The year 2017 was no doubt a great one for investors in general and good stock pickers in particular. With both Nifty and Sensex delivering close to 30%, it was one of the best years since 2009.
Here are two graphs that further highlight an interesting point:
The 1st graph shows the fresh YTD (Year-To-Date) highs that Nifty kept making throughout the year. The green line is the Rolling-Year-High figure while the blue line depicts the actual Nifty movement. The 2nd graph indicates the Nifty nosedive from these year high figures before recovering again. And if you note, the maximum drawdown from the rolling year high is less than 4.5%. This means that Nifty did not slump more than 4.5% from the highs it was making!
To sum this up, the Indian indices cruise in the year 2017 was sailing smooth and unabated.
The index of mid-and small-caps did even better with several cases of eye-popping returns generated by the individual stocks.
Such a performance has obviously set the bar high as far as expectations for 2018 are concerned. And many large brokerage houses are forecasting that the bull-run might just continue in 2018 as well on the back of a supportive global economy and recovery in the corporate earnings.
But we are able to spot few other indications that helps us to deduce that 2018 will be an eventful year for the Indian stock markets.
Union Budget - The upcoming Union Budget was the last full budget of the current NDA government before the next general elections. So the expectation among various sectors was high. Walking the precarious line between fiscal prudence and populism, FM Jaitley has deftly structured the Budget around ‘Consolidation’ of various reforms that have seen the light of the day, under the leadership of PM Modi. The budget, on a broader level, was along the expected lines. The emphasis was expected to be on agriculture, rural and boosting farm incomes and that, in fact, turned out to be the central theme.
Rationalization of tax structures across asset classes: India now joins other world markets in instituting a 10% long-term tax on equities, notably, the existing capital gains will be grandfathered, and the newly instituted long-term tax will be applied only on a going-forward basis starting 01-Feb-18. This move may have startled the stock markets for a short time, we strongly feel that the corrections the stock markets witnessed is only a knee-jerk reaction. Long-term investors would carefully deploy the funds and it will not abrade the inflows in the equities in a long run, given the fact the equity is still among the lowest taxed investment avenue in our country.
Crude Oil Prices - Crude oil has slowly faded away from the prominence it held in economic discussions till just a few years ago. Reason being its continued low price trend. But what is worth noting is that there has been a rally in the oil prices in 2017 and the prices have risen above $65 a barrel ($70+ now) for the first time since 2015. Indian economy is heavily dependent on crude oil imports. So any price spike could drastically impact government finances and put inflationary pressure on various sectors. But the oil threat is still manageable to an extent. The real problem would begin if prices cross $100. Also, any negative geopolitical event can send the prices up suddenly. This can be a key risk for the markets in 2018.
US Fed’s Stance - The US Federal Reserve has already begun tightening its monetary policy. And as per Fed commentary, this is expected to continue even in 2018. The practical assumption is that a tighter US monetary policy hurts portfolio inflows into emerging markets like India. Is this a reason to panic? Not so much like in past. But it can play some role no doubt. Also, there is almost zero probability of a sudden stop in this flow. There is another factor that sets off this risk to an extent - domestic liquidity support (discussed below).
Financialization of Savings - This has come as a big surprise for many. Thanks to the dedicated flow of money into mutual funds each month (via SIPs), the continued support received by the market from domestic entities has been very strong. To be fair, this has been a game changer for last one and a half years. Fortunately for markets, this trend is expected to continue not just in 2018 but in future too. Going forward, $10-20 billion per annum of incremental flows into equity markets from domestic retail investors (via MFs) will become a norm. The numbers might seem large but that’s because of the abysmally low savings historically flowing into equity from retail investors. The unprecedented retail money coming into the market is seemingly creating a floor for the market.
Earnings Recovery - Markets have been waiting patiently for the real earnings recovery. This fact combined with a run-up in prices has pushed stock market much above long-term average valuations. So naturally, a large number of market participants are concerned about valuations. More so in mid and small cap space. In words of Mr. Uday Kotak, “organized savings are chasing a limited supply of stocks” now and that has been a big reason for the surge in valuations. So the corporate earnings growth will be a crucial thing to watch out for in 2018 and may define market’s trajectory.
State Elections – Financial markets are quite sensitive to the electoral cycle. In a run-up to the general elections, 2018 will see a string of state elections in Nagaland, Tripura, Meghalaya, Karnataka, Chhattisgarh, Madhya Pradesh, Rajasthan and Mizoram. How the BJP-led NDA fares in these states will influence market’s mood as it inches closer to the 2019 general elections.
As you might have guessed by now, it does seem that 2018 may not be a non-volatile year like 2017. Though overall investor’s sentiment is positive and is expected to remain so, risks are also not ignorable.
There is another thing - we need to remember that in hindsight, every year in the past has been an eventful year for one reason or the other. Sometimes due to domestic reasons and at other times due to global ones. And this will continue to happen in future too.
But despite all these past ‘eventful’ years, the markets have chugged along on an upward growth trajectory and have done exceedingly well in the long term. And there have been hundreds of companies which have grown multi-fold in last few years.
The role of macro factors on the stock markets cannot be underplayed, however the truth remains that they are beyond our control. We continue to believe that one should choose (and invest) in fundamentally strong businesses having strong growth prospects and run by ethical and capable management.
We recommend investors to remain invested and maintain a disciplined investing strategy with long-term pursuit of wealth creation and not be dejected by a meagre 10% LTCG. And once chosen, one should remain invested in them for the long term until the fundamental thesis is broken. This is the real “Wealth Creation” secret which is known almost to everyone but unfortunately, very few follow.