The market support is on shaky grounds

Dhananjay writes in a report ….The 71% yoy decline in net sales of equity mutual funds in Aug’18 epitomizes the cyclical nature of Equity MF flows, aligning with our year ago thesis. The sustenance of negative NAVs of equity MFs is a risk for the broader market. The broader market has seen a steep correction, but a capitulation is still some time away.
Considering also the RBI data on household savings, there is little evidence of a structural rise in financial savings of households.

Moderate increase in Household financial savings
Net financial savings of households, net of financial liabilities, increased only modestly in FY18 to 7.1% of disposable income, after declining to 6.7% in FY17 due to the demonetization shock. It was still much lower than 8.1% in FY16. Importantly, gross financial assets, excluding currency holdings, actually declined to 8.3% of disposable income, much lower than the pre demonetization average of 9.3%. Ironically, the holding of currency in financial assets of households jumped to 2.8% of disposable income in FY18, higher than the pre-demonetization level of 1.6% in FY16.

Broader market has seen a steep correction, but capitulation still some time away
The recent catch-up rally in the broader market with the benchmark indices after a decline of 17-20% earlier this year is possibly difficult to sustain. Even after the decline in mid-cap index trailing PE from 51x in Dec’17 to the current 39x in Aug’18, it is still trading at a 56% premium to the benchmark Sensex and Nifty indices. The risk is that it can go back to an average discount of 12-15%, instead of premium, as it existed prior to May’14.

Macro headwinds like higher risk-free rates, moderating global liquidity, INR depreciation, and uncertainty ahead of the general election in 2019 are likely to keep retail investor risk-taking appetite modest, thereby affecting valuation
multiples. This will possibly overpower the cyclical improvement in earnings growth due to currency depreciation and better consumption demand.


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