Greed and Fear: Warning Signs of Market Euphoria

3 comments Written on April 17th, 2014 by
Categories: General

Markets ride high as the Nifty goes up another 1% today on what seems to be fumes. It just doesn’t want to go down. In 2007, I had that feeling. That weird feeling that said the market has an artificial floor to it - it might go down 100 points but it will quickly rebound. Even Suzlon, the stock that defaulted, restructured and is living on the border of death and destruction, is up 50% in a couple months. In 2007, there were other stocks, and all you need to go up 50% was: your stock had a name.

Is this one of those times again? I remember 2007 like it was yesterday. In September, the index was making new all-time highs almost every single day. Even a glitch in October, due to a circular by RBI on FII P-Notes, didn’t stop the insane rally.

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I wrote about it then. That I was riding the wave. In October when the Nifty hit 6,000, I actually got philosophical about it. I eventually bought puts and shorted futures in Jan 2008, and had to deal with losses on other positions when the market went down big (nearly 20% in a week). In hindsight, it was euphoria that drove it up. And euphoria doesn’t “taper”, it dies a sudden death.

What Defines Euphoria?

Obviously, it’s not just that a market is making new highs. New highs can keep going higher, and typically do. Euphoria has certain key characteristics that I noticed the last few times:

  • FII buys lead the euphoria. They typically taper off their investments prior to a fall, which doesn’t mean that they know - it just means their investments made the market go up in the first place.
  • Market volumes go up
  • No one wanted to talk about stocks, and suddenly stocks become favoured conversations
  • People ask for tips, and then, give tips
  • Everyone is confident about a bright future regardless of all the bad news
  • You see headlines like Sensex will go to [A number 2x of today]
  • And then, there is an event that sucks out liquidity from the market.

In 2008, it was the RPOWER IPO that took out liquidity. In 2006, there was a 30% correction after a big RPL IPO.

Where Are We Today?

FIIs have been buying all right. They’ve put in more than Rs. 60,000 cr. in (equity+debt) markets in 2014, and only in the last few days have tapered off their buying.

Market volumes are up, though not by much. The volumes on midcaps and small caps has gone up.

People are talking about stocks and how they made a lot of money on random stocks. It doesn’t really matter what stock you buy, it just keeps going up. And that makes many people - at least those who haven’t seen big drops - feel they are intelligent and it’s not really the luck of the draw, which it is. I am guilty of this myself.

The Modi=bright future is definitely the theme of the day.

CLSA says Sensex at 40,000 in two years. Uh oh. 

That liquidity event? I don’t know what it is. Would it be the elections? That money that has been taken out will impact future liquidity? That some of the FII money that came was really black money that has fuelled election expenses, and when elections are done, the money flow stops? Or will it be a US+Japan further taper?

On the positive side, I don’t see things as vastly overvalued. The economy’s been slowing, but P/E ratios are now much lower than the 27 number we saw in Jan 2008. (It’s about 19 now) From a price standpoint we haven’t really made a “lower low” yet and most significant supports seem to be in place. Apart from CLSA not many are calling the Mad-Sensex numbers. People have started talking stocks, but my local shopkeeper isn’t given me stock tips yet.

Not Calling A Top, But Watching the Warning Signs

Too many people have called a market top for the last three months. I don’t know if this is a top, or whether the top will be. But the data is showing me there needs to be caution. We are seeing large cap consolidation (Not quite as much movement up) while midcaps and small caps continue to rise.

Caution means keeping hard stops. When a stock falls 20%, I’ll be out. I might tighten that to 15% or even 10% now.

As more data comes in, it’ll give more clarity. Like when the local shopkeeper tells me to buy, for instance, Bartronics. The correct answer to “Is this a top?” is: I don’t know.

I’m fighting my inner bullishness right now. It’s difficult because it’s not a time to be a bear, or even remotely negative. I’ve started to get more “neutral” through longer term puts.

And It’s Time To Get Philosophical Once More

I’m going with Floyd this time:

Now I’ve got that feeling once again

I can’t explain, you will not understand

This is not how I am.

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About the Author:
http://www.capitalmind.in
The man behind Capital Mind. Deepak is a co-founder at MarketVision, a financial knowledge company. Deepak also provides data research and consulting services, and now lives in Bangalore. Connect with him at deepakshenoy@gmail.com.

3 comments “Greed and Fear: Warning Signs of Market Euphoria”

Dear Deepak,
i was amazed to read this article as I read all your articles and blogs, if a person like you is cautious then were do fly by night investors (Retail) go . well let me introduce myself i am entrepreneur but big time follower of stock markets and local people behaviour ,you know its saying there is very thin line between greed and fear which smartest and cleverest are not able to see it .
On your blog why i am compelled to write is we indians are of total different material ,you cannot take out the INDIANNESS from PIO or FIRANGI DESI. i have travelled the world and have had many greys which has come under the days i spent under the sun, Deepak Ji the target given by CLSA, technical strategist hold to be correct as this views are not only been mentioned by him but other TA also, when the nifty did the low of 4531.15 on 20-11-2011,every analist be technical or fundamental were saying markets has to come to 4000,some even said 3400 ,but 1 of them said the correction is over and nifty has made the bottom for the year.we saw high of 5629.95 in just two months the rally had massive force which compelled the guys to cover their shorts again in span of 5 months we saw low of 4788.95 . as i was associated with the person in concern discussed the markets day in day out as we had started a venture in financial market .unfortunately he is not with me now and i am into my own buisness but follow the markets regularly ,he had said in 2012 that indian markets (sensex) in 5 years will do the levels of 45000/. so its not surprising when CLSA speaks its TIME THEORY , which many analysts follow and work on the same another sign of bull markets is if consecutively 5 months the index closes high of the previous month it confirms the bull market.
awaiting to hear from you.

Thanks for the timely warning. Yes, we should keep our eyes/ears open…. already some sites are talking about how if Cong wins, it may drop to not below 20k. (if Modi/BJP win, it will be biz as usual). What is disturbing is nobody seems to be talking about a hung parliament anymore….

How much of the modi rally is prized in ?
What is the market pe (remember ur old post) ?

How will the mkts move , if BJP gets 250+,,, if BJP gets 220+ if BJP gets majority (bit doubtful)…

Risk return wise how much more strength of the rally is left and will there be a fear rally pre verdict ?

These are the questions to answer !