Investors need to keep a tab on how the US treasury yields move, which will have a ripple effect on how big money moves across developed and emerging markets.
The markets have been unable to sustain at higher levels as a rise in bond yields globally, especially in the US have dented sentiment.
Surging commodity prices, especially crude oil that have now hit $70 a barrel (Brent) coupled with inflation woes and fear of sporadic lockdown across major economic hubs back home as Covid cases rise have chased the bulls away.
In the short-term, analysts expect the markets to remain volatile as they react to news flow – both from overseas and developments back home.
Investors, they say, need to keep a tab on how the US treasury yields move, which in turn will have a ripple effect on how big money moves across developed (DMs) and emerging markets (EMs), including India.
“The recent commentary from the US Federal Reserve (US Fed) suggests that they will remain dovish for the foreseeable future.
"However, the markets are not ready to believe this, which led to the sell-off on Thursday.
"The yield on US treasury will likely settle between 1.6 – 1.65 per cent over the medium-term and will keep markets choppy during this period.
"In the worst-case scenario, the Nifty can slip to 14,000 levels, which is a strong support for the index,” says U R Bhat, managing director at Dalton Capital.
Overnight, the US Fed maintained policy rates in the 0 – 0.25 per cent band, but revised the economic growth projections for 2021 from 4.2 per cent to 6.5 per cent.
In its policy statement the US central bank said that it expects inflation to rise in the upcoming months at the back of base effects, rising money supply, higher crude prices and stimulus package.
“A closer look at the dot plot reveals that the Committee is increasingly thinking about a 2023 liftoff.
"What’s more, base effects will push up inflation figures in the coming months.
"Therefore, we expect the tug of war between the US Fed and the markets to continue,” said Philip Marey, senior US strategist at Rabobank International.
Besides the global cues, sporadic lockdowns across cities amid rising COVID cases are another cause for concern for the markets, which analysts say have the potential to dent the fragile economic recovery.
However, the impact of these lockdowns, they feel, will be less severe as compared to the one seen in 2020 that brought all economic activity to a standstill.
Over the medium term, progress on vaccinations, global growth and lagged effects of easier financial conditions are likely to act as growth tailwind.
“The risk of a second wave in India has risen materially.
"This can lead to near-term growth concerns and delay market expectations on the timing of policy normalisation. However, we expect only marginal negative growth effects, because government restrictions are less stringent, the goods sector continues to chug along and households and businesses have adjusted to the new normal,” wrote Sonal Varma, managing director and chief India economist at Nomura in a recent co-authored note with Aurodeep Nandi.
Since the March 24, 2020 low, the S&P BSE Sensex and the Nifty 50 have gained 92 per cent and 94 per cent, respectively.
The rally in the mid-and small-caps has been sharper with both these indexes gaining 107 per cent and 136 per cent, respectively during this period.
A large part of this has been has been on account of easy money policy of global central banks that pushed in liquidity across most asset classes, especially stocks.
“EMs have been worried about the rising treasury yields in the US. What is also worrying investors that interest rates in the US may go up sooner-than-expected, which I think this is unlikely to happen.
"Markets will undergo a period of volatility and consolidation before resuming their journey north.
"One cannot rule out a correction of 5 – 7 per cent in the frontline indices from the current levels amid volatility,” says Vaibhav Sanghavi, co-chief executive officer, Avendus Capital Public Markets Alternate Strategies.
In an optimistic scenario, Julius Baer sees the Sensex hitting 58,450 levels in the next one year.
It has changed its stance on India from market-weight to overweight.
"An economic recovery is underway in India, and we look for 9 per cent y-o-y GDP growth this year, followed by 7 per cent next year.
"We look for earnings per share to grow on average over 25 per cent over the next three years.
"It would be unprecedented for the stock market to fall in an environment of such strong growth," said Mark Matthews, head of research, Asia, Julius Baer.