Market boom in the time of economic gloom: What are the dynamics?

The Sensex and Nifty hit record highs on Monday, sprinting off the block in the New Year. The benchmark indices have logged more than 1.5 percent growth in the first week of the year. Ironically this comes close on the heels of the latest forecast that suggests India's economic growth is likely to remain stunted this fiscal year. So what are the dynamics that spur a market rise in times of less-than-robust growth outlook?

The Central Statistics Office (CSO) data published late last week showed India's gross domestic product (GDP) growth may fall to 6.5 percent during the 2017-18 financial year. This is much lower than the 7.1 percent GDP growth clocked in the previous financial year. The CSO prediction is grimmer even than the Reserve Bank's revised growth rate of 6.7 percent. Consider also that the central bank was much more sanguine earlier in the year of a 7.3 percent growth forecast.

The CSO prediction, if it turns good, will mean the country long hailed as the fastest-growing major economy in the world will hit a four-year low in GDP growth. However, the investor sentiment is apparently unaffected by this. On Monday, the Sensex hit an all-time high of 34,356 while Nifty soared past 10,600.

What is sustaining, and driving, the mad rush at the markets? What exactly is the GDP growth/stock markets dynamic? Why are investors pumping up the stocks when a dash of caution should be the logical result of underwhelming economic growth projections? Or, is the booming market headed for a 2008-like crash as the doomsday theorists predict? Is some sort of a booby trap awaiting the euphoric and innocuous late entrants sold on the rise and rise of the stock market?

Or, are the markets rightly pacing away from the impact of the first-quarter GDP shocker, seeing it as a point of no return? The impact of the three-year low hit in the June-August quarter, when growth slumped to 5.7 percent, was alleviated in the next quarter when growth rate bounced back to 6.3 percent. However, was that enough cause for reassuring cheer?

If the second-quarter growth rate was a straw in the wind, the economy should have been on track to hit a growth rate of above 7 percent. While the second-quarter bounce-back gave rise to hopes that the economy was finally shunting out the effects of the demonetisation and GST implementation, the current outlook doesn't reflect that buoyancy. 

According to a recent Fitch Ratings report, India's growth rate in the next five years would be a moderate 6.7 percent.

There are no mysteries when healthy GDP growth rate or growth projections have a positive impact on the markets. The situation is a no-brainer. As the economy expands, corporate houses look to sell more of their products and services, resulting in higher profits and earnings per share. International fund managers also turn bullish on the country as they constantly look for "emerging" players.

But how do we explain the situation when the markets are seemingly unperturbed by the vexing predictions on the growth front?

There may, of course, not be a perfect correlation between the GDP growth figures and the market growth. In general, markets rise when the GDP figures and projections are optimistic and vice versa, though not always in the same proportion. 

Unfounded euphoria?

Indian investors, however, appear to be feisty and euphoric. The euphoria seems to be stemming from a whole gamut of economic and political spheres: The BJP's latest poll victories that negated the punditry's claims that demonetisation and GST impacts would stop the Modi-Shah combine on its tracks; the upcoming Budget 2018 that the middle classes look up to right in earnest for tax and other concessions and the like.

However, a clean, hard look at the fundamentals would stand the investor in good stead. Are the core sectors picking up steam? Is the bump-up in the real-estate sector sentiments here to stay? Are the rate cut hopes logical given the fact that inflation is creeping up and beyond the comfort zone?

Also to be seen in the context is the spike in crude prices seen for the first time in many years, in the aftermath of the Iranian political tensions. If crude inches higher it will strain the government's fiscal situation further, making it harder for it to chase any populist spending plan further.

Again, the budget season has returned with its generous doses of inane and absurd optimism. There are talks about it being a populist budget, that there will be tax soaps and other concessions. Too hard to come by, by all means indeed — direct taxpayers are after all the fall guys.

The worst may be over for the economy, coming out as it did from the depths of a crisis induced by the note ban and the teething troubles with GST. However, retail stock investors might do themselves a lot of good to tarry a little. The crest of the wave is tempting but latching on to it can be perilous.