Why are the markets falling?
Our goal with The Daily Brief is to simplify the biggest stories in the Indian markets and help you understand what they mean. We won’t just tell you what happened, but why and how too. We do this show in both formats: video and audio. This piece curates the stories that we talk about.
Check out the audio here:
In today’s episode, we look at 3 big stories:
Why are the markets falling?
Will the US Federal Reserve make an emergency rate cut?
Why are tractor sales falling?
Why are the markets falling?
The markets are a strange place. Investors and traders crave certainty, yet that's the one thing you can't get in the stock market. Most traders and investors expect trends to continue. When times are good, they think the good times will last forever. When times are bad, they think the bad times will go on indefinitely.
Things have been pretty good this year. Despite some minor bumps, global markets have steadily risen. But now, trouble seems to be brewing.
August has started on a rough note. Yesterday, the Nifty 50 dropped by over 2.5%. Last week, US markets were down by 3%, but the real bloodbath was in Japan. Over the last five days, the Nikkei, which is Japan's equivalent of the Nifty, has plummeted by almost 18%.
So, why are the markets suddenly falling?
The honest answer is—nobody knows. We all hate uncertainty and crave explanations for every market event. But let’s take a moment to think about what the stock market really is. It’s a meeting place where millions of people come together to express their bullish or bearish views. What we see as a result is one single price on our screen.
How can we possibly say why the market goes up or down, not just yesterday but on any day?
That said, we can guess the probable causes for why the markets seem depressed if they do.
In the short term, markets move more on sentiment and flows rather than fundamentals. Since last week, sentiment has been absolutely terrible.
Possibly the biggest factor causing the markets to fall may be what’s happening in Japan.
Let me give you some quick background:
The Japanese real estate bubble burst in the 90s, and along with real estate prices, the Japanese stock market crashed as well. It took over 30 years for the Japanese stock market to recover from these losses. The crash also led to a prolonged period of low economic growth and low inflation or deflation. In response, the Bank of Japan started aggressively cutting interest rates. By 1999, interest rates hit zero, and they stayed near zero and sometimes even negative from 2000 to now.
This deflationary bust had a peculiar side effect. It led to the rise of something called ‘carry trades’. In simple terms, a carry trade is where a trader borrows money in a low-interest-rate currency and then invests in higher-yielding assets. For example, Japan has zero interest rates, and US government bonds yield 3%. You can borrow in yen at a low-interest rate and invest in US dollar assets like US government bonds. The difference is your profit.
Sounds simple and attractive, right?
Well, yes and no. This trade will do well as long as the Japanese Yen depreciates or if Japanese interest rates stay the same or fall. But if the Yen or Japanese rates rise, you make less money or lose money. On the flip side, if US interest rates or the dollar start falling, you lose money as well. For a carry trade to be successful, the currency in which you are borrowing should ideally remain stable or depreciate against the currency in which you are investing.
The Japanese Yen has been weak against the dollar for decades, barring occasional spikes. This made the yen the favorite borrowing currency for carry trades. Large traders, hedge funds, and other institutions would borrow in yen and invest in dollar assets like bonds and stocks. Some would even leverage these trades further.
The Yen was weak for much of this year but suddenly started weakening in the run-up to the Bank of Japan’s meeting on July 31st. In that meeting, the Bank of Japan increased interest rates for the first time in a long time, and the Yen appreciated dramatically after.
Now, if you remember, the Yen going up is bad for carry trades. Suddenly, all the people who had borrowed money in Yen were making less money on this carry trade and some were even losing money. So they were forced to close the trades, like going long on US bonds and stocks funded by Yen.
This puts further pressure on the yen. A rising yen is bad for an export-oriented economy like Japan. This negativity, along with deleveraging of Japanese domestic investors, selling by foreign investors in Japanese stocks, and further short positions by investors, is leading to a vicious feedback loop. I’m oversimplifying, of course, but this is the gist.
The other big factor causing turmoil both in Japan and globally is the perceived deterioration of the US economy. Last week, the US released disappointing jobs data. This is causing concerns that the US Federal Reserve might have made a mistake by keeping interest rates high, which will inevitably lead to a recession in the US. If the US sneezes, the rest of the world catches a cold.
And given that sentiment drives markets in the short run, the Indian markets are not immune to these bad vibes.
Will the US Federal Reserve make an emergency rate cut?
Whether US central bank officials admit it or not, they care about what the stock market does. Right now, the US stock market, just like the Japanese market, isn't looking great. Early last week, the expectation was that the Fed would cut rates once by 0.25%.
