Our advisory desks have been talking about stock market buoyancy right since April 2020 though of course the magnitude of moves was uncertain given the virus crisis. A substantial part of the banking rally has happened – leading Nifty much higher. But in recent days, the Index has started to struggle a little and therefore the question on top of everyones minds – what happens next!
A Robust Recovery
Nifty is again trading at almost 89% levels on the Buffet Indicator (Market Cap to GDP) and apparently stretched on valuations as earnings are yet to back the optimism. However, and as is well understood now by most, markets are about the future and not the past! If the rally were a narrow one, there would have been genuine concerns but this one has been a very robust one – powered by low interest rates, quick adoption to remote work from home technologies, extended FII flows and as of now, relatively better Corona outcomes than the doomsday scenarios earlier envisaged– with almost all A/B group stocks way above their 20th March 2020 prices.
Even in the last two weeks, almost 80% plus of Nifty Midcap /SmallCap index components are trading above their 200 DMAs (Daily Moving Averages) which is much higher compared to earlier readings.
The Bank Nifty, which has recovered sharply but has only retraced 50% of its losses versus the overall markets (It was trading at 2.6 times the Nifty before the Corona crisis and fell to about 1.95x – currently at 2.25x or so) and has much more steam therefore. Technically, while the likes of Kotak Bank and HDFC Bank have done very well, the fact is that the PSU Bank index is just about recovering from its bear market – and to that extent a large upside exists in that space which will keep the Bank Nifty robust.
While the next couple of weeks may be weakish, the bank Nifty actually may surprise on the upside. Many therefore believe there will be a breather in the immediate weeks to cool off the overbought situation and then this will pave the way for the up move towards higher potential targets of 13200 -13400 by December end as per market commentators.
Many Reasons for Rally
The US Elections
Tax increases that were expected for both individuals and corporations under full Democratic control now appear far less likely. And though tax hikes may yet be attempted later in the new administration as the focus shifts away from pandemic recovery, any such proposals are likely to be resisted by a Republican Senate. Similarly, the likelihood of major new regulatory measures for the corporate sector also seems lower than would have been the case under complete Democratic leadership.
The past four years have brought increases in trade barriers between the U.S. and the rest of the world through new tariffs and export restrictions, as well as withdrawal from a series of multilateral agreements such as the Paris Agreement on climate, the Trans-Pacific Partnership (TPP) and the Iran nuclear deal. Under a new administration, the U.S. should, however, take a more cooperative approach to foreign policy. This could potentially include a rollback of tariffs imposed on allied markets such as Canada, Mexico and the European Union (EU), recertification of the Iran deal, and a possible rejoining of the revamped TPP as a more multilateralist response to China’s rise.
Easier relations with emerging markets and their European counterparts and possibly more stimulus is also leading to general expectations of a weaker dollar into 2021. This is supportive of EMs.
(Some may also hope that having Kamala Harris will sort of reduce the earlier relatively colder Democrat outlook towards India?)
Surprisingly Stable EPS in S&P 500
The S&P 500 EPS growth came out looking weak during Q32020. However, If one were to exclude three industries in the US markets – Oil, Gas, & Consumable Fuels industry, the Airlines industry, and the Hotels, Restaurants, & Leisure industry-, the EPS Growth on a YOY basis is +4% plus versus the decline of -6.3% actualy reported!
Even the S&P Consumer Discretionary sector reported a year-over-year decline in earnings of -4.2% for the third quarter. However, only three of the 10 industries in this sector were weak – led by the Hotels, Restaurants, & Leisure. The other seven industries in this sector are reporting double-digit (year-over-year) earnings growth, led by the Automobiles (74%), Multiline Retail (65%), and Internet & Direct Marketing Retail (45%) industries. If the Hotels, Restaurants, & Leisure industry were excluded, the Consumer Discretionary sector would be reporting year-over-year earnings growth of 36.0% for the third quarter rather than a year-over-year decline in earnings of -4.2%!
It is interesting to note that analysts believe all three industries will see year-over-year improvements in dollar-level earnings in 2021 relative to 2020 thus pushing the indices much higher. Some US Research houses believe a 10%-30% higher level on the S&P 500 is not ruled out during 2021!
Lead Indicators Recovering
A recent BofA Global Research Global Wave report titled “Powerful Upturn in the Global Wave” notes that, over the last month, all seven components of the Global Wave Indicator improved. Importantly, the early moving components improved the most, including the global earnings revision ratio, global industrial confidence and global consumer confidence (which improved in 60% of countries despite falling in Europe, according to the report). In the U.S., early leading indicators are confirming this positive outlook. The October Institute for Supply Management (ISM) manufacturing survey registered its strongest new orders reading since 2004, when a major global expansion was in the early stages.
And, the Vaccine!
The race for a COVID-19 vaccine is set to touch the finish line next month with the first batch of recipients getting the dose in December itself. If both Pfizer and Moderna get the emergency use authorization (EUA) from the US government, they will be in a position to supply around 60 million doses in the country in December this year. According to officials, US states are ready for the distribution at a 24-hour notice.
However, internationally, it is the vaccine developed by the University of Oxford and AstraZeneca that is inviting more attention due to its size and geographic spread. Here too, AstraZeneca says “billions of doses” of the candidate are already being produced with the late-stage trial data release expected by December.
In addition, the COVAX facility, set up by the WHO and the GAVI alliance, has managed to exceed the initial target of raising $2 billion to buy vaccine for poorer countries. The alliance said the collection would allow it to buy one billion doses for 92 countries. This could be a potential game changer.
If the vaccine succeeds in at least controlling the spread, there is the underlying potential for a massive and synchronized global expansion, which benefits non-U.S. equities, as they tend to be more cyclical and value oriented. The recent outperformance of the Japanese stock market is a good example of this. Japan tends to be highly leveraged to pickups in global growth like we are seeing now. On this score, the economic data around the world remains encouraging despite the sharp acceleration in coronavirus cases.
We have all talked about the 2020s being the decade of massive Equity rallies after a failed 2010s – this stress has led to tremendous austerity, better financial planning, more cash, and now thanks to Corona, more streamlined supply chains. The Chinese domestic rationalistion of demand and the European crises mostly overcome, a boost from the vaccine could trigger what may eventually be the rally during this decade that many generations may remember!
In the boringly relevant short term, however, given that there may be a third wave of the virus on its way and fatigue, it is advisable to again buy 12000 level Nifty Puts – as we advised in February 2020 and worked out very well – and stay hedged.
Welcome to the 2020s- a decade that we may never forget!
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