February 18, 2020
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It's Stock In Trade

Sensex will be Sensex. It's not the economy, stupid.

It's Stock In Trade
outlookindia.com
-0001-11-30T00:00:00+0553
As share prices crashed through the largest single-day decline in Indian stockmarket history on Monday, May 17, TV channels were quick to get woe-sodden sound bites from brokers and analysts. They were to look foolishly divorced from political reality as they gibbered wildly. Their utterances may have lacked a certain profundity, but this shouldn’t apply to the entire market. A stockmarket is the most efficient pricing mechanism for financial instruments. Still, it isn’t entirely accurate in the very short-term. For, short-term movements have almost everything to do with demand and supply for stock and for cash in the market and very little with the performance of the firm that has issued the stock.

The demand for cash on Monday came from some players in the market who had taken big bets on the NDA government retaining power and on share prices rising thereafter. But the other guys won and the market fell. The punters essentially had to pay for their commitments and didn’t have the cash. They had to sell shares at whatever price they could find buyers to generate the cash. This drove prices further down, and to generate additional cash, they had to sell proportionately more stock, which in turn drove prices even further down. If the demand of cash is strong enough, it’s easy to see where this can go.

A sharemarket index is designed to be a sensitive barometer of the market mood. But to treat the index’s movements as a proxy for the economy at large is economic idiocy.

Yet, a fall in the index wasn’t completely unexpected. Since last year the market has soared, riding a potent trifecta of a global rally in commodity prices, low interest rates and a good monsoon. These factors weren’t going to keep share values up forever, not least because of the inflationary effect of continued high oil prices and the expectation of interest rate hikes. These factors can be out of the government’s control, but Outlook’s analysis (see main story) suggests that the potential damage to the fiscal deficit—which is in its control—may not be great. In the long term that is good news to remember.

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