Market outlook for this week

2 Jan 2024 , 08:54 AM

NIFTY AND SENSEX CLOSE 2023 WITH A BANG

The Nifty and the Sensex closed very near to their all-time high levels. The Nifty closed the year at 21,731 levels, just short of its life-time high levels of 21,801. Sensex also closed the week at 72,240 levels, just short of its life-time high levels of 72,484. In both the cases, it was a case of aggressive institutional buying as well as retail investors trying to participate at higher levels, as part of the bandwagon effect. 

To add to the frenzy in the markets, there is a lot of short term trader interest in the market at higher levels. The traders who had waited in the sidelines for too long in the hope of a correction; are now rushing in. Also, the shorts are rushing for cover since the year-end correction never came about. Typically, market rallies are built on valuations, momentum, macros, and scepticism. As we close the year 2023, all these four pillars are found in abundance in the stock markets.

CAN THE FPI FLOW MOMENTUM BE SUSTAINED?

That is the billion dollar question. The sharp turnaround in the stock markets in the last quarter of calendar 2023 was largely driven by FPI flows. For the full year, the FPIs have infused $28.7 billion into Indian markets, of which $20.7 billion represented net flows into equities. In the month of December, which saw the real surge in FPI flows, the FPIs infused $10.2 billion into Indian markets of which $7.9 billion came into equities. Clearly, the rally in the markets has been largely about revival of FPI interest.

There are several reasons the FPIs are bullish on India. Firstly, the Fed decision to cut rates in 2024 has come as manna from heaven. Now they can decisively shift risk-on in favour of EMs like India. The second factor driving Fed flows is the Goldilocks effect, which is when growth is better than expected and inflation lower than anticipated. That has also been favourable to India. Lastly, there is the FOMO (fear of missing out) factor, which has also been critical in driving FPI flows. For now, it looks like FPI flows should remain robust in the coming year also; but granular hiccups in flows are par for the course.

WHY YOU MUST READ THE FED MINUTES CLOSELY NEXT WEEK?

One of the big events of the coming week is the announcement of the Fed minutes, which is normally published 21 days after the Fed meeting. It may be recollected that in the December 2023 Fed statement, it had maintained status quo on rates. However, the big shift was that it had given a guidance of rate cuts over next two years. The Fed statement openly committed to cut rates by 75 bps in year 2024 and another 100 bps in 2025. On the other hand, CME Fedwatch expects the entire 175 bps to happen in 2024 itself, but these kind of discrepancies are quite normal.

The reason the minutes next week are important is that it would give insights into the actual discussions and the views of members that went into the Fed statement. Also, it would get greater insights into the dot plot of individual members and how the story of 7 rate cuts over 2 years was arrived at. Above all, the Fed minutes will give the first confirmation if the Fed is done with rate hikes in this round and whether the terminal Fed rate has already been touched at current levels.

WHAT TRIGGERED THE MARKET MOVES IN THE PREVIOUS WEEK? 

Broadly, there were 6 factor that influenced the Indian equity markets, although the Nifty and Sensex did close near life-time highs.

1. As the year came to an end, the Red Sea crisis continued to be the biggest threat to world trade. Houthi rebels based in Yemen, and allegedly funded by Iran, are firing drones and missiles on ships passing through the Red Sea. It needs no reiteration that Red Sea route leading up to the Suez Canal is the life line for the movement of oil and other merchandise from Asia to Europe and vice versa. The US has increased its patrolling of the Red Sea area, but the risk is high and many ships are refusing to take that route. Also, due to the higher insurance costs, freight rates on that route have more than doubled. The only option is to go via the Horn of Africa, but that would consume more days and add substantially to the costs. That remains a big X-factor as we embark on the New Year.

    

2. The JN.1 variant may have been briefly forgotten, but the risk has not gone away. India is already seeing more than 700 casualties per day and it would be naïve to believe that the risk has been overcome. India needs to be doubly wary as elections are approaching and it is going to lead to large scale intermingling of people. That is something India learnt the hard way in year 2021; and it poses a major business risk. 

    

3. In terms of data announcement, the big announcement in the week was the current account deficit for the second quarter. At $8.3 billion, the current account deficit is just about 1% of GDP. It was 1.1% of GDP in the first quarter, so it now looks like, even in a worst-case scenario, India would be able to restrict its current account deficit (CAD) for FY24 to less than 1.5% of GDP. That puts the CAD in a comfortable situation and this matters a lot to the value of the rupee and also to the sovereign ratings. Compared to the corresponding quarter last year, the CAD is sharply lower. It is not just that merchandise deficit is down, but even the services surplus is sharply up.

