Markets Mispriced UK Referendum Completely
While there has been a knee-jerk reaction in the Indian market, investors should take heart from the fact that the dip has not been huge
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The world markets misread the Brexit vote. And how. Till yesterday, the stock markets were pricing in a 'remain' vote, with most global markets up anywhere between 1-2 percent last week. Indian markets too were looking up to levels of 8,400 on the Nifty.
Now that the results of the referendum have come as an unexpected surprise, the markets are doing their thing - readjusting the prices across the financial markets. Normally, stock markets usually have the first mover signs of such a major change. Gold, too, remained subdued just before a major vote signaling calm in the UK markets. But the markets can get it wrong too.
The first major re-pricing is happening in the currency markets. The British pound has lost around 8 percent. The Indian rupee has lost considerably and breached levels of Rs 68 to the dollar. The re-pricing will happen across other currencies. The Chinese yuan, which is pegged to around 13 currencies, could see a devaluation. This will change the contours of global trade.
Second, an adjustment in the global currency markets is impacting equity markets. In an increasingly globalised world, even small changes in the currency markets can cause a flutter in the world financial markets. As a result, financial markets can remain disrupted for some time till the currencies find a level at which they settle down.
The mis-reading of a 'yes' vote is likely to linger on the sentiments for a while, and the major stock indices are expected to meander for some time. Whenever markets mis-price an asset class and when there are news events that cause a major re-pricing, the reactions are bound to be huge. So it's no surprise, the Sensex has lost around 1,000 points.
But while there has been a knee-jerk reaction in the Indian market, investors should take heart from the fact that the sudden dip has not been as severe. The broader indices have corrected only around three odd percent, which is increasingly shows that the Indian markets have taken the current events in their stride.
Nevertheless, from a valuation standpoint stocks have been trading at above-average valuations at about 19 times earnings. And that had made the Indian markets vulnerable to a global shock. So, it is fairly normal that the world markets are reacting the way they are.
There's no doubt that in the near term the volatility will continue. And while the prognostications are still being made on the final implications of the 'leave' vote in UK, global investors are not expected to return to Indian anytime soon too.
For now, investors should not dismiss the event too early, nor fret about the markets for a long time. In a few weeks, calm will return; till then, staying on the fence is warranted. But only till the dust settles.