Lack of liquidity is cause of meltdown in global equities

In the last three weeks, the domestic equity market lost little more than Rs 11 lakh crore of values. By yesterday, the market recovered to some extent, still about Rs 7.50 lakh crore of total value is lost. Both Dow Jones Industrial Average of the US and the Sensex fell about 2,000 points from their historic peaks. Many domestic investors are worried not only about this extreme market volatility but also about the global economic conditions as massive falls in the domestic market followed closely steep declines in the US markets. After ten years, there is renewed fear of 2008 meltdown in the global economy and equity markets.

However, the global economic cues remain firm – there are no visible concerns to the economic conditions at present. Recently, the IMF revised up its forecast for world economic growth to 3.9% for both 2018 and 2019. The US economy is on track to grow at a 4.2% annualized rate in the first quarter of 2018. The euro-area economy grew by 2.5% in 2017, the fastest since 2008.

Japan closed out its best year for exports since the last financial crisis and its industrial output grew in December at the fastest pace in eight months, pointing to a solid growth in GDP. China’s growth for the 2017 full year picked up to 6.9% year-on-year, the first annual acceleration for the economy since 2010. Oil economies also improved their economic conditions, thanks to more than 100% jump in oil prices since 2016 bottom levels.

The global fear of rising bond yields is also overdone – the equity markets, which are always supposed to discount the future, have got the solid signs of rate hike proposals by the US Fed and also by a consistent rise in oil prices since mid-2017. Fortunately, the meltdown in the global equities has brought down the oil prices as much as 12% from their peak prices in a matter of few weeks. Such significant fall in oil price is likely to moderate the inflation expectations quickly.

It is only the super rich valuation of many stocks or some equity markets in the world which brought down the global equities. While 2017 reportedly added $9 trillion of market cap, early 2018 added another $2 trillion of market cap to the global equities. This cumulative incremental market cap (about $11 trillion) is about five times India’s GDP or almost as big as China’s GDP! Thus, sharp build up in the market cap which brought down the markets due to lack of proportionate liquidity support, rather than any sign of potential crisis from the global economic conditions.

On the domestic front, uncertainties arising from monsoon forecast, state elections and possibly early Lok Sabha elections, coupled with lack of adequate liquidity could create a few more shocks to the equity markets especially to small and mid-cap stocks before the end of 2018. Hence, the retail investors should play safe by not compromising on the valuation of individual stocks, instead of worrying about the global economic conditions. Long-term outlook of the Indian markets remains promising.

The writer is founder & managing director, Equinomics Research & Advisory Pvt Ltd