Profits in stock markets can primarily be made in two ways – technical analysis or fundamental analysis.
The former focuses on the movements of price to look for patterns that predict a higher probability of future prices on one direction than the other.
The latter school of thought studies the ground reality of the company, its industry and sector, and the economy in general and then sees if the stock of the company being evaluated is over-priced, fairly-priced, or under-priced.
Now, the Indian stock markets have been on an unbelievable rally from the fall the Indian and the global stock markets took around April last year. All estimates of a fall in stock prices have been nullified by the accelerating Bull Run.
Of all the sectors, one sector has the caught the eye of Shaktikanta Das, the Governor of the Reserve Bank of India. This sector is a heavyweight in the benchmark indices of the Indian capital markets SENSEX and NIFTY 50.
The sector in question is banks. Non-Performing Assets (NPAs) are a bane of all financial institutions as lending is an integral part of their business and from those loans; some invariably default or practically have no hope of any recovery. Understandably, NPAs eat a financial institute from the inside and if the ratio passes a threshold, then it may signal an eventual end of the company.
It its semi-annual Financial Stability Report, the central bank observes that the non-performing asset ratio is forecast to rise to 13.5% by the end of September from 7.5% a year ago.
The central bank noted, "Domestically, corporate funding has been cushioned by policy measures and the loan moratorium announced in the face of the pandemic, but stresses would be visible with a lag."
It further continued, "This has implications for the banking sector as corporate and banking sector vulnerabilities are interlinked."
The utterly unexpected and equally devastating pandemic COVID-19 beat down banks all over the world as the borrowers had difficulty paying back debts. The Indian banks were already weakened by shadow lending frauds which spanned two years.
The RBI fulfilled its roles and enacted many measures. As noted, these measures may have delayed the bad-debt issues to surface.
The report continues, "Congenial liquidity and financing conditions have shored up the financial parameters of banks, but it is recognised that the available accounting numbers obscure a true recognition of stress."
Further, "It is in this context that banks must exploit the congenial financial conditions and the conducive policy environment to plan for capital augmentation and alterations in business models that address emerging challenges."
It is worth noting that a derivative product based on Financial Services Index has been launched recently. Also, the Nifty Bank index has risen from a low of 16,000 from last year to about 32,000 recently.
Of course, every participant in the capital markets does so at his risk, and this update from RBI provides each one of us with further information to guide us in our next actions.