Equities VIII

Chapter 2
Module 8 - The market Talks. Listen to Spot the best.

Market Direction. Is the Market Heading South? Check out the NSE Nifty and BSE Sensex charts on ICICIDirect every day. Observe the price and volume changes, there may be some selling on a rising day. The key is that volumes may increase on a day as the index closes lower or is range-bound. Studying the general market averages is not the only tool. There are other indicators to spot a topping market: A number of the market's leading stocks will show individual selling signals. In a falling market start selling your worst performing stocks first. If the market continues to do poorly, consider selling more of your stocks. You may need to sell all your stocks if the market doesn't turn around. If any stocks fall 8% below your purchase price, sell immediately. However, if you have tremendous confidence on the company stick to your pick. Is theMarket Turning Upwards? After a prolonged fall, the market will try to bounce back and try to rally from the low levels. However, you can't tell on the first or second day if the rally is going to last, so, as ICICI Direct’s Wise investor, you don't buy on the first or second day of a rally. You can afford to wait for a second confirmation that the market has really turned and a new uptrend or bull market has begun. A follow-through will occur if the market rallies for the second time, showing overwhelming strength by closing higher by one per cent with the volume higher than the day's volume. A strong rebound usually occurs between the fourth and seventh session of an attempted rally. Sometimes, it can be as late as the 10th or 15th day, but this usually shows the turn is not as powerful. Some rallies will fail even after a follow-through day. Confirmed rallies have a high success rate, but those that fail usually do so within a few days of the follow-through. Usually, the market turns lower on increasing volume within a few days. When the market begins a new rally, stocks from all sectors don't rush out of the gates at the same time. The leading industry groups usually set the pace, while laggards trail behind. After a while, the top sprinters may slow down and pass the baton to other strong groups who lead the market still higher. Investors improve their chances of success by homing in on these leading groups. Investors should be wary of stocks that are far beyond their initial base consolidated point/stage. After the market has corrected and then turns around, stocks will begin shooting out of bases. Count that as a first-stage of a breakout. Most investors are wary of jumping back into the market after a correction. Plus, the stock hasn't done much lately; so many investors won't even notice the breakout. But the fund managers would take buy positions at this stage. After a stock has run up 25 per cent or more from its pivot point, it may begin to consolidate and form a second-stage base. A four-week or other brief pause doesn't count. A stock should form a healthy base, usually at least seven weeks before it qualifies. Also, when a stock consolidates after rising around 10 per cent, it's forming a base on top of a base. Don't count that it as a second stage. When the stock breaks out of the second-stage base, a few more investors see this as a powerful move. But the average investor doesn't spot it. By the time the stock breaks out of the third-stage base, a lot of people see what's going on and start jumping in. When a stock looks obvious to the investment community, it's usually a bad sign. The stock market tends to disappoint most investors. About 50-60% of third-stage bases fail. But some stocks keep going and eventually form a fourth-stage base. At this point, everybody and their sisters know about this stock. The company's beaming CEO shows up on the cover of business publications. But while thousands of small investors rush into this "sure thing," the top mutual funds may quietly trim or liquidate their holdings. Most fourth-stage breakouts fail, though not necessarily right way. Some will rise 10% or so before reversing. Fourth-stage failures usually undercut the lows of their old bases. But a stock can be reborn and begin a new four-base life cycle all over again. All it takes is a sizable correction. How Do You Define A Bear Market? Typically, market averages falling 15% to 20% or more.

Buying Volatile Stocks. Buying at the right moment is the best defense against a volatile market. When the stock of a top-class company rises out of a sound price base on heavy volume, don't chase it more than five per cent past its buy point. Great stocks can rise 20-25% in a few days or weeks. If you purchase at those extended levels, what may turn out to be a normal pullback could shake you out. That risk rises with a more volatile stock.

Caution Signals from the Market!!! There are several signs in the stock market that suggest caution, even though they're all very bullish. Here are some of them and what they might mean, based on past experience. First, everybody's bullish. If everyone's bullish, that means they've already bought their stock and are hoping more people will follow their enthusiasm. Most individual investors are fully invested. And as long as large inflows are still going into equity mutual funds, everything's fine. Watch out when the flows turn into trickles. There won't be buying power to keep boosting stocks. Second, fear of the Economy/Political scenario. This is an initial indicator, which would pull of sporadic selling that could eventually mount into an outright bear market. Third, new records for the SEBI week after week. That’s exuberance and won't continue. The technology sector is leading this market, and there's plenty of growth ahead for the group, but the pricing for many of the tech stocks is way ahead of the earnings. Most of the tech stocks are priced to perfection, meaning that if they don't report earnings above the analysts' expectations, they'll be in for a bashing. Too much good is already priced into many of these stocks. Fourth, a record season for IPOs. While there's always been a push to get financing done when the market is upbeat, this last penultimate (second last) season had been one for the records. Records never last. That's not how the market works. The penultimate season saw IPOs such as Hughes Software, HCL Technologies being subscribed several times over, with premium listings as they opened. This was followed by dismal erosion of value for those IPOs. What followed is issues such as Ajanta Pharma, Cadilla etc, opened at deep discounts. Two emotions drive markets: fear and greed. Usually there is some fear and some greed. Markets usually do best when they climb a wall of fear, meaning that every one expresses fear of investing but stocks continue to go higher. When that sentiment changes to bullish, the market roars ahead. Because the market is depressed, the next psychological state will be fear, and there will be a pull back, nothing severe. This great economy isn't going to stop growing, but many stocks are too far ahead of their numbers and will be pulling back when the market has a bad day. Read about them in detail in the next module. Equites IX