Before the optimism over a possible US-China trade truce could sink in, global equity investors are staring at yet another crisis—a potential economic slowdown.
In the US, short-term yields trading above long-term rates have triggered fears of a recession among investors, which led to the Dow Jones Industrial Average tumbling more than 700 points on Tuesday. Consequently, the fear gauge, Chicago Board Options Exchange Volatility Index (Cboe VIX), spiked 26% to 20.74 (see chart).
Unnerved by these developments, equities in other developed and emerging markets took a knock on Wednesday. Some, such as the Hong Kong’s Hang Seng and Taiwan’s TAIEX, declined over 1%. Among the developed markets, key benchmark indices such as the UK’s FTSE, France’s CAC and Germany’s DAX lost close to 1% during the day.
In the backdrop of global monetary tightening and limited clarity on a resolution of the US-China trade conflict, an economic slowdown is the last thing that equity investors would want. Simply because, in the event of an economic slowdown, while safe-haven assets such as gold may shine brighter, equities would lose favour.
But according to some stock market experts, in the current scenario, it is high time that equity investors got acquainted with the reality of rising interest rates.
Tushar Pradhan, chief investment officer (India) at HSBC Global AMC, said: “The key theme for global equities right now is ‘back to reality’. Near-zero interest rates and inflation in developed markets have, for a long time, kept asset prices buoyant. That was not normal because, in reality, movement in interest rates and asset prices are correlated. So, the developments on interest rates that we are seeing now in the US are a kind of ‘back to reality’ for global equities.”
“The nature of returns in developed markets as seen in the past are changing. And the decline that we have seen in the US markets on Tuesday, is kind of a justification to our theme especially given the way US bond yields have moved and that has spooked investors. In short, the underlying reason for markets to be soft is the rising cost of capital, which we weren’t used to and any incremental development on this front may lead to larger than expected outcome that we have seen,” he added.
As for India, the Nifty ended the day’s session down 0.8% at 10,782.90 and NSE’s India VIX surged 1.56% to 18.39. Even though the quantum of the spike in India VIX is not much, with the forthcoming events, investors need to tread with caution.
The Lok Sabha election of 2019 and a revival in corporate earnings are two key factors for Indian equity investors.
India Inc.’s September quarter earnings were a mixed bag, with companies witnessing margin compression across the board. Bloomberg’s one-year forward consensus Nifty earnings per share estimates continued to decline, clouding the earnings outlook. But with oil prices easing and the rupee finding its feet, one would hope that input cost pressures would ease, aiding margins and boosting earnings.
Developments in the three events—US-China trade issues, oil prices and the national election—will determine the performance of the Indian stock market in the first half of 2019, with the national election being the most prominent driver, followed by oil prices, Kotak Institutional Equities said in a report on 3 December.
It further added that earnings will ultimately matter, but some of the above-mentioned events will also influence the expected 15% and 25% growth in net profit of the Nifty 50 index in FY19 and FY20, respectively.