Buoyant with reason

BS OPINION

The stock market's surge from a six-month low in late April to a two-and-a-half year high has been described as meteoric, the implication perhaps being that it might soon burn out.

There has been no dearth of commentators advising caution in recent days, especially as the long forecast correction has conspicuously failed to materialise.

The retail investor, with vivid memories of scams and bubbles busting earlier rallies, is understandably nervous. It's true that many stocks have gone up too fast for comfort, without pausing for breath, and some of them have been penny stocks with hardly any 'fundamentals' to speak of.

The question is whether the current rally has an underlying basis in increased company earnings, or whether it's just a case of too much money chasing stocks at a time when debt instruments have become less attractive.

The fact is that corporate performance has improved tremendously, thanks not only to low interest rates and a reduction in costs, but, in certain sectors, a growth in the topline as well.

Government expenditure on roads has played a prominent part in boosting the cement, steel and heavy vehicle industries. Look also at the full order books of capital goods companies, many of the orders being the result of new investment in the power sector by state electricity boards and NTPC.

Low interest rates have led to demand growth in the housing, automobile and consumer goods industries, and for banks and housing finance companies.

Consider the amazing fact that steel is now in short supply, with exports to the red-hot Chinese market rising dramatically. Export growth has been robust, in spite of an appreciating rupee.

The outsourcing story, long confined to software services and call centres, has been extended to auto ancillaries and textiles. Pharmaceutical companies have gone global. And the prospects of a good monsoon have lifted the spirits of FMCG companies.

There has been progress on the policy front "" the phasing out of old vehicles has boosted the auto industry, the new foreclosure law has led to a re-rating of the banking sector, and the power reforms have infused new life into the sector.

All these factors will contribute to increased earnings for companies, and the good monsoons, with their impact on domestic purchasing power, will provide a further boost.

Companies have also started planning for fresh investment, after a long hiatus. It's no surprise, therefore, that even after the recent rally, forward price-earnings ratios do not suggest over-valuation.

Those who prefer to view their glasses half-empty rather than half-full, can argue that most of these factors have been present in the Indian economy for quite some time, without the market having gone anywhere.

It's only the rising tide of FII inflows since May that has led to the sudden bull run. It's also true that, in spite of all the positives, the Indian market is in fact a late participant in a global equities rally, a rally that has already shown signs of flagging in other markets.

But even after considering this contra-view, there is no doubt that the current boom is the result of several factors coming together, all of which favourably impact earnings.

Together with earnings growth, the rise in liquidity as a result of new money coming into the market has also led to an increase in valuations.

It goes without saying, of course, that investors should avoid stocks that have no fundamentals, and should keep a wary eye on the FII inflow figures. As for the rest, it would make everybody far more comfortable if the market paused a bit before resuming its upward climb.