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Focus: GS-III Indian Economy

Why in news?

  • A mix of domestic and global negative factors drove Indian equity benchmarks down more than 2% on 6th March 2020.
  • On the global front, almost all leading equity markets across the world lost ground on 6th March as the number of people infected by COVID-19 crossed the 10,000-mark even as close to 3,400 people have died since the outbreak.
  •  Moratorium impact On the domestic front, investor sentiment was hit after the country’s fourth largest private sector lender Yes Bank was placed under moratorium.

What are Equity Benchmarks?

  • A benchmark is an unmanaged group of securities which are considered as a ‘benchmark’ to measure a fund’s/stock’s performance.
  • Benchmarks are generally broad market indices (indicators) like BSE Sensex, CNX Nifty of the Indian stock market with which mutual fund returns are compared.

What is an Index?

  • The stock exchanges comprise of several thousand companies.
  • It is not possible to evaluate each and every stock to understand the market’s performance and so a certain set of companies representing various sectors are chosen and a group is made. This group is called as index.
  • The companies are picked on the basis of free-float market cap.

What is Sensex and NIFTY?

  • The BSE SENSEX (also known as the S&P Bombay Stock Exchange Sensitive Index or simply the SENSEX) is a free-float market-weighted stock market index of 30 well-established and financially sound companies listed on Bombay Stock Exchange.
  • The NIFTY 50 index (National Index Fifty) National Stock Exchange of India’s benchmark broad based stock market index for the Indian equity market, representing the weighted average of 50 Indian company stocks in 13 sectors.
  • It is one of the two main stock indices used in India, the other being the BSE Sensex.

What are the factors that affect the Stock Market?

1. Economic growth:

Higher economic growth or better prospects for growth will help firms be more profitable because there will be more demand for goods and services. This will help boost company dividends and therefore share prices.

2. Interest rates:

Lower interest rates can make shares more attractive for two reasons. Lower interest rates help boost economic growth making firms more profitable. Also, lower interest rates make shares relatively more attractive than saving money in a bank or holding bonds. If bond yields fall, it may encourage investors to switch into shares which give a relatively better dividend.

3. Inflation:

An unanticipated rapid rise in inflation would probably cause a fall in stock markets. A rise in inflation would probably lead to a greater chance of interest rises. This will reduce growth and profitability. Also, higher inflation may encourage investors to move into more inflation proof investments like gold.

4. Stability:

Stock markets dislike shocks that could threaten economic stability and future growth. Therefore, they will tend to fall on news of terrorist attacks or spikes in the price of oil. They will also dislike political instability which may make it difficult to pursue strong economic policies.

5. Confidence and expectations:

A key factor is the mood of investors. If they receive economic news that gives optimism then they are more likely to buy shares. If they receive bad news they will sell. This is why in the depth of a recession, stock markets can start to rise. Investors are always trying to predict the future. Therefore if they feel the worst is over – the stock market can rally – even when economic fundamentals remain poor.

6. Bandwagon effect:

At times the stock market seems to over-react to certain events. For example, in 1987, relatively little bad news caused the stock market to fall 25%. Even today it remains a little mystery why the stock market fell so much – there was no economic problem. In fact, the stock market soon recovered it’s lost ground. Part of the issue is that people follow the mood. When prices fall, people may feel the need to follow suit and get out of the market.

7. Related markets:

Often investors have choices. For example, rather than investing in stock market, they could buy government bonds or commodities. If investors feel government bonds are overpriced and likely to fall, then the stock market can benefit as people move into shares.

8. Price to earnings ratios:

If share prices rise significantly above historical averages, then this is a sign that shares are becoming overvalued and are due a correction at some point in the future.

December 2023