Liquidity is Fueling the Stock Market Rally.
What is this liquidity? How is it created? How does this in turn fuel stocks and commodities?
Currently there is surplus liquidity as central governments worldwide have pumped money into the economy. This provides people with money to spend and further spurt demand. Inflation increases due to higher demand & lower supply. An increase in demand fueled by surplus liquidity are the causes for inflation
What have Central Governments done?
RBI has reduced repo rate to 4%. Governments across the world have reduced interest rates. US has seen interest rates coming down close to 0 and some countries have even seen negative interest rates.
How do Low Interest Rates help the economy?
1. Reduces borrowing cost, encourages consumers to continue buying and thus enabling the economy by maintaining or increasing demand.
2. Reduces cost of debt, companies have restructured debt at higher rates to lower rates. Many companies have also taken this opportunity to repay / reduce outstanding loans.
3. Close to 0 interest rates are unattractive to FII’s in their domestic markets, this is a good sign for equity as FII’s look for alternate investment options.
How India stands to Benefit?
1. India’s Growth Story is back on track and we are sure to continue to see this recovery.
2. Emerging market companies which have taken foreign loans have to pay less now and thus increase their own profitability.
3. Emerging Markets (India) are being favored over domestic markets by FII’s: Lower dollar propels money to India. The continuous printing of money by the US fed and its over supply causes for the dollar value to fall.
4. A falling dollar is a boon for FII as they get more bang for their buck. FII make a currency appreciation along with investment profits.
Example: Assume one invests $ 10,000 when $1=INR 75, now rupee appreciates and $1=INR 70. Your investment now becomes $ 10,715, this on its own gives a 7.1% return on investment. Assuming a conservative 10% return on investment, your investment is now worth $ 11,785, giving an investor a return of almost 18%.
Sensex continues to make a CAGR return of approximately 14% year on year and has done so this year as well from it January start levels.
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