Do mar­kets talk sense?

The buoy­ant trend in the stock mar­ket after the re­sults of this round of As­sem­bly elec­tions sur­prised many, but as mar­kets glob­ally have proved in re­cent years, if there is cheap money avail­able in the sys­tem, mar­ket play­ers will use it to spec­u­late.

FrontLine - - THE ENVIRONMENT -

AS the State elec­tion re­sults trick­led in on De­cem­ber 11, the Sensex, after a hic­cup, rose and to the sur­prise of many, closed 190 points above its pre­vi­ous end-of­day level. The fol­low­ing day, too, the Sensex moved up­wards. This, too, came as a sur­prise to many, since it was widely be­lieved that the in­flu­en­tial play­ers in the mar­ket favoured the re­turn of a Naren­dra Modi-led gov­ern­ment in 2019. To the ex­tent that the de­feat of the Bharatiya Janata Party (BJP) in three im­por­tant States was a sig­nal of a pos­si­ble de­feat next year, in­vestors were ex­pected to walk out, trig­ger­ing a mar­ket col­lapse. That did not hap­pen.

This could be in­ter­preted as the “mar­kets” turn­ing sen­si­ble. In fact, hav­ing gone wrong, some ob­servers ar­gued that their pre­dic­tion did not prove right only be­cause the mar­kets had al­ready made the nec­es­sary “cor­rec­tion” for a pos­si­ble 2019 BJP de­feat in their re­sponse to the exit polls, which, too, sug­gested that the BJP might not fare too well.

The Sensex had fallen by 7 per cent on the Mon­day (De­cem­ber 11) fol­low­ing the Fri­day evening (De­cem­ber 7) when the re­sults of the exit polls were re­vealed and the shares that took a beat­ing in­cluded those of com­pa­nies from the Am­bani and Adani sta­bles—two in­dus­tri­al­ists who are al­leged favourites of the lead­ers of the cur­rent gov­ern­ment.

So, the buoy­ant trend in the mar­ket after the an­nounce­ment of the elec­tion re­sults was a sur­prise only be­cause those who ex­pected a down­turn had not taken into ac­count the fact that the mar­kets had al­ready fac­tored in the po­lit­i­cal uncer­tainty fol­low­ing an un­favourable re­sult for the BJP.

This ex­pla­na­tion is a bit bizarre. It sug­gests that the mar­ket is so per­fect that a one-shot “cor­rec­tion” can take care of the cur­rent po­lit­i­cal uncer­tainty. The Sensex, it is claimed, fell 714 points be­tween the close of trade on Fri­day and that on Mon­day to “fac­tor in” the uncer­tainty aris­ing from the cur­rent gov­ern­ment’s po­lit­i­cal vul­ner­a­bil­ity sig­nalled by the exit polls. Once that was done, it could re­turn to “nor­mal” be­hav­iour. And in this case, with global oil prices eas­ing and signs that the Fed­eral Re­serve would hold back on rais­ing in­ter­est rates fur­ther, which would stall the exit of for­eign port­fo­lio in­vestors from emerg­ing mar­kets such as In­dia, the Sensex must nor­mally re­bound, which it did on the day the ac­tual re­sults came in.

Rea­son­ing of this kind is driven by the need to make mar­ket move­ments, termed “be­hav­iour”, sen­si­ble. In­vest­ment ad­vis­ers, mar­ket ob­servers and jour­nal­ists are not the only ones prone to such blind faith in the in­tel­li­gence of mar­kets. Vi­ral Acharya, the Re­serve Bank of In­dia’s Deputy Gov­er­nor and a pro­fes­sor of re­pute at New York Uni­ver­sity’s Stern School of Busi­ness, who one would think should know bet­ter, is also a mem­ber of the club.

In­censed by the po­lit­i­cal lead­er­ship’s in­ter­fer­ence in the af­fairs of the cen­tral bank, which he be­lieves should be in­de­pen­dent, Acharya lashed out at the gov­ern­ment, warn­ing it of in­vok­ing the wrath of mar­kets if it per­sisted.

“Gov­ern­ments that do not re­spect cen­tral bank in­de­pen­dence will

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