Market: Could the Fall of 2006 Offer a Playbook for D-Street Investors?

Mumbai: How much will Indian equity fall from its current level in the face of accelerating inflation? While market participants are struggling to find an answer, they look to a time in 2006 when a sharp rise in inflation led to a decline in stock prices.

In May-June 2006, the Sensex and Nifty fell 30% as consumer inflation rose to 7.26%. In April 2022, consumer inflation remained stable at an eight-year high of 7.79%, with the Nifty falling nearly 7.4% in May amid higher concerns over monetary tightening by central banks to control inflation.

Pankaj Chawcharia, an analyst at Antique Stock Broking, said: “The current revision reminds us that a sharp fall between May and June 2006 has led to a rise in inflation and a sharp rise in policy rates has led to a drop in demand.” “By analogy, corrections are driven by metal and small caps when defensive out-performs. However, the main difference is that FMCG among defenders performed well in the current correction, while IT services performed better during 2006.”

The period of high inflation is not conducive for the stock market as rising prices raise central bank interest rates and put corporate income under pressure.

The market width so far in May was better than in 2006. This month, only 45% of NSE-500 stocks performed less than 70% in 2006. The 2004-07 bull market saw two sharp corrections of 30%.

FPIs sold ₹ 6,800 crore in May-June 2006, while they have already sold ₹ 22,000 crore as of May 1, 2022. Despite aggressive selling by foreigners, buying from domestic institutional investors has controlled losses in the Sensex and Nifty – mutual funds and insurers, which have been flooded with retail flows.

“A stronger dollar in the US and rising bond yields could lead to more FPI outflows amid rising inflation in India and a negative RBIO coming from behind the curve is negative for the market,” said VK Vijayakumar, chief investment strategist. “However, a 30% correction from the maximum is unlikely. If the market corrects another 5% from here, the valuation will become attractive, and DII, HNI and retail investors will buy aggressively by blocking sharp slides.”