    

4. The other big data point in the week was the announcement of the core sector growth for November 2023 at 7.84%. Core sector is the combination of 8 infrastructure sectors viz. coal, crude oil, refinery products, natural gas, fertilizers, steel, cement, and electricity. Among the infrastructure sectors, crude oil and cement showed negative growth, while other sectors showed positive growth. Among the two contrasting performers, there was a sharp spike in the output of refinery products amidst higher GRMs while the cement output fell sharply on a higher base. Hydrocarbons, which accounts for 44% of cost sector basket, gave a strong performance. However, this is the lowest core sector growth in the last 6 months and the first time in last six months that core sector growth dipped below the 8% mark.

    

5. The fiscal deficit updated as of the end of November 2023 was also announced by the CGA during the previous week. As of November 2023, the fiscal deficit stood at 50.7% of full year target. It may be recollected that for the full year, the fiscal deficit target had been pegged at 5.9% of GDP. With only half the fiscal deficit traversed in 8 months, there is a lot of leeway for the Indian government. That means; even if we assume risks like lower nominal GDP growth, flat tax revenues in H2, lower disinvestment revenues and higher food subsidy bill in the remaining months, fiscal deficit should still be well within bounds. That would urge the government to set the fiscal deficit target at a lower level in the February 2024 budget, but for that we need to wait for the Union Budget to be announced in February 2024.

    

6. Finally, it was a week when FPI flows were buoyant. In last 4 weeks, FPIs have infused more than $7.9 billion into Indian equities and that is the kind of money that pushed the Nifty and the Sensex to new highs. If you look at the last 5 weeks since the FPI thrust started, the total infusion into equities has been over $10 billion. That has continued to be the big news for the week. 

The above factors broadly explain the activity in the markets during the week and the reason it moved the way it did. Amidst the enthusiasm and euphoria, there are some risks that cannot be ignored. The Red Sea crisis is a major overhang for market sentiments and the full colour of the JN.1 variant is still now known. Indian markets are not getting any cheaper with the Buffett Ratio (market cap to GDP), getting closer to the 120% mark. That is something investors must be cautious about.

STOCK MARKET TRIGGERS FOR COMING WEEK TO JANUARY 05, 2024

The Nifty and Sensex closed this week with gains of 150 bps and the full year gains on the indices were around 20%. Here are the major triggers for the first week of January 2024.

• For the previous week, the Nifty closed +1.79% up, Nifty Next-50 closed +2.70% higher, the Mid-cap index was up +2.41% and small cap index ended +2.00% higher. The rally has been across the large and small caps and for the Nifty it would now be all about short covering and fresh flows. The real action may be about the alpha stories in the mid-cap and small cap space. One must keep in mind the typical January effect on markets. Ini fact, the month of January has traditionally seen sharp corrections in Nifty and Sensex and that could be a sentimental overhang for markets.

   

• In terms of domestic macro flows, there are two key data points to watch out for. The Manufacturing and Services PMI will be released this week. Both the PMI numbers for December are likely to be lower than November, and could hover around 56 levels. However, that is still a sign of expansion. The other trigger will be the auto numbers for December. The street expects stellar numbers from Bajaj Auto, M&M, and TVS Motors but relatively subdued numbers from Eicher, Hero Motocorp and Maruti Suzuki. Even Tata Motors numbers are likely to remain flat in December.

   

• The real big news in the coming week will be the announcement of FOMC minutes. These minutes normally follow the Fed statement after a gap of 21 days. It may be recollected that the Fed has already hinted at 7 rate cuts in 2024 and 2025, but what the markets will be interested is whether the debate among members contain hints that the rate cuts would be front-ended.

   

• Crude prices and FPI flows will be the key variables to watch out for. While US crude inventories are sharply up by 1.84 million barrels, the Red  Sea crisis is likely to result in oil bouncing on any dip. The ongoing crisis has doubled the freight costs; which is pushing up oil prices. As long as the Red Sea crisis persists, oil prices will see upward pressure. FPI flows could slow down after the FPIs infused over $10 billion in 5 weeks. For now, the falling US bond yields and the falling dollar index (DXY) may still offer support to FPI flows. 

   

• Finally, we look at the global data points to track. Major US data points for the week include; Composite PMI, construction spends, JOLTS, FOMC minutes, API crude stocks, initial jobless claims, unemployment, and factory orders. Among other data points, one must monitor the composite PMI in Japan and in China as well as data points like the HCOB Manufacturing, and the PMI Composite in the European Union.

NIFTY NEXT RESISTANCE AT 21,800 AND SENSEX RESISTANCE AT 73,000

Both the Nifty and the Sensex scaled lifetime highs on Thursday and closed just below the record highs on Friday. For now, the Nifty has an immediate resistance 21,800 while the Sensex has the next resistance at 73,000 levels. For the Nifty, the immediate support would be around 21,400 levels. Any breach of the Sensex above 73,000 with volumes opens the doors for 75,000. The one variable to watch would be the VIX. During the week, the NSE VIX spiked to 16.47 levels on Thursday before tapering on Friday and closing at 14.50 levels. The rising volatility could become a standard feature of the markets as the election season approaches. VIX could be the one factor that could be the show-spoiler for the markets. Any move above 16 should be watched carefully!