However, given last week’s 2% fall and the potential for further declines, the markets are now pricing in a 0.5% rate cut in September. Some even believe that the Fed could call an emergency meeting and start cutting rates before September. This is a low-probability event, but it's still on the table.
Remember, in 2018, the Fed decided to stop hiking rates as the US markets fell. So, whether the Fed admits it or not, it cares about what the markets do.
But why are the US markets acting like a depressed teenager all of a sudden?
As I mentioned earlier, it's impossible to pinpoint why markets go up or down. But we can look at some potential factors. Here are a few things that might be worrying the US markets:
The unwinding of the yen carry trade is causing a sell-off in US stocks and bonds. The US 10-year bond yield is below the 4% mark for the first time since 2023. This is due to possible selling of bonds by carry traders, the increasing probability of a rate hike, and the bond market pricing in a deteriorating US economy.
The US markets might be worried that the Fed is late in cutting rates. By keeping rates high for longer, the Fed might have all but guaranteed a recession.
The latest US jobs data shows that the unemployment rate is rising and is currently at a three-year high. That’s not good news. A rising unemployment rate signals a weak underlying economy, further confirmed by slowing US manufacturing activity.
There are concerns about a slowdown in earnings for AI-driven companies like NVIDIA, Intel, Amazon, Microsoft, and others. These companies saw massive rallies with hopes that AI would transform everything, leading to skyrocketing earnings. However, the market might be re-evaluating these narratives.
Issues like the ongoing conflict between Iran and Israel are adding to market anxiety.
The potential for a Trump presidency is causing additional concerns.
No one can tell you definitively why the US markets are falling. It could be one of these reasons, or all of them combined.
Why are tractor sales falling?
Every month, FADA, or the Federation of Automobile Dealers Association, releases data to showcase the performance of the Indian automotive market. The automotive space is particularly interesting and exciting because it gives us a strong sense of the overall economy. Also, with the rise of EVs and CNG vehicles, there is a lot of investor interest in this area. So, I thought, why not talk about some interesting automobile-related insights from this report in this story?
For starters, the overall auto retail sector did fairly well, growing at 13.84% year on year. But if we break things down, the insights become much more interesting.
Sales of 2-wheelers, 3-wheelers, passenger vehicles, and commercial vehicles all rose after a relatively quiet previous month. On the other hand, tractors continued to see a big drop in sales.
Tractor sales fell by almost 12% year over year, after falling by as much as 28% last month. This can mainly be attributed to uneven monsoons and intense heatwaves that affected agricultural produce across the country. For example, the sown area of Kharif crops has declined by about 2.4% since July last year due to climate change. This could be a significant reason for the drop in tractor sales. Another reason could be the high sales of tractors last year, which may have resulted in reduced sales this year. To give you context, tractor sales were up 21% as per FADA’s July 2023 report.
But apart from tractors, all other segments saw positive growth this time. The largest growth was in the 2-wheeler segment, which rose by 17% year-on-year. This was due to a recovery in India’s rural economy and the prospects of improved monsoons. Now, in case you’re wondering why I’m talking about rural demand, data suggests that over 55% of 2-wheeler sales in the country come from rural areas.
Talking about EVs, the FADA report shows that the sale of electric 2-wheelers has risen, but at a slow pace. OLA Electric, which is the market leader, grew from having a 1.58% market share in July 2023 to having a 2.88% market share in July 2024. Ather, on the other hand, grew from 0.54% to 0.70% during the same period. This could be due to the expiry of government subsidies on EV vehicles. The government is yet to introduce a new incentive scheme to encourage people to buy EVs. Tata Motors announced its results and mentioned that EV car sales were impacted by the expiry of subsidies.
The FADA report did not provide insights on CNG vehicles, but sales here had jumped by 38% to 1 million units in the previous fiscal year, making it a red-hot segment too.
In the passenger vehicles segment, the inventory surged to 67-72 days, which is valued at approximately 73,000 Crores. This means there is a massive amount of capital tied up in unsold vehicles. This is due to a combination of factors like heatwaves, elections, etc.
Source: ICRA
Because of this, there’s increased competition among manufacturers and heavy discounting in the segment. Things, however, should get much better in the coming months because of the festive season. Many people postpone their buying decisions to wait for a more auspicious occasion to buy vehicles. This will likely impact auto sales positively while also clearing out their inventory to a large extent.