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Posted by: Deepa Vasudevan on Wed, May 13th, 2015

Market Madness in May: A Preview of the Future?

India has been on a roll since May 2014. Inflation is low, fiscal deficit is within limits, the balance of payments is stable, and foreign capital inflows are buoyant. In a world of falling yields and collapsing growth, India is being seen as a good bet. Unfortunately, this pleasant state of affairs ended abruptly last week with a sudden bout of financial volatility.


Between May 1 and May 8, the rupee lost nearly 1% against the US dollar. On a single day- May 6- the NSE-Nifty lost 2.8%, and the BSE-Sensex lost 2.9%. The benchmark 10-year yield rose 13bps in the first week of May, from 7.84% to 7.97%. Why did key market segments roil up in unison, when there was no crisis? Here is a list of the triggers which set off this volatility:


1.  Oil Prices Increase

International prices of Brent crude crossed the crucial $65/bbl mark in end-April. This is a critical level for India, because Union budget numbers for 2015-16 were based on the assumption that crude prices would be in the range of $65-$70. Crude imports form one-third of our merchandise imports. A steep hike in oil prices will increase subsidies payable on LPG and kerosene, push up the fiscal deficit, raise the trade deficit, and increase prices. A sustained rise in oil price would be the quickest and surest way to a crisis. That is what markets were worrying about, when the rupee, stock market, and debt market, all fell together!


2.  FIIs suddenly turned sellers

In 2014-15, FIIs brought in $40 billion to the capital markets:  $22.4 bn through debt and $17.5bn through equity. In April alone, $2.4 billion came in as portfolio inflows. But during the first ten days of May, $1.9 billion was pulled out. Some of the FII selloff was due to the yield correction in Euro debt, and some of it was due to profit-taking and routine portfolio rebalancing. But the fear that FIIs would exit on a large scale and leave the current account deficit unfunded led to a panic that weakened the rupee and pushed down stock indices.


3.  Corporate earnings do not signal recovery

Corporate results for the fourth quarter of 2014-15 have disappointed markets. Earnings have, in general, been lower than or just matched expectations. The index of eight core industries- representing infrastructure sectors- grew by 3.5% in 2014-15, a drop from the 4.2% growth in the year before. The Purchasing Managers Index for April fell too, though it remained above the cut-off level of 50. Domestic demand is still sluggish, and given that the India growth story is largely driven by domestic consumption, it is clear that an economic recovery has not yet taken place. 


4.  Bond Yields in Europe Rise

Rising oil prices led to the hope that inflation in Europe would rise sooner than expected, implying that ECB could scale down its asset purchase program earlier than expected. The result: benchmark German bund prices dropped and yields went up in anticipation of reduced bond buying. This set up corrections across the world as global investors cut losses or rebalanced their positions. By Monday, May 11, the contagion had reached US treasuries, which shot up 13 bps to 2.28%. The convulsions in global bond markets pushed up yields in India too.


5.  RBI did not intervene to support the Rupee

RBI data on market intervention comes with a lag of 2 months, so we do not know about their purchase or sale of dollars in April and May. Press reports suggest that RBI did not sell dollars to prop the rupee. The signal given was that RBI was willing to let the rupee depreciate to some extent. 


6.  Fed talk of “jump in long term rates”

The Federal Reserve Chairman, Ms.Janet Yellen, warned that long term treasury rates could rise if and when the Fed raised its key policy rate. In addition, April jobs data showed a slow but steady pick up in US labour markets. Market talk of a correction in bond prices added to the other triggers and became a self-fulfilling prophecy.


None of these individual triggers are at critical mass, but they all came together to create the first mini-financial turmoil of 2015. For a government about to complete its first year in office, these market blips are a reminder of our economic vulnerability.  The volatility in May was just a preview of the “Super Taper Tantrum” that the world could potentially face when the Fed finally normalises rates. That is the eventuality that we need to prepare for; and our current macro-economic sweet spot is the best time to strengthen our defences.

K RATNA KISHORE on Sat, May 16th, 2015 2:16:45 pm

Good Information about current market scenario. which is also useful for explaining our customers. Thanks and expecting this type of information in future. Great Job

Ramesh B on Thu, May 14th, 2015 5:19:25 pm

All stock/fund analysts,tv business channels wrongly present bright picture to lure investors to invest NOW.your letter is one of the very few right analysis.Great.Pl.keepitup!

s b samant on Thu, May 14th, 2015 4:24:16 pm

A very apt explanation that makes one understand sudden volatility in market.Excellent job done!

Amol Chitale on Thu, May 14th, 2015 4:17:46 pm

As always the article was very well written and informative. Our budget deficit can be easily wiped out by tracking and confiscating Black Money within the country rather than going after black money stashed in foreign banks.

vinit nagpal on Thu, May 14th, 2015 1:31:19 pm

Thanks for covering all the events that were responsible for market correction. it gives a good understanding of global vulnerability of indian markets.

SRIMANT MISHRA on Thu, May 14th, 2015 1:07:38 pm

Nice and informative article.

MadanJit Singh on Thu, May 14th, 2015 9:52:11 am

Periodic review helps advisors to understand better. Ultimately the industry gets a boost when knowledge become a driver. Excellent effort made at your end.

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