Expert Opinion

Published: Dec 29, 2021
Updated: Dec 29, 2021

Pricey scrips could be investor turn-off

Optimism about the end of the pandemic and support from governments and central banks have rescued the Trump stock market. Now, investors are curious to see if those gains can hold under Joe Biden, who was sworn in as the 46th president of the United States on January 20.

A look back: Shares shot up after Trump’s 2017 tax cuts supercharged corporate earnings, then plunged at record speed when Covid-19 began battering the United States. Since then, however, they have been rocketing higher, repeatedly reaching all-time highs. Deep political polarization and a worsening pandemic have not been enough to hold Wall Street back. Despite the sharp rally on Wall Street, stocks under President Trump have not performed as well as they did during the first terms of Presidents Bill Clinton or Barack Obama.

Some of the recent increases in markets can be attributed to Mr Biden’s win, which investors believe will generate substantial government spending to boost the economy. Stocks have gained about 13% since then, the best post-election market performance for a new US President in modern history

LOAN WOES

On the investment front, the most important determinant of economic buoyancy in India is private investment. Higher uncertainty pushed investment demand down. As the uncertainty in the economy reduces, businesses will have a more stable environment to invest in. However, the balance sheets of many companies, particularly small businesses, have been impaired by the crisis. The RBI gave companies with bank loans a moratorium for the period of the lockdown as they were unable to repay the loans. This moratorium did prove to be helpful, but lower demand, fixed costs, and the requirement to pay interest on existing loans put pressure on companies.

Impaired balance sheets of firms — financial and non-financial — will exert a significant drag upon the extent of investment revival. The old agenda of firm resolution remains incredibly important. The Insolvency and Bankruptcy Code needs to come back into action, and we have to go back to the FRDI Bill in order to establish a resolution mechanism for financial firms.

The supply side of the economy, like manufacturing and exports, has picked up pace but demand remains dismal. Indian households are still reeling from job losses and pay cuts. If consumer confidence remains low, it will have an adverse impact on companies’ sales and revenue, and in turn halt the markets’ rally. Meanwhile, the threat of the coronavirus cannot be completely ruled out. Intermittent corrections cannot be ruled out, but sustenance of economic recovery holds the key.

Further, the contraction in the economy meant the government’s tax revenue fell sharply. The fiscal deficit for 2020-21 is expected to be in the range of 6.2 to 6.5 per cent. The capacity of the government to spend more will depend on the level of deficit. If the debt increases beyond comfort levels, then next year too, the government’s capacity to spend further will remain impaired.

INFLATION WORRY

In the last few months, India has been seeing a rise in inflation. Initially, everyone thought it was caused by supply side issues caused by the lockdown, as demand was clearly suppressed. But now that supply side issues and transportation bottlenecks have long been addressed, inflation still remains higher than the target, and even beyond the band around the target put in place by the RBI. Higher inflation, particularly in food, not only affects the spending capacity of the poor, but also creates greater uncertainty for businesses.

The RBI’s focus on inflation, and having the tools to fight it, is now under scanner. The government and the RBI need to stay firm on the inflation targeting framework that has helped stabilise India’s macro-economy

After the lockdown, consumer demand was down as, first, people’s incomes had contracted and, second, even when incomes started rising there was uncertainty about whether this was going to be a steady increase or the economy could collapse again. As long as deaths were rising and hosLpitals were full, there was fear that the country could collapse into a lockdown again. This kept consumer demand low. These fears have abated with the falling number of deaths and the ability of the health system to cope with Covid-19 patients. This has therefore led to a reduction in uncertainty in the economy and an increase in consumption demand.

However, there are fears that lower employment levels mean lower incomes, which could keep demand suppressed — after it picked up due to pent-up declines. Indian markets have to keep in mind that they have to travel on a tougher road ahead as high stock valuations coupled with a slow economic recovery could provide a reality check to investors’ newfound optimism.

(Dr VVLN Sastry, Director, Firstcall India Investment Banking)