Bull Market coming to an end?

Indian stock markets have seen an impressive rally since April 2005 (Sensex 6154). With Sensex trading around 15000, investors are naturally wondering if they should stay put instead of booking profits.

Fundamentally, Sensex is trading around a P/E multiple of 20 while historically Indian markets have been valued at P/E of around 14. Have the things changed so dramatically? I doubt it.

Globally the party seems to be coming to an end. US subprime loan defaults are threatening to spill over to other markets. Countries like India that are overly dependent on foreign funds may feel the heat if that happens. At the same time Chinese inflation scenario is looking very bad with expectations that the inflation may be highest in 10 years. Also, the strengthening rupee is playing spoil sport to the IT sector in India. Although the restrictions on ECB is likely to provide some reprieve to this sector, with enormous liquidity in the market RBI may face a tough time controlling rise of rupee and inflation at the same time. If RBI buys dollar to support rupee, then the excess rupee that comes into the market may cause inflation to go up.

Technically, there are two clear warning signs. First, the markets have been ignoring the red flags in last few days and performing against fundamentals. Second, the there is a marked increase in volatility. Both these things happen when market is peaking and gullible public is entering the market whereas shrewd experts are quitting. In the climax of every rally, the euphoria muddles market’s vision and people rush to buy and sell stocks at the most insignificant news while ignoring real warning signs. This creates a very volatile markets far removed from fundamental realities. Now, we are certainly witnessing such markets. In fact we may be very close to end of the bull rally.

Yet, we must remember that markets never follow our dictates. Even if we are right in our assessment of end of the bull market, it may take its own sweet time before confirming our opinion. Resistance to fall or even upward movement is something which an analyst can never rule out.

So where does that leave an investor? The answer is given by Dow’s theory. A rally is assumed to be in existence till a clear sign of reversal is evident. As long as the markets continue to make higher tops and higher bottoms, the trend is upward even though the warning signs may be there. Till date the markets have not shown any clear weakness. Sensex made its first significant bottom around 8800 in June 06 not falling below the previous top of 8770 of October 05. In March 07 it made another bottom around 12400, again around may 06 top. Naturally, the top of 14650 made in Feb 07 must be considered a strong support till it is evidently broken. (Note that a clear break requires both price and volume confirmations). So, it will be wise to stay invested if you are already in the market. Further, a rally from this support point should be considered a good entry point for those who have missed the bus. But, as pointed out earlier, the rally may not last for long. So, on breaks below the support of 14600 it may be wise to exit the market and re-enter later at a lower price.

Always remember, “It takes buying to push the prices up but they can fall on their own.” So when you have made profits do not hesitate to convert it to real money at the slightest weakness. Markets fall much faster than they rise and if you hesitate even for a short time during a fall, all your paper profit may be wiped out quickly.

Note: I do not have a professional charting software. So the values given here are only general markets levels. precise support and resistance maybe slightly different from values given here. Though, that should not make much difference to a genuine investor.

Disclaimer: This article only comments on general market conditions. Investing in equity markets is inherently risky and you should seek professional advice for specific guidance or in case of any doubt. I have no exposure in equity markets.