Indian Stocks Not Hurting More: Is it a lull before the storm or new market dynamic?

Mumbai, Mar 11 Despite a supply shock in oil, rates, currency and stocks appear to be relatively calm.

Analysts are wondering if this is a calm before a storm or a new market dynamic.

Supply constrained oil price rises are bad for India. Indeed, the recent 25 per cent jump in oil prices will expand the current account deficit by 75 bps and inflation by 100 bps on an annualized basis says a study by Morgan Stanley.

Historically, India's relative stock prices to EM have reacted poorly to oil price increases caused by supply outages. We measure the latter by using oil price relative to copper and the New York Fed's Oil Price Dynamics Report.

The tight association between these indicators and India's relative performance to EM appears to be breaking down in recent years.

India's policy environment is among the strongest in the world driving India's idiosyncratic growth story and, more importantly, likely creating a new profit cycle. The rise in oil price is a threat but not strong enough in the context of the policy environment.

Oil consumption relative to GDP is at all-time lows and is steadily declining especially since 2014.

"India's relative real policy rate to the US is at all-time high.

Monetary policy looks much better placed to handle the inflationary impact from an oil price rise especially when compared to history," says Ridham Desai, Equity Strategist, Morgan Stanley.

India used to rely primarily on foreign portfolio (FPI) flows to fund its current account deficit. FPI flows tend to react more aggressively to the effect of oil prices on shares and their actions feed into the macro creating a vicious cycle. However, since 2014, external funding has shifted dramatically to FDI which is more stable and less sensitive to oil price fluctuations, he added.

The rising domestic bid on stocks since 2014 also means that FPI selling is now offset, unlike the past.

The above factors probably explain why the rate and currency markets have been relatively stable compared to previous oil shocks. Thus, stocks have also reacted less violently.