Investing: Forward looking markets…

Jayant Pai | jayant@ppfas.com

My friend whom I mentioned last week is pretty relieved on two counts :

  • He adhered to my suggestion and did not discontinue his Systematic Investment Plan (SIP) program.
  • The broad indices have managed to creep up above the 200 Day Moving Average (DMA) thereby signifying (in his opinion) that the uptrend had resumed.

His joy did not, however, stop him from dwelling on the sudden upsurge. How is it that the markets have rallied so strongly in the face of such negative developments, whose implications are as yet unknown ? After all, rarely do we simultaneously witness the emergence of unholy trinities such as scams, natural disasters and public uprisings. He even coined a term for this….the SME effect (Scams, Middle East and Earthquakes).

I told him that while I did not have the exact answer I could only hazard a guess that markets are forward looking. They quickly discount what is visible to everyone and start factoring in the future. Joy and sorrow alternate in real life, and markets too mirror this time and again. That is why there is a saying that bull markets are born in the pit of fear and bear markets in the intoxication of greed.

Also, markets do not move linearly for too long. There are periodic shakeouts. In this instance, the indices had corrected by nearly 20% from its recent high and was biding time at these levels for the past two odd months. Given all the negatives, investors were not overweight in stocks. Hence the lack of incremental bad news triggered a rally.

Besides, market moves are based on two pillars : Fundamentals and internals. The fundamentals (further synthesised into earnings and valuations) were stretched a few months ago. Today, they are more reasonable. The internals (as signified by the Volatility Index, open interest in the Futures & Options Segment etc.) too look okay. Besides, there is a lot of fear on the street. Hence the thought of a rally from here onwards does not seem absurd.

Of course, such dips and bounces are all the more reason why my friend (and other investors) should adopt adisciplined approach to investing. The long term trend of stockmarkets worldwide over the years has been UP, with the Nikkei 225 merely being an exception to the rule.

As for the direction of the next short-term move in the index…..your guess will be as good as mine.

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