Explained: Does India's Stock Market Mirror The Indian Economy?

As recently as last week, the economic announcement pertaining to RBI suddenly hiking the interest rates left the Indian stock market bleeding.

What followed was this becoming one of the biggest news that dominated the pink paper headlines and the economic/business section of national dailies, right?

But why did it happen? Why did an economic announcement jolt the stock market? Does it happen every time? Do the stock market movements reflect the economic scenario of the country? Or vice versa?

If you too are puzzled about all this, let's decode this for you.

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Firstly, its important to understand the implication of ups and downs in stock market. Broadly saying, let's consider the two national stock indices, the Sensex and Nifty.

If the Sensex or Nifty climbs up, it implies a rise in the prices of the stocks of some or most of the major companies listed in the BSE and/or NSE. On the other hand, if the Sensex goes down, it indicates that the stock price of some or most of the major stocks listed on the BSE and/or NSE has gone down.

These stock market indices' movements reflect the movement in the portfolio stocks of that index and are often seen as an indication of the market sentiment.

Now, the reasons for such ups and downs can be one or many, like regulatory changes in a particular sector such as taxation, or company-related news/changes, credit rating risk, interest rate risk, inflation risk, liquidity risk, etc.

Sometimes even external factors come into play, such as the ongoing Ukraine-Russia war¡¯s adverse impact on stock markets around the world. And who can forget the stock market crash of 2020 which was during the onset of Covid-19 pandemic. Both these instances in recent years had jolted the stock market.

While such instances do reflect that negative economic happenings in the economy make the market bleed red, there have been instances when the market has shot up even when the economic situation was worrisome.

Like in 2020, even though the market rebounded strongly from the March crash and ended 2020 at nearly 14,00 mark (Nifty), the real GDP fell over 7% ($2.62 lakh crores in 2020 vs $2.87 lakh crores in 2019).

Conclusion?

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Also Read: Why Stock Market Downfalls Are Actually A Buying Opportunity

While many instances of economic turmoil have indicated the direct impact it has on stock markets, few instances have seen otherwise, like the one stated above. That's why its fair to say that economy and stock market are not always in sync but more often than not they are inter-related in numerous ways.

It's difficult to say a clear yes or no to the question of if and how stock market movements are related to the economy, and the extent to which it is, if yes.

That's because we need to remember that both economy and stock market scenarios and movements are impacted by not one but multiple factors, so it's not necessary that they both move in tandem and/or are always reflective of each other.

Coming back to the recent instance when stock market bled last week upon RBI's repo rate hike.

Given that repo rate hikes signal an expected rise in lending rates soon, which means people would have to shell out more from their pocket for new and existing loans, it creates a negative sentiment in the market, which reflects in the stock market downfall itself amidst panic selling as well. On the other hand, had the repo rate been reduced, it might have created a positive sentiment that could have boosted instead of jolted the market.

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