Rally of Hope – What’s next for Indian Stocks?

In January 2013, I wrote an article on the wealth effect where the central theme focused on the relationship between stock prices and the real economy.

I had looked at some macro-economic factors, mainly the GDP growth and the Sensex levels for the preceding 16 quarters. At that time, I could not find any major sign of improvement in the state of the broader economy. I concluded by saying:

“all considered, if you believe that “markets are always ahead” of the real economy, then this is an early signal from equities that the economy may just be coming out of a recession”.

Fast forward 13 months and the Sensex is up another 13% and I have to admit – I still see no real signs of improvement in the broader economy. GDP growth has slowed further, inflation is still high and going by home and auto sale numbers – I don’t think anyone on the street will dispute that consumption is yet to pick up.

What then explains this dramatic rise in the Sensex?

Every time there is any news of NDA gaining ground, based on Opinion polls or otherwise, the markets seem to react to it. On the 6^th of March 2014, the Election Commission announced the election schedule. This immediately kicked in the model code of conduct thereby freezing all policy decisions until the end of the election process. Effectively, this brought an end to the 10 year old UPA regime, at least until the results of the 2014 general elections are announced (on the 16^th May 2014). In the next 2 trading sessions alone, the Sensex gained over 3% and in the process crossed its previous all time highs.

Is this indicative of the hope which the investors have pinned with a possible UPA Government at the center; or a clear sign of repugnance of the current set of administrators?

While I think the general sentiment is one of – “thank god it’s over”, a larger point needs to be addressed here. Even if it comes to power with a complete majority, how quickly will the new formation be able to turn things around? Surely, it will take a few quarters for things to improve?

Reforms will have to start again, policies will need to be pushed, businesses will start expanding (and hopefully – increasing), and if potential for higher capital return can be demonstrated, direct investments will start flowing back into the country. The way stock markets are reacting, it seems that they have already acquiesced to the happening of all this and more.

If this sentiment continues, we may actually see a mini hyper-bull market over the next 75 days. What happens after the elections is something very few are interested in talking about. The question which clients always pose –“What should I buy for the next 1 month or 2 months”, becomes even more difficult to answer. Someone yesterday told me he is buying “Modi Stocks”. Frankly, I don’t know which ones these are. In case any of you has an idea, please share.

That said, on my part I am extremely optimistic on Indian stocks over a longer term and quite frankly a little bemused by the immediate scenario. I spent the last couple of days analyzing lots of historical data to come up with some rational targets for the Sensex over the next 6 years. In case is it is of interest, this should make an interesting read – Sensex Target for 2020 – Are 40,000 – 60,000 levels achievable?