In 2019, the BJP returned to power for a second consecutive term with an enhanced parliamentary majority, aided in large part by a wave of jingoistic sentiment generated by air strikes against Pakistan that were launched in retaliation for a bombing that killed 40 Indian paramilitary personnel. The party’s return to power introduced a new political dynamic to economic events. It remains unclear whether the electorate gave the BJP a second majority – albeit with only 37% of the popular vote – to pursue its “development for all” agenda, or for something else.
But that did not matter, for emboldened by the second victory and a wave of adulatory media coverage, the BJP went ahead with implementing its right-wing manifesto. In doing so, it expended large amounts of political capital on its cultural and religious nationalism agenda, which left less to spend on substantive economic and financial issues. This, in turn, raised social, cultural, and religious tension to the point where some thought it would start affecting economic growth and commercial activity.
But the stock market kept rising through all this turbulence and turmoil. After roaring back in 2009, the market stayed high and, for the next 10 years, kept edging upward into the twilight zone. It rose through the aftermath of the Great Recession and the instability and policy paralysis of the Congress-led UPA-2 that ended in 2014. It continued rising through the severe dislocation of demonetisation and GST that were introduced in the BJP’s first term between 2014 and 2019. It rose in the absence of fiscal stimulus – for unlike the Congress, which used the political business cycle and giveaways for electoral gain, the BJP relied on its appeal to majoritarianism to get in the vote, and this fiscal conservatism was an unlikely economic benefit of having the BJP in power.
It kept rising through the political and social turmoil that occurred in the BJP’s second term post-2019, and it also kept rising through the BJP’s occasional inability to win state elections. It rose through the GDP growth rates that many said were inaccurate when they were close to 8%, and it rose when that supposedly inaccurate number fell closer to 4 per cent. And it kept rising through the absence of corporate profit growth. There had been little profit growth through much of this run, and the non-existent profit growth coincided with one-time write-offs in sectors including telecom and banking. As a result, between FY 2008 and FY 2020, corporate profits as a percentage of GDP dropped from over 6% to under 2%.
The market’s rise in the absence of profit growth was baffling to some astute observers, but after a point, most were simply happy to go along for the ride. Without corporate performance to generate a value-buying argument, the only other rationale for this up move came from that old perennial – liquidity. Reform efforts, technological change, and interest rates had displaced the Mehta Bull, the IT Bull, and the Rate Bull, respectively, but the displacement behind the 2009–20 bull run was financial innovation.
The central feature of this bull was the rise of the domestic investor through rupee cost averaging products such as the Systematic Investment Plan (SIP). So prominent is the SIP as a market innovation and source of liquidity that it is appropriate to name this up move the SIP Bull. At the top of this SIP Bull move in 2019, the industry was signing on almost a million new SIP accounts a month, with monthly inflows of Rs 8,000 crores from the product. It was this growth in SIP flows that provided the domestic buy side with a massive and ongoing source of liquidity that kept the bull move going even after the market got overvalued.
For generations, the Indian buy side had fantasised about access to the household sector’s savings. Brokerage reports routinely salivated over the consequences of a doubling of household savings that went into equity; the argument went that a move from allocations of 2% to 4% would result in a doubling of flows, and that was just the take-off from a low base. Through the SIP, mutual fund fantasies were fulfilled, in fact exceeded, and large sums entered the market. Averaging products had been around for a long time. Benjamin Graham, the patron saint of the Indian buy side, had forcefully recommended them in his writings, which perhaps accounts for their popularity. Graham advocated dollar cost averaging because regular resort to the product captured the nominal upward swing of the market over the long run and eliminated the need to pick stocks.
Nevertheless, his recommendation applied to the US – a market with few government-sponsored fixed-income products like small savings schemes or post office schemes, and so a market where the opportunity cost of equity investing was low. By contrast, in India, the government distorted the fixed income side of the market with schemes such as post office savings products and national savings certificates, which, besides offering reasonable returns, also carried tax benefits. Like the SIP, these schemes were targeted at small savers, and they raised the opportunity cost of investing in equities.
