Dated 15th June 2021, NIFTY touched an all-time high of 15900 but RBI (Reserve Bank Of India) warns retail investors of the bubble that is being created by the stock market. The pandemic has led many people to lose their jobs, businesses and the Indian economy is suffering from a negative growth rate.
The Reserve Bank of India (RBI) warned about a possible stock market bubble in its annual report for FY21. The central bank’s statement comes on the back of domestic stock markets kissing record highs even as India’s economy continues to face disturbance due to the second wave of the Covid-19 scenario.
Anyone who has followed the share market knows how much returns NIFTY and other options have given. NIFTY Bank has given 76% returns in the past year. All the shares of Adani Group have given multifold returns during the lockdown time, the bubble has filled so much that Adani Group Fraud News is spreading across channels.
The strengthened stock market performance is a stark contrast to real economic growth, which has suffered due to localised lockdowns imposed by most states during the second wave. Many economic indicators have also taken a big bump during the second wave, though the situation is not as bad as the first wave.
According to market indices & NIFTY touching new levels every day, there is a disconnect between the share market and the Indian economy that is hard to establish. Should retail investors be worried?
NIFTY Touches All Time High. Is It The Real Stock Market Bubble?
In the financial term or stock market, a stock market bubble refers to a situation where stock price, financial asset, an asset class or an entire sector exceeds the actual fundamental value by a big or huge margin.
Share market bubbles are generally hard to predict, especially for those who do not track the market in-depth on a regular basis.
There are usually 5 stages to a financial or asset bubble and understanding each stage is essential to avoid wealth evaporation. The 5 positions are displacement, boom, euphoria, profit-booking, and panic.
Classically speaking, the bubble is created on the basis of speculative optimism or the market demand, rather than the financial asset’s actual and fundamental worth. When the stock market bubble bursts, it leads to huge sell-offs and prices steep rapidly.
The famous housing bubble in 2008 that led to a severe world level recession is one of the biggest examples, though there have been smaller instances in the past as well.
A stock market bubble usually involves inflated share prices that are often way higher than their company’s fundamental value including earnings and assets. The stock bubble can include the overall stock market, exchange-traded funds (ETFs), or single shares in a particular sector.
Is The Indian Stock Market In A Financial Bubble?
As reported by the Reserve Bank of India (RBI), prices of high risk assets have surged across many countries and have reached record high levels during 2020-21 on the back of unparalleled levels of monetary and fiscal stimulus.
The central bank said the turn in market sentiments “following positive news on the development of and access to vaccines and the end of uncertainty surrounding US election results” were some of the major factors that led to rosen valuation of global equities.
“The widening gap between stretched asset prices relative to prospects for recovery in real economic activity, however, emerged as a global policy concern,” RBI added.
RBI further said, “This order of asset price inflation in the context of the estimated 8 percent contraction in GDP in 2020-21 poses the risk of a bubble.”
As it is very difficult to say whether the share market is in a bubble at the moment, the retail-investors should be aware that inflated valuations are currently visible in stock markets across the globe.
Why Indian Markets (BSE-NSE) Are Increasing So Rapidly?
The central bank highlighted that the amount of liquidity that has been powered to aid global economic recovery could have “unintended consequences” in the form of increasing asset prices.
“Providing a reason that liquidity support cannot be expected to be unrestrained and indefinite and may require calibrated unwinding once the pandemic waves are flattened and the real economy is firmly on the recovery path,” the RBI said.
“Even considering the above expectations of earnings growth of the corporates, the stock prices cannot be explained by fundamentals alone. Present valuations, as in the past, are supported by improved corporate earnings. This part of Sensex increase can be seen as a rational trend,” the central bank added.
The RBI noted that the changes of the actual price-to-earnings trends shows that the ratio is highly overvalued, while measures of dividend yield also signal that markets are getting “overpriced”.
While RBI has expressed the concern about inflated share market prices, the RBI also highlighted many other factors that have contributed to the rising share prices including high FPI inflow. The equity market has got a net FPI inflow of Rs 2.8 lakh crore in 2020-21.
Another reason behind higher stock prices could be the steep rise in direct participation of retail investors, with over 1.42 crore Demat accounts opened during 2020-21.
Besides increased activity, the resource mobilisation through initial public offers (IPOs), follow-on public offers (FPOs) and rights issues increased by 43.1 per cent to Rs 1.1 lakh crore during 2020-21 from Rs 76,965 crore in the previous year.
Though the Reserve Bank of India has given a fresh warning about a share market bubble, it said “future financial market movements would be guided by the progress made in containing the pandemic, the pace of recovery of global and domestic economies, and developments in global liquidity and financial conditions.”
Should Indian Retail Investors Be Worried About Their Future?
At the current scenario, the Indian stock market seems to be rising rapidly after a period of pause during the second covid-19 wave.
Though minor corrections can be expected this year, depending on the developing Covid-19 situation, market advisors are optimistic about the long-term performance of the domestic equity markets in India.
A recent report, based on a poll of analysts, suggested that the Sensex will increase the record high it hit in the same year in Feb by the end of 2021. The poll of more than 30 equity advisors saw Sensex adding another five per cent and hitting a record of 53,200 by the end of this year.
It may be noted that Sensex is forecast to rise over 54,000 by mid-2022, indicating that the stock market is likely to remain positive, unless it faces an unprecedented shock, which could break the positive performance and lower sentiment
CA Rudramurthy, director at Vachana Investments, told the venture guide that “the equity market always discounts what today’s fundamentals are and instead looks at what it might be for the three to six months down the line.”
“But trading will be more selective this year than in 2020, when it was more speculative and you could buy any stock and prices just kept rising – that bit is done,” Rudramurthy added.
Most analysts who participated in the poll feel that the risk to the Indian stock market from the second Covid-19 wave is very low.
“All the bad news from the Covid-19 second wave is done and dusted and is already discounted in stock prices. Even if the expected third wave hits, it wouldn’t be a new situation,” Rudramurthy said.
The Venture Guide concludes all this research & statements are provided as the best information to the retail investors & avid readers. Happy investing!