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India Strategy : A Tail of Two Risks
Key Issue: What are the key tail risks for India?
Our views: While market participants appear
completely aware of the domestic risks to growth
(arising from persistent inflation, rising rates,
government inaction and alleged corruption cases),
India’s tail risks could actually come from overseas. The
alertness of the market to the tail risks seems high if the
put-call ratio, implied volatility and historical VaR are
indicators. That said, the sources of risk could be
different from what the market may be pricing in. To us,
the most pertinent risks are crude oil prices and global
equity markets. India’s return correlation to both of these
has dropped significantly. The trailing three month
correlation between Indian equity returns and changes
in oil price is currently negative whereas the correlation
with the SPX is close to multi-year lows
This is important because if oil prices are rising, they
may take Indian equities back to the situation they faced
in 2008. If along with rising oil prices, global equities fall,
the prospects for Indian equities could become grim.
However, the difference with 2008 is the level of
skepticism that is already baked in the price as well as in
market positions (Exhibits 3,4 and 5) as we point out
above – rising put-call, implied volatility and historical
VaR. Hence, the surprise for market participants could
be a muted reaction from Indian equities to these events.
Investors need to note that short-term correlation is a
volatile mean reverting variable (the negative correlation
with oil can turn positive and vice versa with SPX).
Conclusion: No doubt, rising oil prices and a sell off in
global equities are possibly the greatest risk factors to
Indian equity performance but investors also need to
see the price and position in the market place before
extrapolating the possible impact.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
India Strategy : A Tail of Two Risks
Key Issue: What are the key tail risks for India?
Our views: While market participants appear
completely aware of the domestic risks to growth
(arising from persistent inflation, rising rates,
government inaction and alleged corruption cases),
India’s tail risks could actually come from overseas. The
alertness of the market to the tail risks seems high if the
put-call ratio, implied volatility and historical VaR are
indicators. That said, the sources of risk could be
different from what the market may be pricing in. To us,
the most pertinent risks are crude oil prices and global
equity markets. India’s return correlation to both of these
has dropped significantly. The trailing three month
correlation between Indian equity returns and changes
in oil price is currently negative whereas the correlation
with the SPX is close to multi-year lows
This is important because if oil prices are rising, they
may take Indian equities back to the situation they faced
in 2008. If along with rising oil prices, global equities fall,
the prospects for Indian equities could become grim.
However, the difference with 2008 is the level of
skepticism that is already baked in the price as well as in
market positions (Exhibits 3,4 and 5) as we point out
above – rising put-call, implied volatility and historical
VaR. Hence, the surprise for market participants could
be a muted reaction from Indian equities to these events.
Investors need to note that short-term correlation is a
volatile mean reverting variable (the negative correlation
with oil can turn positive and vice versa with SPX).
Conclusion: No doubt, rising oil prices and a sell off in
global equities are possibly the greatest risk factors to
Indian equity performance but investors also need to
see the price and position in the market place before
extrapolating the possible impact.
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