SIP flows were sticky by philosophy and design, as their entire raison d’être revolved around socking away a monthly amount into the markets irrespective of market levels. When markets fell, the standard refrain was to stick to the plan because the same monthly amount bought a little more stock at lower prices.
For fund managers, this stickiness was an important part of the product’s attraction, as it counterbalanced the redemption pressures they had historically faced. Even occasional periods of market downturn made the SIP unattractive compared to the competing fixed income schemes, and handholding a fickle public through the downturn then became important. So, an industry of financial advisors pounded away at the message that SIPs were good for financial health. “Keep SIPping” became their mantra.
With the SIP, the democratisation of finance had begun. It is tempting to see this as inevitable in the world’s largest democracy, but it was actually a process of hesitant evolution and response to the market’s possibilities. TT Krishnamachari, the finance minister who created India’s mutual fund industry, portrayed the mutual fund as “an adventure in small savings,” and there is a continuity between that early 60s description and the success of the SIP.
When founded in 2006, the minimum monthly investment in the early SIPs was ₹500 (about $10); in early 2009, SBI launched a pilot scheme in Alibaug that lowered the bar even further by having ₹100 ($2) as the minimum amount.22 Accessing Wall Street for between $2 and $10 a month was unheard of in the US and most other countries – just transaction and intermediation costs would ensure that it was impossible – and yet in India it developed into a profitable business that came to be regarded as the market’s saviour. By 2019, the product accounted for 12% of the industry’s assets under management. Successful business in India often involves using technology to process huge volumes over small values, and the SIP is another example of that.
But be careful what you wish for; you might get it. Mutual funds now had access to a steady source of liquidity through the SIP, and the fundies proceeded to do the only thing they were supposed to do with it – they invested it in the market and brought about the SIP bull run. But as seen earlier, the corporate sector did not play along. Corporate earnings refused to grow in this period, and yet the SIP money poured into stocks, taking the market higher and making it more expensive. The usual bull market formula was that earnings grew faster than prices, and as a result, the market got cheaper as it went higher, or at least it did not get more expensive. This had happened during all previous bull runs and was most apparent in the Rate Bull. But in the SIP Bull, earnings grew slower than prices – in fact, earnings did not grow much – and as a result, the market got steadily more expensive, reaching 23 times earnings in 2017 and almost 30 times earnings by late 2019.
Like the Rate Bull, the SIP Bull was exaggerated by the lack of global diversification and the continued presence of the long corner. Without global diversification, the default asset allocation was only in India, and almost 100% of portfolios were invested in the country; as a result, the tidal wave of SIP money found its way only into the domestic market, often chasing second-rate paper and driving valuations higher. Another feature of the Rate Bull, the long corner, also continued to manifest itself as a result of the constraints on short selling and low free floats. As a result, that wave of SIP capital remained condemned to a domestic market whose listed companies refused to oblige with high earnings growth, whose buy side refused to invest overseas, whose microstructure exacerbated the situation with the short constraint, and whose promoters allowed for only low free floats. With the SIP, the fundies were hoist with their own petard and in danger of being bomb makers blown up by their own bomb.
In fact, SIP flows were so strong they even compensated for FII flows that abated when the global quantitative easing program wound down after 2014. The reverse happened when FII flows surged (as when quantitative easing resumed during the coronavirus pandemic), and the fundies then sold into such surges. Instead of diversifying globally, the DIIs used the SIP flows as a counterweight to the FIIs, and both sides crossed one another with uncanny regularity in the markets. Rather than compete with everyone else in an international asset market for returns, the DIIs saw themselves as defenders of a domestic market that had to be propped up at all cost when everyone else left.
Excerpted with permission from Running Behind Lakshmi: The Search for Wealth in India’s Stock Market, Adil Rustomjee, Hachette India/John Murray.
