The rally in global markets continues. After that initial panic reaction in end March, markets led by the mother market US have been steadily rising. Nasdaq and S&P 500 are at record highs. MSCI All Country Index has appreciated by more than 50 percent from the March lows. Nifty too is up by around 50 percent from the March lows. The high level of correlation between global markets should not be missed. Markets have been soaring while the global economy is going through one of the worst recessions in history.
Even though the drivers of this rally have been explained earlier, it is worth repeating. This global bull rally is driven predominantly by 3 factors: One, the humongous liquidity created by the world’s leading central banks, particularly the US central bank Fed; two, the historically low interest rates and the poor fixed-income returns; and three, expectations that the global economy will revive in 2021. Also, there has been huge retail participation in this rally.
Excessive dollar printing by the Fed has led to dollar depreciation. This has facilitated huge FII flows into emerging markets like India. Dollar carry trade – borrowing in dollars and investing in emerging markets like India – is playing an important role in this rally. FII’s net equity investment in August 2020 at around Rs 45770 is the highest in 2020 and one of the best ever.
The power of liquidity and historically low interest rates is so huge that it has created big momentum in the market. It is important to understand the following facts:
1. There is disconnect between the real economy and stock markets.
2. Huge liquidity and low interest rates can drive markets higher.
3. Valuations based on PE ratio (25 times FY2020 earnings), are high.
4. There is high level of uncertainty regarding the impact of the pandemic.
An important lesson from stock market history is that stocks outperform competing asset classes like bank FDs, PPF and gold in the long run. Also, it is important to understand that it is impossible to time the market. The only way to get good return from stocks is to stay invested in quality stocks/ mutual funds and invest systematically.
An ideal investment strategy in these difficult times can be:
1. Remain invested preferably in quality large-caps.
2. Avoid penny stocks and low quality small-caps.
3. Continue with SIPs
4. Don’t be fully invested. Increase the cash component in the portfolio.