Doomsday ahead for Indian financial markets?

Foreign institutional investors are still net buyers in Indian equities, to the tune of over $12 billion if looked at across the eight months of 2013. But in the last few months they have indeed been selling heavily.

Mahesh Nayak
It was a deeply disturbing Tuesday for the Indian economy. The passing in the Lok Sabha, on Monday, of the Food Security Bill - which is expected to exert further pressure on the fiscal deficit - as well as rising crude prices due to tensions in West Asia have had three ominous effects. The Bombay Stock Exchange's Sensex fell 590 points, the rupee dropped further to cross 66 to the US dollar, while the G-Sec yield climbed over 8.5 per cent.

Investors who sold hastily may have been myopic in their assessment but they can hardly be blamed. It does seem, looking at India alone, that doomsday in the financial markets is at hand.

However, if one looks beyond the country's shores - and financial markets globally are all inter-connected now - India is not the only loser in recent times and certainly not the worst performing market in the world.

MSCI Worst Performers
In the eight months of 2013, as the US economy has improved, all countries in the MSCI Emerging Market Index have been trading in the red. They have lost between 2 and 31 per cent of their value, while India has shed around 20 per cent. Against this the MSCI US Index is up 16.5 per cent.  

The primary reason for the fall is the uncertainty that the US Federal Reserve will taper off the quantitative easing it resorted to after the 2008 financial crisis. It is expected to withdraw the stimulus package from September.

This has seen investors moving away from emerging markets as their risk appetite for the US market has increased. This has also seen the end of the 30 year bull-run in the US bond market where yields kept going higher and higher. Yields have sharply fallen and currently the 10-year US yield is trading in the range of 2.65-2.75 per cent.

Though India is hardly alone in its financial problems, things are certainly different now from 2008/09 when the global downturn initially struck.

During the sub-prime crisis of that time, India was shielded from the global crash because of its strong growth in the preceding years and the regulations it had in place. Today, elections are just a few months away, while the country is beset with problems, especially the skyrocketing fiscal and current account deficits, rising inflation and lower growth.

Foreign institutional investors (FIIs) are still net buyers in Indian equities to the tune of over $12 billion if looked at across the eight months of 2013. But in the last few months they have indeed been selling heavily and there is a feeling that the dream-run for India and the Indian market is over.

FIIs have been the backbone of the Indian market, and for the past few years, the sole factor behind the rising equity market. Of course, some eternal optimists are still holding on, given that the Indian economy is still growing at around 5 per cent.

But time is running out. India is just one notch above being given 'junk status' by global rating agencies. It is time the Indian government does something constructive to boost investment, rather than taking defensive measures such as increasing import duties or selling foreign currency bonds or gold to the International Monetary Fund.

India needs to act fast before it is too late. India's situation today is no worse than the Argentine crisis of 1999 or the Asian crisis of 1997/98. If FIIs don't like a country they will not hesitate to leave. If this happens it would be difficult to guess till where the Indian currency will dive. Equally, FIIs may not return for a long time. It took Argentina and some of the east-Asian countries nearly a decade to bring them back.