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How real is the rally?

Aarati Krishnan
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Beginning of a new bull market? — Paul Noronha
Beginning of a new bull market? — Paul Noronha

Doing one of its unexpected about-turns, the Indian stock market has bounced up by 12 per cent already this year. Investors tuned in to the gloomy news on every front — the economy, corporate profits and policy — may have missed it entirely.

But this rally has featured some spectacular gainers. Nearly 200 NSE-listed stocks have already zoomed by 50 per cent or more in the first eight months of 2012. Forty-seven of these have doubled in value. Nearly two-thirds of the 1,450-odd traded stocks have participated in this rally.

Small-cap led

So, was there any method in the madness?

There were definitely a few common themes underlying this rally.

One, there were small companies playing catch up with their better-known peers in a few fancied sectors. In the pharma sector, for instance, with leading companies already marked up, more inexpensive stocks such as Shasun Chemicals, Dishman Pharma and Piramal Life Sciences were marked up by between 100 and 230 per cent.

The second theme revolved around companies expected to benefit from correcting commodity prices. The 100-150 per cent gains in Jet Airways and V-Guard Industries clearly came from this source.

Three, companies with high interest costs or those labouring under a burden of debt were marked up as hopes for a reversal in the interest rate cycle flared up. The pick-up in a range of construction stocks and the big gains in debt restructuring plays such as Wockhardt, came mainly from this source.

There were many other sector themes that were visible too. Smaller cement stocks led from the front on an erratic monsoon, unexpectedly good despatches and hefty realisations in the sector. Sugar stocks gained owing to a steady rise in market prices of sugar, hinting at better economics for the sector as a whole.

Premature?

But is this the beginning of a new bull market? It is too early to say. Going by the latest GDP numbers, the economy certainly still looks to be in a slump. Though corporate profit growth for the latest June quarter showed some improvement compared with the previous two quarters, that was mainly on account of declining input prices feeding into profit margins. The picture on sales growth, the real indicator of demand for goods and services and the arbiter of corporate prospects, was lacklustre. Sales growth for the CNX 500 companies has dwindled from a robust 27 per cent in the December 2011 quarter to 21 per cent by March and just 15 per cent by the June 2012 quarter.

Low conviction?

One can, of course, argue that a stock market recovery often precedes a rebound in corporate earnings. If that were true, the recent stock market rally could well be pre-empting better times on the economic and corporate fronts. True, but if economic recovery is around the corner, the nature of stocks and sectors that participate in a rally would be quite different. For one, the list of gainers may then be dominated by large-cap names which will benefit first from any recovery. The gainers list in this particular rally has been quite the contrary, with small-caps ruling the roost.

The 200 stocks which delivered 50 per cent plus gains for instance, featured an average market capitalisation of just Rs 1,800 crore. What is more, the majority of them are of indifferent quality.

Two, if the rally was underpinned by the economy, one would expect it to be led by the core sectors of the economy — infrastructure, steel and power or manufacturing industries such as engineering and capital goods. The tendency to gravitate towards defensive sectors such as pharma and consumer shows that investors really don’t have all that much conviction in an economic recovery taking shape.

Not FII driven

Finally though, what casts the most doubt about this rally is the investors who have powered it. Though the Sensex gains are attributed to FIIs pumping in over $10 billion into the Indian market, the top gainers of 2012 hardly seem to be FII favourites.

In fact, if you trace the shareholding patterns of the stocks that soared by 50 per cent or more, more stocks in this list saw FIIs trimming their holdings rather than buying up more shares.

Further, if you look at the top performers, retail investors held an average 20 per cent stake in them, while the average FII holding was only 7 per cent. Nor were the gaining stocks particularly favoured by domestic institutions, with their mutual fund holding averaging less than 3 per cent. The top gainers, therefore, seem to have chalked up their huge gains mainly on account of retail investors accumulating them. The question is if they will remain bullish, if the FIIs fail to back their bets.

aarati.k@thehindu.co.in

(This article was published in the Business Line print edition dated September 2, 2012)
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