How will credit growth affect the stock market?

The Relationship between Money Supply and the Stock Market

The central bank's monetary easing measures have been the driving force behind the expansion of the Vietnamese stock market (VN-Index) from the beginning of the year till today. The link between the M2 money supply and the P/E ratio of the VN-Index is the most dependable indication of monetary policy easing.

Since late 2021, these two indices have had a strong association. When M2 was constricted alongside the rising interest rate trend in 2022, the market value as indicated by the P/E ratio fell significantly. From late 2022 until the present, when M2 began to recover, market value also began to improve.

According to experts, one of the variables in predicting the VN-Index is for investors to grasp the oscillations and make forecasts about M2 in the future, therefore measuring the influence of monetary policies on the stock market. In other words, as the money supply expands, so does the stock market, reflecting the plenty of money in the economy.

Looking back on 2018, there were instances when M2 increased rapidly and then stabilized at a healthy level between 10% and 12%. The VN-Index also increased significantly at this time, reaching 1,200 points. This was mostly owing to an increase in foreign capital inflows into Vietnam, which might have been aided by the central bank absorbing foreign money and infusing Vietnamese dong into the market. Immediately following M2's quick development, the stock market responded favourably, and when M2 fell, so did the VN-Index. This is a typical illustration of the market-money supply relationship.

So, what elements have an impact on M2? The first is the central bank's interest rate reduction program, which has resulted in interest rates being decreased four times in a row since the beginning of the year. Short-term interest rates for manufacturing and company operations have been drastically reduced, driving loan demand, enhancing cash flow, and assisting M2 recovery.

Second, the central bank acquired considerable amounts of foreign exchange reserves in the first six months of the year, totaling more than $6 billion USD, or around 130 trillion VND. This money has been poured into the banking system and is helping to sustain M2 growth.

Third, contributions from the State Treasury have aided M2 expansion. Since the beginning of the year, the government has invested over half of all public funds, amounting to nearly 400,000 trillion VND, in the economy.

Despite signs of improvement, M2 remains relatively low in comparison to past years. The reason for this is the low GDP growth in the first and second quarters of 2023, which is expected to be about 3% and above 4%, respectively. In previous years, average GDP growth had to be in the range of 5-6%. Such sluggish growth reflects the economy's many problems, prompting both consumers and businesses to be wary of borrowing or investing even when interest rates have dropped dramatically.

The most striking signal of this prudence is the central bank's stated credit growth rate from the beginning of the year through August 29, which only reached a little more than 5.3% - a surprisingly low amount. As a result, the central bank's objective of 14% credit growth this year appears to be rather hard.

Aside from the reasons listed above, there is another important element relating to the real estate industry. Over 20% of total credit outstanding goes into the real estate market, according to official figures, and there are numerous unofficial loans that may be camouflaged inside manufacturing and economic operations but eventually find their way into real estate.

The real estate market's high reliance on credit growth has led in sluggish performance following the fall in 2022, leading credit for real estate development, particularly for projects, to drop from the beginning of the year till today.

The key here is how to enhance consumer and business household confidence, allowing them to propose production and business plans, seek more financing, and therefore promote cash flow circulation and, eventually, GDP growth.

Furthermore, for M2 to actually flourish as it did in the peak times of 2020-2021 and earlier, the real estate market must rebound. Even with favorable policies, this may be difficult in the short run. Long-term market vitality restoration is a more challenging issue.

Scenarios for M2 Growth

There is still optimism and faith in the development of credit growth and money circulation till the end of the year. The overall retail sales of products, which indicate consumer spending in the economy, are the foremost cause for this confidence.

In particular, Vietnam's overall retail sales of items have increased in recent months. When compared to prior years such as 2020-2021-2022, 2023 maintains a consistent pattern, with retail sales even greater than in previous years. Retail sales climbed by 7.6% (515.4 trillion VND) in August compared to the same month last year, reflecting strong consumer spending and shopping activity.

Another factor to consider is the very cyclical nature of goods retail growth within a year, which frequently bottoms out in the early months after the Lunar New Year and progressively rises, peaking shortly before the next Lunar New Year. As a result, the framework for 2023 is already in place, albeit with certain familiar challenges. In keeping with this cycle, we should predict a commensurate increase in overall retail sales towards the end of the year.

In terms of global commerce, investors might look at Vietnam's products export numbers to the rest of the globe, where the export turnover remains relatively low compared to the same period in 2022. However, 2022 was the year that Vietnam's key commercial partners, including as the United States and the European Union, reopened following the COVID-19 epidemic, resulting in a jump in Vietnam's goods consumption.

There is still a reduction in comparison to the present high level. However, when looking at monthly numbers, export turnover has been steadily increasing over the past five months. According to official figures, we may expect ongoing increase owing to variables connected to year-end consumer demand in the United States and the European Union, as well as low inventories of US and EU importing enterprises.

As a result, with FDI exports, Vietnam is likely to maintain advantageous exports, particularly for traditional commodities such as textiles, leather and footwear, and seafood. As a result, Vietnam will continue to run a trade surplus and bring in foreign money to help the central bank regulate its exchange rate. If exchange rates stay favorable, the central bank may use the surplus entirely to replenish foreign exchange reserves and infuse Vietnamese dong into the economy, as we saw in the first half of the year.

Regardless, the central bank's purchases of foreign currency are intimately linked to exchange rate difficulties. However, in terms of imports and exports, the greater our trade surplus, the more it would boost M2 growth.

Finally, from March and April to the present, the VN-Index has rebounded strongly, reaching approximately 1,200 - 1,240 points. Many investors are wondering if we can anticipate more in the last months of the year, especially since the VN-Index has increased and P/E ratios have beyond the norm. The variables listed above are critical considerations for investors.