Sensex: How long will the good times last?

As if wanting to be an antidote to the coronavirus pandemic, the Indian stock market adorned carnival robes in 2021 with a tsunami of liquidity unleashed by global central banks coupled with supportive domestic policies and the world's largest vaccination drive sparking off a world-beating rally on Dalal Street, despite bouts of uneasiness over fizzy valuations.

While the wider economy shuttled between recovery and relapse, dictated by multiple mutations of the virus, equity market benchmarks appeared headed in just one direction -- skywards.

The dizzying upward journey has added a whopping Rs 72 lakh crore during 2021 to investors' wealth, measured as the cumulative value of all listed shares in the country, taking it to nearly Rs 260 lakh crore.

The BSE Sensex made history this year by breaching the 50,000-mark for the first time ever, and went on to scale the 60,000 level within the next seven months.

It closed at its lifetime high of 61,765.59 on October 18.

Despite the year-end gyrations due to the Omicron threat, the 30-share benchmark has posted returns of nearly 20 per cent so far this year, eclipsing most of its global peers.

However, Sensex is also the most expensive large market in the world, trading at a price-to-earnings ratio of 27.11.

This means investors are paying Rs 27.11 for every rupee of future earnings of the 30 Sensex firms, compared to its previous 20-year average of 19.80.

But, the Indian market is not the only one witnessing such exuberance.

Global central banks, led by the US Federal Reserve, have pumped in trillions of dollars into the financial markets since the onset of the pandemic to boost liquidity and prop up growth.

The US Fed has been buying bonds worth $120 every month for the past one-and-a-half years, nearly doubling its balance sheet to an astounding $8.3 trillion.

This unprecedented sea of liquidity has induced what experts have termed the 'everything bubble' -– an across-the-board increase in asset prices, be it stocks, real estate or commodities, not to mention more exotic instruments like crypto-currencies and non-fungible tokens (NFTs).

Back home, the government and the RBI worked in tandem to reignite the animal spirit of the pandemic-battered economy.

The Reserve Bank has kept the policy rate at an all-time low of 4 per cent since May last year, while reiterating its commitment to maintaining an accommodative stance as long as required.

The Centre unleashed a slew of big bang reforms, including production-linked incentive schemes for multiple sectors, a Rs 100 lakh-crore PM Gati Shakti Master Plan for infrastructure development and an ambitious asset monetisation pipeline, among various other measures.

All this played out amid a colossal vaccination drive which enabled the reopening of the economy after the shock of COVID-19 lockdowns.

"The year started on a wave of optimism with the start of the vaccination program and the sharp revival of the economy.

"However, the intensity of the second wave tempered some of this initial optimism.

"This was soon followed by the return of inflation, led primarily by supply chain disruptions," said Nitin Raheja, executive director, head - discretionary equities, Julius Baer.

However, strong commitment on the part of central banks, both globally and domestically, towards ensuring strong revival in growth through the continuation of easy money policies saw liquidity remaining benign, fuelling strong inflows into financial markets and other risky assets, he noted.

"Multi-year low-interest rates, new generation reforms, adequate availability of capital and the revival of the real estate sector have created the framework for a multi-year earnings growth cycle," Raheja added.

Despite all these factors in favour, the market has a habit of teaching some very old lessons to some very new investors.

One such lesson was that valuations and fundamentals matter -- as evidenced by the disastrous market debut of Paytm.

The Rs 18,300-crore IPO, India's largest, was one of the most hyped listings in recent times and a major milestone in the country's startup ecosystem.

However, the stock crashed 27 per cent on the very first day, and continued sinking in subsequent sessions.

Currently trading in the range of Rs 1,360, the stock is yet to touch its issue price of Rs 2,150.

That apart, the coronavirus remains an unpredictable adversary for investors worldwide.

Just when countries had started reopening and the global economy was getting back on track, the highly-contagious Omicron variant emerged, triggering a fresh wave of cases and border restrictions.

With soaring inflation playing havoc with economies the world over, central banks too have started to dial back their stimulus measures.

The Fed has already begun tapering its bond-buying, and will wind down the quantitative easing program by early next year, to be followed by rate hikes.

The Bank of England earlier this month became the first major central bank to raise interest rates since the onset of the pandemic.

The tightening of ultra-loose monetary policies has subsequently led to a flight of foreign capital from emerging markets, including India.

After being net investors for the most part of the year, FPIs have been on a selling spree since October, offloading shares worth Rs 37,320 crore (as of December 24).

The relentless selling pressure, however, has been partially offset by a growing force in the domestic financial landscape – the retail investor.

Inflows from systematic investment plans (SIPs) crossed the Rs 1 lakh crore mark for the first time this year, as per data from the Association of Mutual Funds in India (AMFI).

Individual investors hold a higher share of the MF industry assets (54.9 per cent in November 2021, compared to 51.5 per cent in the same month last year).

Not only that, 77 per cent of individual investor assets are held in equity-oriented schemes.

Investors are not shying away from direct participation in the equity markets as well.

While the number of demat accounts stood at 4.09 crore at the end of 2019-20 and 5.51 crore in 2020-21, the figure has already swelled to 7.38 crore this fiscal so far (as of October 31, 2021).

"The aftermath of the world's biggest ever easy monetary policy and fiscal expenditure made equities attractive, and the equity market benefited even more as the economy re-opened. Increased money inflows in the financial system bought foreign money to emerging markets.

"The cascading effect of profits bought retail investors to the equity market, a global affair. Indirectly, pandemic did help some Indian economy sectors like IT, healthcare and exporters, (which) benefited from digitalisation and global demand," said Vinod Nair, head of research at Geojit Financial Services.

Adhering to the adage of making hay while the sun shines, India Inc too piled into the capital market with initial public offers (IPOs), raising a record-shattering Rs 1.18 lakh crore from over 60 issues.

The Street saw more initial share sales in 2021 than in the year past three years combined, both in terms of the number of listings and the amount raised.

With such high spirits all around, many market participants are asking themselves an uncomfortable question –- how long will the good times last?

Most brokerages expect Sensex to post tepid returns in 2022, weighed by the already stretched valuations, hawkish central banks and an uncertain global recovery.

The looming threat of Omicron setting off another wave of the pandemic is the biggest short-term risk.

But faith in the underlying India story remains intact.

"We think strong growth forecast in the medium term should support the valuations.

"We like the stability of macroeconomic parameters that should support consumption and investments, leading to continued earnings estimate upgrades," analysts at BNP Paribas said earlier this month.

The party, it seems, for now, is destined to carry on.

Photograph: Danish Siddiqui/Reuters