Dark clouds on the horizon: Where is your 'Umbrella'!

We saw it coming, yet chose to ignore the reality. Today analysts are screaming about the market mayhem and the crisis that plagues the world markets. But the seeds of this crisis were sown much earlier. To understand this situation we need to understand human psychology and more precisely 'Investor psychology'. It is a human tendency to delay the inevitable, we continue to be in a state of denial till we are forced to accept the reality. Consider this:

• The Greek debt crisis was unearthed at least 9 months ago, but we waited all this while to appreciate the depth of the 'Eurozone crisis'. More and more nations including Spain and Italy are today being labelled as 'Economies on the verge of collapse', threatening the very existence of Euro as a common currency.
• The US debt/ liquidity problems came to the fore almost a year ago, but were conveniently pushed under the carpet in the garb of 'Quantitative Easing' commonly referred to as QE1 and QE2. The artificial liquidity pumped into the markets was like giving oxygen to a critical patient. Today everybody is talking about a 'Double Dip' recession in the US.
• The Commonwealth Games scam was reported in media in September 2010, even before the start of the games, closely followed by the CAG report on 2G scams. The Indian markets conveniently underplayed the collateral damage to governance for almost one year. Today the threat to the existence of UPA II has become a reality.
• The menace of inflation in India started raising its ugly head since June 2010, but the Govt. continued to maintain that inflation will be tamed soon, only the date getting extended every time. Inflation still quotes around 9% with the chances of a double digit inflation staring the economy. The Indian economy was tipped to grow at over 9% at the beginning of the decade, despite bottlenecks. Today analysts are sceptical of even 7.5%.

Sounds quite illogical and funny at times, but that's the way humans behave. This is a subject matter of 'Behavioural Finance' which tells us about the irrational behaviour of 'Investors'. Today the newspapers/ media are filled with negative news on markets, scaring the already confused investors further. What should the investors do at this juncture:

First and foremost, the investors must realise the fact that the party on 'Dalal Street' is over for the time being. Equity markets have slipped below the tight range of 5200-5700 on the Nifty. The market has confirmed a trend of lower tops and lower bottoms, the VIX (volatility index) has zoomed 25% on Friday, which shifts the new range of the markets downward to 4800-5300 in the medium term. However, the markets are likely to give a bounce of around 4-5% during next week, due to short covering. It should not be construed as a sign of strength.

The movement of the markets during next week is likely to be governed by global news. As I write, there is news of downgrade of US sovereign credit rating from AAA to AA+ by S&P, leading to more problems for the world's largest economy. The silver lining for Indian economy is that we may benefit from this mayhem in the long term, but we will have to swim with the tide in the short to medium term. Hopefully, the rebound will come once the governance issues are sorted out in India. But it may take a couple of months for the dark clouds to give way to sunny days, investors are advised to keep their Umbrella ready (Umbrella here would mean 'Cash' to overcome the crisis)