What Are Stock Market Headwinds?

Over the past two months, share prices have witnessed an upswing. A recent Kotak Securities report describes the rally as a ‘relief’ rally. This is because the stock market faces a few headwinds. These are challenges to a further rise in share prices. The parlance is of a plane moving ahead that slows because of headwinds and goes rapidly because of tailwinds.

Here’s a look at the three key headwinds for stock markets:

• Corporate Profitability:

Stock markets are essentially concerned with how companies perform financially. When a company makes profit, investors cheer. The reverse too holds true. For the quarter to September 2013, companies have reported better than expected results. However, analysts advise caution. Companies have reported better profit margins on the back of a fall in raw material prices. However, analysts would like to see sustainability of these profit margins. “We believe earnings may have bottomed out but we would watch for the sustainability of the factors (gross margin expansion from lower raw material costs and cost control) that contributed to the positive beat,” Kotak Securities said in a note. Analysts foresee recovery to be slow in the near future. This could be a major headwind for the stock markets.

• Economic Slowdown:

Companies do not function in a vacuum. They are affected by the overall macro-economic environment in a country. India’s economy has recently grown at a decade-low pace of 5%. This is down from its peak growth of 9% in 2009. This is likely to continue in the current fiscal too, with analysts bringing down their growth estimates to 5%-levels. There are a lot of factors behind this like wide fiscal and current account deficits – the amount the government and the nation owes respectively, regulatory hurdles dampening investment activity, rupee depreciation, and persistently high inflation. This has forced the Reserve Bank of India to keep interest rates high. This impacts companies directly by making borrowing costly.

It is largely expected that, inflation will remain high over the next few months. This reduces the chances of an interest rate cut. On the other hand, the government is frantically trying to cut fiscal and current account deficits, which in turn, could strengthen the rupee. Nevertheless, negative risk factors remain.

• Political Uncertainty:

India is heading for elections next year. This means the government will have to walk the tight rope between economic prudence and vote-winning policies that may increase government expenditure. Elections also mean that a new government could undo existing policies. For this reason, a lot of companies prefer to postpone new investment projects. This further affects corporate profitability and overall sentiment.

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