Nervousness everywhere

After a day of turbulent trading ended with a net gain on India's stock markets on Tuesday, the question can be asked: Is India an island of virtually limitless gains on the stock market, while the investing environment elsewhere in the world turns negative? Anyone could have lost nerve after the market lost 440 points on Tuesday, on top of a 463-point fall on Monday, but the market bounced right back, and then some. So is the Indian market more resilient than all the others? Or perhaps the more important question is whether such sharp swings indicate that the stock market is on edge, and even a small trigger can create a mini-panic.

If metal stocks were the only villains causing the decline, then it would not impact markets so much. There are only a handful of significant metal producers""Tata Steel, Sail, Hindalco, Nalco and Sterlite""and out of them only Tata Steel is a Sensex stock. If metal prices fall, an opposite and perhaps unequal reaction in metal consumers such as Tata Motors, Maruti, Bajaj Auto and Bhel, would take care that the markets as a whole do not slip. But that was not the case these past few days. Foreign institutional investors sold equities to the extent of Rs 1,908 crore between Thursday and Monday, while domestic funds bought stocks worth Rs 1,082 crore. These numbers are not significant to push the markets down by almost 1,300 points, or over 10 per cent, between the high and low of four trading sessions between Thursday and Tuesday.

Obviously, there are other forces at play. One plausible argument is that hedge funds, which were facing losses on their metal positions, found India to be a logical choice to divest some of their holdings. Also, there were huge build-ups in the futures market, which increased volatility when they were unwound. But at centre stage may well be the US Federal Reserve, which has hiked the short-term interest rate by a quarter of a percentage point last week to 5 per cent, and it may be this which triggered the meltdown in metals and a correction in global stock markets. As everyone knows, when interest rates rise, stocks should fall. But equity markets have flouted the rule long enough for many investors to have almost forgotten this simple rule. Even with the US Fed's sixteenth consecutive rate hike, the US stock market seems to be adjusting to it pretty well. If short-term US interest rates go up by another half or one percentage point, will FIIs and hedge funds take the incremental risk of investing in emerging markets that anyway are overheated? The answer is: probably not. So, some time in the not distant future, there has to be a reality check.

Here in India, the signals coming from the government seem to be at divergence with the logic of different markets. For instance, the government is still to take a decision on whether to increase petroleum product prices, while the subsidy burden mounts for the public sector oil-marketing companies and for the government. Also, asking cement companies to lower prices is surely interfering with business. Those playing with markets should know that, at the end, markets start looking for a reason to find the correct valuation. Benjamin Graham's statement that "[i]n the short run, the market is a voting machine, but in the long run it is a weighing machine," is relevant at this juncture. It is possible that these may still be early days to speculate on whether the top of the market passed when the Sensex reached 12,671 points on May 11, and wonder whether the markets will scale new levels in the coming weeks. But there can be little doubt that most investors will now check their assumptions more closely than they may have done a week ago.