bull factors countering that are not insignificant.

First, growth is expected to pick up, and government revenues should also revive as the goods and services tax (GST) starts firing on all cylinders. GST revenue dips bottomed out in December and could start zooming in the current quarter. Exports are looking up, and as election spending revs up, domestic consumption spends will again give growth a leg up.

Of the four growth engines – government spending, consumption, private investment, and exports – at least three are already revved up, and the fourth (private investment) could start purring in the second half of 2018, as banks get recapitalised, bad loans taper off, and the insolvency issues get resolved in the National Company Law Tribunal. Corporate earnings are set to revive, and if the government gets any privatisation going – especially Air India – the markets will see that as a sign of serious commitment to reforms even in an election year.

And, then, of course, there is liquidity. In 2017, the domestic market boom was fed by domestic money, with monthly SIPs peaking at Rs 6,200 crore in December, and the EPFO increasing its investment in stocks indirectly (through ETFs). The growth of the insurance sector is increasing the availability of funds going into stocks and securities, and the listing of three government-owned insurance companies (GIC, New India, and SBI Life), and several strong private ones – ICICI Pru and ICICI Lombard, and HDFC Standard Life) will mean more funds of policyholders will be available for investment in stocks. Insurers must invest the bulk of their funds in sovereign paper, but equity will remain a hot favourite in the chase for returns. In 2018, it is not just the LIC that will be fishing for stocks in the market.

The prediction for 2018 is thus high volatility in prices, a shift to large-cap stocks by all investors seeking safety, and a Sensex range of 30,000-40,000, depending on news flows. Any fall below 30,000 will be a clear buy signal for most investors, and any rise above 40,000 will be asking for trouble.

Outside the stock markets, bond yields are hardening, and this means debt and gilt funds will do badly, and FMPs (fixed maturity plans) will look better. Tax-free bonds, which offer yields of over 6.1 percent (which means more than nine percent pre-tax for those in the top tax bracket) are a better option for who don’t need liquidity.

Overall, 2018 will be a roller-coaster. Fasten your seatbelt.

The author is editorial director, Swarajya