Market Sense — 059 (July 2022)
The Quarter Gone by!
The first three months of the financial year had been very bad for the economy and markets worldwide. With the rising inflation across the world, high oil prices, increasing interest rates, dwindling forex reserves the period had been one of the worst since the Financial Crisis of 2008.
Sentiment in the equity markets is at extreme lows. A Bank of America survey of global fund managers, found that global growth optimism was at an all-time low, that fear of stagflation was the highest since the Global Financial Crisis, and their outlook on corporate profits the worst since the Lehman bust.
The Central Bank Bull Market has come to an end, and is being replaced by a Central Bank Bear Market. The future is going to be tumultuous for the economies and markets worldwide. Weak economies such as Sri Lanka, Nepal, Pakistan in our neighborhood and countless more are in deep crisis. The prices of essential commodities viz., food, cooking oil, petroleum products, metals etc., have gone through the roof. This has impacted the consumer demand across the world and inflation has started biting hard.
Apart from the economic issues, the Ukraine Russia War and the ill-conceived Western sanctions on Russia has pushed the prices of Oil, metals, coking coal, cooking oil, wheat etc., to the roof. Many European countries are staring at the prospect of rationing of energy.
FIIs have withdrawn over USD 40 Billions from the Indian Markets over the last 6 months. The daily sales goes unbated only to be partially made up by Indian Domestic Investors. This has ensured that the crash in markets is not as deep as the last time when similar selling happened.
The Wealth Effect
The Wealth effect is the economic phenomenon in which individuals spend more when stock prices increase and as a result, equity portfolios are increasing in value. They do so because their sense of the perceived value of their wealth is increasing. This, increases consumer spending and are directly correlated to increases in the value of stock portfolio or even house property.
The wealth effect examines how a change in personal wealth influences
· consumer spending and
· economic growth.
Rising wealth has a positive impact on consumer spending.
A major form of wealth for many households is the value of their house. If house prices, increase, then it tends to cause a positive wealth effect. Similarly, a fall in the value of wealth can have a negative impact on consumer spending and economic growth.
The impact of a change in wealth
If households see an increase in their personal wealth, it will have the following effects:
· Increase in confidence to spend, borrow and take risks.
· Increased ability to re-mortgage and take equity withdrawal. A bank is maybe willing to give you a bigger mortgage. This means you can spend more.
· Increased wealth can lead to higher income. Higher wealth may enable higher income from dividends, rent or interest.
Impacts on Banks and Government
· Rising house prices will have influence on banks. With rising house prices, they may be more willing to lend mortgages.
· Governments will see rising tax revenue — if they have taxes on wealth, such as stamp duty.
Conclusion
The wealth effect is a behavioral economic theory suggesting that people spend more as the value of their assets rise. The idea is that consumers feel more financially secure and confident about their wealth when their homes or investment portfolios increase in value. They are made to feel richer, even if their income and fixed costs are the same as before.
Wealth effect happens during booming economic times which pushes the economy further and further and vice versa during economic recession.
Happy Investing …..