January was a big disappointment to the stock market. The Sensex which had crossed the earlier peak was already down to 20,000 at the beginning of 2011. It gradually slumped further during the first three weeks and dropped with a thud towards the end of the month. There were reasons not all very apparent.
The Sensex was undoubtedly hammered by the global trends. The Egyptian crisis meant not only a setback to some of the Indian companies operating in Middle East but also a sharp increase in commodity prices. Oil shot up to more than $100 a barrel. International prices of food products also jumped. That meant higher costs and lower profits. There were also fears that the Suez Canal could be closed.
The domestic reasons were even more convincing. Inflation had relapsed. Food inflation crossed 17 percent and the headline inflation for December touched 8.5 percent. Besides, the many tales of widespread corruption had created doubts about effective governance.
The RBI reacted to inflation the usual way. It put up the repo rate by 25 bps threatening at the same time that further action may follow. That was more than a cue to the banking sector which pushed up the interest rate on lending as also borrowing. Added to all this was the rather tame performance of the corporate sector in the last quarter of 2010. That was enough to knock down the Sensex.
There is however more to it than that. For, the Sensex had started climbing down right from the beginning of the year and had lost 1,000 points by the middle of the month. That was because the FIIs had begun to repatriate part of their investment possibly because there were better opportunities at home.
In January, even before the Egypt crisis, the FIIs disinvested more than $1 billion. That was because the US economy was on a rebound. A reflection of that was seen in the recovery of Dow Jones which crossed 12,000 on 27th January, a jump of 3 percent in three weeks.
The US economy grew 3.2 percent in the last quarter of 2010. That was mainly because of the improvement in consumption which had stagnated and will become the mainstay of recovery in future. Interest rates have also been hardening and prices rising giving an indication that the US is on way to recovery though the Federal Reserve is still cautions mainly because unemployment is still above 9 percent. It therefore appears that about a half of the 2,000 points loss in Sensex in 2011 is due to US recovery which prompted return of FII funds. The month end events like the Egyptian crisis, crude oil prices, even domestic inflation, will be back to normal possibly in another 4-6 weeks. But the loss from return of FII funds may continue and put a lid on Sensex which will remain subdued for some time unless the budget provides a trigger.