Markets in Asia and Europe fell sharply after the US senate rejected a $14 billion (Rs68,180 crore) rescue plan for auto makers. With large auto companies now headed towards bankruptcy, the world economy would be further damaged.

Indian markets, however, brushed off these fears, in spite of extremely negative data on industrial production. The Bombay Stock Exchange’s benchmark index, the Sensex, rose by 0.5%, while its Mid-Cap Index rose by 1.6% and the Small-Cap Index gained as much as 2.5%.

But considering that the failure of the auto bailout plan has led to a rise in risk aversion globally all over again, Indian markets may not stay buoyant for long. On Friday, capital flowed back to safe havens such as US treasury bills, driving the yield on 10-year paper to the lowest in five decades. This reverses the gradual rise in risk appetite in the past three weeks. Since 20 November, the Sensex has risen by 15% on the back of net foreign institutional inflows worth Rs4,880 crore. Although foreign institutional investor (FIIs) were net buyers worth Rs455 crore in the cash market, they took significant long positions in the futures segment. With the reversal in risk appetite, flows should cease, and the recent bear market rally is likely lose steam.

In the previous bear market rally between 27 October and 10 November, FIIs had taken net long positions worth Rs5,200 crore, while during the correction phase in the next seven trading sessions, they took net short positions worth Rs5,700 crore.

Needless to say, FII flows will dictate the future direction of the Indian markets as well, and hence the rise in risk aversion doesn’t augur well. The fall of large US auto makers will hit Indian exporters further. The India operations of these firms will also be affected. The only set of stocks that reacted reasonably to the news was IT, which fell by about 3%. But with the economy in a downward spiral and negative news flow expected for some months to come even on the domestic front, the markets are just setting themselves up for a crash by extending the current bear market rally.

source: Livemint

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