We all know that the stock market movements can have a major impact on the individuals and the economies. For a developing economy like India trading with a developed economy like the US can be of both gloom and woes. So, let’s look at how movements in the US stock markets could influence the Indian stock market and thus worry Indians!
A report published by the World Bank in 2017 stated that the Indian economy was ranked as the 6th largest economy in the world, and it is expected to see a steady growth of 7.6% in 2019-20 thus becoming the 4th or the 5th largest economy in the world. This shows that India continues to be one of the fastest growing major economy in the world.
Indian companies are getting involved in exporting their products to global markets and raising funds by getting listed on the foreign stock exchanges such as the London Stock Exchange, NYSE, and NASDAQ.
In the last few years, the Indian market has witnessed large fund inflows from across the world. Most of these foreign funds come from large momentum players and their activity in the market might result in volatility in stock markets.
Global economic trends affect the stock markets in many ways. For example, in the case of a global recession, companies are not able to sell as many goods overseas as they used to.
This decrease in revenue can also impact the stock markets. So, even if the foreign exchange fails to plunge, it could still lead to investors in anticipating a fall in the currency, which would create a ripple effect. This will result in a drop in the country’s stock exchange.
In the era of globalisation, the crash of any market can have a global impact. With any crash, investors start feeling insecure and nervous and that will have an effect on other markets.
With the advent of globalisation, the world has become a single economy. The financial markets across the globe work in sync. We are connected with the world through various businesses. Therefore, every company is connected directly or indirectly to another company to fulfill their own business purpose.
For that matter, US economy is the largest economy in the world. Whenever we see any negative news triggered from the US markets, it could largely affect the global markets, especially in the short term.
For a clear view, let’s take the example of the Crash of Housing Market in 2008 that influenced almost every country’s economy. The collapse of the housing bubble in the US was a global phenomenon, with real estate prices down from the Irish, Spanish coast to Baltic and even in parts of northern India. The stock markets went down sharply and also the overall housing price started to drop, which created huge tension around the world.
If we look at the equity markets, it can be impacted by several factors like the flow of information, news, events, natural phenomena, economic aspects and other factors.
Some of these factors could include: a news related to the economic recession in the US, the rise in the global price of commodities, speculation over interest rates cut by the FED, and fluctuation in global crude oil prices. These are some prime reasons why the Indian stock market could turn volatile.
Here is a quick look at the factors that affect the Indian stock markets.
The correlation between the US Fed hiking interest rates and the Indian market is negative. This means that every time there is a Fed rate hike, the Indian market will take a hit negatively.
Another reason why the rate hike turns the market down is that the US treasuries will become attractive and will strengthen the US dollar. Indian rupee will weaken and this could impact the credit ratings. Also, the trade deficit will widen as a weak rupee will make imports costlier.
The markets react negatively to a Fed rate hike because, with a rate hike, investors will prefer to invest in a developed country rather than in a developing nation.
In order to understand this, you need to understand the link between currency and interest rates. In general, developing country like India has higher inflation and higher interest rates than developed countries like the US and Europe. For instance, the inflation in India right now is around 5%, and the interest rates are around 7–8%, whereas both inflation and interest rates in the US are close to 1-1.5% .
Therefore, a lot of financial institutions borrow money in the US at low-interest rates in dollar terms and then invest that money in government bonds of developing nations in local currency terms to earn higher interest.
Even after taking into account the depreciation of the local currency due to higher inflation, the investors still earn more by just keeping their money in the US bonds.
Historically, the US elections have always been a major global factor that has an impact on the markets of other countries. In the short-term, Presidential elections may strengthen the US Dollar, leading to a sharp depreciation of the rupee. In 2012, when US equities fell, the dollar rallied 0.50% in the week after the polls. The rupee went down to 0.55% in that period. It not only hit rupee badly, but it also increased global risk aversion.
Similarly, in 2008, the S&P 500 fell 10.6% in the week after the poll, the dollar rallied 2.8% and the rupee declined by 0.84%.
However, these are short-term effects as the sharp fall in the stock market would provide an investment opportunity to the long-term investors. Moreover, owing to India’s strategic position in the world economy, growth prospects and also huge domestic demand momentum, it would be less vulnerable to long-term impact.
If we look at the financial crisis of 2008, a negative correlation was observed between both the gold price and bond. Stocks are a riskier instrument than gold and bonds. Many investors consider these options as a safe investment haven. Till 2008, there was a rise in the gold price; subsequently, the equity markets recovered, and the returns from gold remained stable after 2008.
Although stock prices showed an upward trend in the coming years, investors preferred gold and bonds during uncertainties. So, in major events like the US presidential election, investors tend to flock towards safe havens.
These can be two extreme situations when the markets react to nationwide panic. Remember the epic market crash during the recession of 2008? A recession is a slowdown in the economic growth of the country. It can have different outcomes such as an increase in unemployment, companies generating low revenues, low profits, and weak growth. So, when companies' business suffers, their stock price suffers too, which has a negative impact on the entire stock market.
Many investors have made a huge corpus by investing in the stock markets. Irrespective of the impact of the global indices on your wealth, make sure that you safeguard your investments. Investment strategies like long-term plans, adherence to fundamentals, knowledge, and updates can make help you to overcome from short-term pitfalls.
0 people liked this article.