Is the Sensex obsession justified? (Real versus financial economy)

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 Is the Sensex obsession justified? (Real versus financial economy)

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• Tracking the indices: Stock market indices are tracked by everyone, though they're not reflecting what they should – real  economic situation of India. Reality is – sluggish growth rates, low employment creation, low investment etc.
• Focussed attention: But the Sensex gets undivided attention of the media, and the govt. also tries to keep things in good humour. Is the Sensex realistic?
• What is the Sensex?

1. It's supposed to represent the entire capital market, just like the Nifty for NSE
2. After all major announcements by govt (for any sector), the Sensex is tracked
3. Impact of policy announcements may last for a few hours or a day of trading at the most

• What policymakers think: Logic is that if capital markets do well, companies can mobilise more capital and invest more. That capital formation helps future growth. But actual data tell a different story.
• 2017-2019: GDP growth slowed down, but Sensex moved from 29,620 (2016-17) to 38,672 (2018-19). Today, GDP growth is crashing to below 5% mark, and Sensex is reaching new heights daily! (beyond 40,000)
• Data analysis: Refer table image. Growth in net profit is for the 30 Sensex firms. Mutual funds and FPI flows are in rupees, and GFCF is in % of GDP. The 'Coefficient of correlation of change in Sensex' is mapped with these variables.
• Range of the Coefficient: It ranges from 0.25 to 0.32, and highest is for net profit growth (correctly). The highest at 0.32 for net profit (actually not too high) shows that high changes in net profits also do not deeply impact the Sensex. Its value is low for GDP growth, but direction of change is related.
• Low correlation: Since 0.32 is not too high, it does show that net profit is not the only thing driving the Sensex. Other factors that impact – expected future earnings, expansion plans, governance changes etc.
• GFCF link: The Sensex is negatively correlated with GFCF. So when Sensex grows rapidly, GFCF growth rate declines! So stock markets are actually not linked with investment activities. So incentivising stock markets does not push investments, really.
• Why this gap: It is due to only 30 stocks making up the Sensex, of which 12 are in IT and Banking (low capital needs).
• Relation with Mutual Funds and FPI: Surprisingly poor links is seen, whereas both impact and are impacted by the Sensex. (direct investors)
• Learning: Sensex is governed by many factors, not all within our analytical grasp. It is better to be not too dependent on such an index. 
• Summary : To be extremely dependent on Sensex as a barometer of national economic activity is to make a big mistake.

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