Is the Bull run over for equity markets?

Continuing from my last post on behavioral finance, the recent fall in the equity markets confirms the fickleness of human mind, when it comes to taking decision about our finances. Retail investors who were all gung-ho on the markets around Diwali, are now panicking and asking the question whether bull run is over on the markets? To answer this question I shall rely on the three different approaches to analyse the future of the markets:

• Fundamental Analysis: We all knew around Diwali that the markets were over stretched on fundamentals, and excess liquidity was driving the momentum stocks. So once the liquidity crunch was observed, after the unearthing of a series of scams, the momentum stocks in the realty and infra sectors were the worst performers. These stocks were beaten down to such ridiculous levels that quite a few of them are looking attractive at current levels. The positive GDP numbers announced today are pointing to the fact that the worst is over for the markets from the fundamental point of view, at least for now. The markets can expect some positive news flow from the international markets also in the days to come.
• Technical Analysis: The unabated run of our equity markets from the Nifty level of 4800 to 6300 did call for a technical correction. The markets have retraced around 40% of the above rise, which is close to the 38.2% retracement level held sacred by technical analysts. The bounce back on the markets was widely anticipated from the 5700 levels on the Nifty, and the markets have obliged. Given the oversold position of the markets the bounce back could be ferocious. The beaten down sectors shall be at the fore front of the rally. The technical correction seen by the markets is good for the long term health of the markets. 
• Astro Analysis: While analysing the markets I would like to give equal weight age to the astrological angle as the other two factors. Human behaviour is determined by the confluence of planetary configurations, and stock market behavior is no exception. As I am no expert in this area I would like to quote what the famous astrologer Lachman Das Madan had said in October: "Within a period of about one month from 6th November 2010 financial institutions, members of security forces, business people, diplomats, youth, sports people etc. are likely to be accused of corruption and illegal activities and actions are likely to be initiated against them". You can analyse the correctness of this astro prediction. The unearthing of scams one after another was influenced by the planetary configurations. The malefic affect of the planets now seems to be diminishing, hence we can soon expect business as usual in the markets.

In view of the above I would like to conclude that the Nifty and Sensex are likely to surpass their previous highs of 6300 and 21000 respectively by the year end. How much beyond these levels can the markets rise will largely depend on the liquidity flows. It seems that Christmas festivities have begun with the positive flow of economic data, India reporting 8.9% GDP growth in 2nd quarter. But this does not mean that the bad news is fully discounted by the markets. Behavioral finance tells us that human beings are in a state of denial to bad news when it first strikes, but gradually tend to accept it over a period of time. The bad news like the follow up on 2G scam and the Bank bribery scam will again come to haunt the markets around Budget time in February 2011. Coupled with bad news on economic recovery, or the lack of it, from European markets may spell doom for the markets again. The downward movement at that time could take the markets back to the sub 5500 levels on the Nifty again. This does not mean that the bull market is over, it only is a pointer to the fact that investors should keep booking partial profits whenever markets provide that opportunity.

Behavioural Finance: Investors do react to newsflow

The recent correction in the stock market has send shock waves down the spine of retail investors. Many of them who have entered the markets at higher levels are frantically calling their brokers/ advisers on the future course of action. This behaviour can be explained by understanding the concept of 'Behavioral Finance'. Behavioral Finance, is a study of investor market behavior that derives from psychological principles of decision making to explain why people buy or sell the stocks they do. Behavioral finance places an emphasis upon investor behaviour leading to various market anomalies.

Contrary to popular belief, studies reveal that  investors perceive bad news as less credible (i.e., are more optimistically biased) than good-news management forecasts and discount bad news accordingly. For this particular reason, investors remain in a denial mode in discounting the bad news in respect of the stocks that they hold. Behavioral finance tells us that most investors are most vulnerable to losing their principal investment, and thus continue to hold onto a particular stock, more so when adverse conditions have pushed the stock price below their purchase price. They are always hopeful that the market would reverse sooner than later, and they will recover their original cost. This behavior is also the stepping stone of 'Technical analysis', taking into account the support zones of stock prices.

But the bad news is discounted by the investors/ markets, albeit with a time lag. What we are witnessing now is the reaction of the investors to all the accumulated bad news. In the recent bull run that continued till Diwali, investors continued to ignore both international and national bad news when it unfolded initially. The Greek debt crisis and the slowdown of industrial production in India, were initially shrugged aside and the markets continued their upward march unabated. It took the unfolding of the political scams in India to put brakes on the markets. It is fortunate for the investors that the much awaited correction has started, which gives an opportunity for investors to re-enter the markets at lower levels. Await some more bad news to get discounted, before committing large funds into the equity markets. A 10-12% correction from the recent highs will be good for the long term health of equity markets.

Samvat 2067: The charge of the 'Bull'

We are in Samvat 2067 of the Indian calender which commenced on 16th March 2010. However, stock market traders view Diwali as the start of the new Samvat. Diwali is the time to review the performance of the stock market for the past one year. The year gone by has been an eventful year for the stock markets, and the new Samvat 2067 has commenced on a positive note with the BSE Sensex scaling a new closing high of 21004 at the close of the 'Muhurat' trading on 5th November. Before we proceed to analyse the year ahead, I would like to recall my observations on Samvat 2066, put up on my blog on October 18 2009, under the caption: 'Samvat 2066: Return of the Bull Run!'. I had written: 

• Markets are poised to retest the earlier top of 21000 on the Sensex by Diwali next year. We have to keep our fingers crossed to see whether it happens or not.
• The growth in profits during 2010-11 will ensure that valuations become attractive in the second half of FY 2010-11
• Specific sectors that are likely to outshine are those which focus on the domestic growth story: Retail, Pharma & Healthcare, FMCG, Media, PSU Banks, Hotels & Tourism.
• There is no doubt in my mind that the 'Mother of all Bull Runs' has arrived. Stay invested, add on declines to profit from the India growth story for the next 3-5 years.

However, I must admit that I was hopeful of a 5-10% correction during the middle of the year which never occurred, leading to a sustained bull run to the previous highs of 21000 on the Sensex (6300 on Nifty), achieved on Diwali day. Now for the crystal gazing for 'Samvat 2067':

• I would like to re-iterate that the 'Mother of Bull Runs' is on. 
• Technically, supported by the massive liquidity overhang, the markets are still in an uptrend. A strong base seems to have been created around the 5600 levels on the Nifty, which should hold as the base in the next correction, whenever it occurs.
• Fundamentally, the performance of companies has been reasonably good. The stretched valuations at this juncture would seem justified if inflation is tamed by the end of FY 10-11.
• Astrologically, according to eminent astrologer Bejan Daruwalla, Samvat 2067 will be excellent for the Indian economy and our markets. Barring a downturn from January 2011- May 2011, markets will be in the grip of bulls.

Considering the above facts, most market analysts are hopeful of Nifty scaling 7000 levels by next Diwali, which is a reasonable expectation. I am sanguine that this target is likely to be achieved by next Diwali. But given the risk-reward ratio for equity investment, a 10-11% yearly return is not the risk worth taking. Therefore, new investments should be undertaken only after a 5-10% correction from the current levels. The second important factor for taking advantage of the next up move in the markets would be the identification of right sectors. My sector bets for Samvat 2067 would be: Tourism & Hotels, Aviation, Auto motives, Paper products, Media & Entertainment, Health care.

Wishing you all a Happy Diwali and Happy Samvat 2067.