SynopsisThe Reserve Bank of India has already flagged adverse fallouts of inflated financial asset prices. The central bank has already proposed a lending cap for non-banking financial companies (NBFCs) for initial public offer (IPO) subscriptions.
Mumbai: Investors have been cheering the record high levels of equity indices, but this seems to be increasing the worries of policy makers at the Reserve Bank of India (RBI), which has already flagged adverse fallouts of inflated financial asset prices.
Unprecedented fund flows into equity mutual funds, rising amount of share demat accounts, and a surge in the portion of retail trading through discount brokerages are all making some experts fear that equities may have reached unsustainable valuations.
The central bank has already proposed a lending cap for non-banking financial companies (NBFCs) for initial public offer (IPO) subscriptions.
RBI governor Shaktikanta Das, in a speech last week, highlighted the widening disparities in income amid less-than broader economic recovery that has pushed many small enterprises out of business and left many jobless.
This reflected the central bank’s concerns about uneven progress and possible impact of a stock market correction on small investors.
“What is happening in the stock market must be a matter of concern for the central bank as they track the various pillars of the economy and markets,” said Joydeep Sen, a consultant at brokerage Phillips Capital and a former foreign banker.
“Particularly, the number of small investors joining the party has to be seen from the perspective whether they have seen market cycles earlier and whether they are aware of potential volatility and investment horizon required,” he said.
Benchmark indices had last week touched a record high on the back of optimism that economic expansion is gathering pace and that corporate earnings would also grow. Mutual funds are witnessing record fund flows and even global portfolio investors have been pouring in funds even as they pull out from some other emerging markets. The clampdown of tech companies in China and the burst of the real estate bubble is driving more funds into India.
Governor Das as well as the RBI’s Financial Stability Report have raised red flags about the froth in the financial markets.
Last year, when the BSE Sensex was around 38,000, Das had said, “There is so much liquidity in the system, in the global economy, that’s why the stock market is very buoyant and it is definitely disconnected with the real economy. It will certainly witness correction in the future. But when the correction will take place, it is hard to predict.”
Last week, the Sensex touched 60,000, and the correction he talked about has not happened.
The broadly tracked Nifty is trading at 22 times forward year earnings, a 40% premium to its historical average. As per the estimates of investment bank Jefferies, in the past year, Nifty outperformed the emerging markets indices by 33 percentage points and its PE ratio is at a 76% premium.
“Sensex has turned out to be a perceived barometer for the economy, luring people with its outstanding return potential,” said Madan Sabnavis, chief economist at Care Ratings. “Retail investors are desperate for higher returns on savings when traditional bank deposits are at record low. Inflation is pinching further.”
This calendar year, there were 39 initial public offers aggregating Rs 74,363.39 crore, shows ETIG Data. Many of those share sales subscribed multiple times with Zomato’s offer for Rs. 9,375 crores getting bids 38.26 times higher. The central bank has proposed a cap of Rs 1 crore lending by NBFCs for IPO subscriptions.
“The unbridled stock market rally looks very frothy,” said Sanjiv Bhasin, director at IIFL Securities. “Valuations are extremely stretched as the fear of missing out, prompting both retail and select institutional investors to buy. Risk-reward is unfavourable for any investor betting new.”
Although the central bank hasn’t publicly cautioned about stock market levels, governor Das has talked about rising inequality.
“Daily wage earners, service and informal sector workers were badly hit. Their employment and income opportunities were curtailed,” he said last week. “The lasting damage inflicted by the pandemic on these segments is of serious concern for inclusive growth. In the medium-to-long-run, both efficiency and equity will greatly matter for sustainable growth and macroeconomic performance,” he said.
According to independent research house QuantEco Research, approximately 320 top-ranked companies (basis assets and turnover) have shown an annualised sales growth of 17.6% on an average over the last four quarters while 320 bottom-ranked companies saw their sales decline 53.3% on an average during the same period.
“This broadly underscores the inequality in performance of the non-financial corporate sector and points towards an underlying shift in market share and structure,” said Vivek Kumar, an economist at QuantEco Research.
During the same period, the wage bill for the same sets of companies have shown an annualised growth of 6.1% and decline of 39.6%, respectively, on an average.
The RBI’s Financial Stability Report (FSR) in its July edition had flagged concerns about asset price inflation.
“Monetary and fiscal stimulus and regulatory relief have engendered generally benign financial conditions globally,” FSR had said. “Accordingly, financial markets have extended gains with intermittent corrections. This has stretched equity valuations, with market based inflation expectations pushing up bond yields, and as capital flows cautiously return to emerging market economies (EMEs) on the tailwinds of rekindled risk appetite.”
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