The market's price structures are telling us that something different is going on, says Ridham Desai, managing director of Morgan Stanley.
The jury is still out on whether the current surge in equities is the start of a roaring bull market or just another big bear market rally. The stock market's volatility and concerns about Europe's deepening financial crisis signals investors should remain cautious.
However, the market’s price structures are telling us that something different is going on, says Ridham Desai, managing director of Morgan Stanley. "The number of stocks that are crossing their 200-DMA is the best that we have seen since 2007 and that doesn't usually happen in a typical bear market rally," he highlights adding, "it tends to suggests that a few stocks are really making a turn for the better."
Desai says the pace of the upmove suggests that the market is approaching a golden cross probably in March. "The last time we saw a golden cross on the way up was March 2009 and that sounds very familiar because in March 2009 fundamentals looked fairly bleak and then in the subsequent two months there was much greater optimism on fundamentals,” he recalls.
"We have hopes here that this is a new bull market," says Desai.
Below is an edited transcript of Desai's exclusive interview on CNBC-TV18. Also watch the attached videos.
Q: Do you think it's a bull market? I know it’s a tough question but what’s your gut feeling?
A: The jury is out. The market's price structures are telling us that something different is going on. We have had a fair many of rallies in the last few months. We have had a few very big rallies. People have been wrong footed on them and then the market slipped back and found a new low every time. This time it seems that the price structures have changed. For example, the number of stocks that are crossing their 200-DMA is the best that we have seen since 2007 and that doesn’t usually happen in a typical bear market rally. It tends to suggests that a few stocks are really making a turn for the better. The market itself has sustained over 200 DMA now for several days like it did in March 2011.
Remember, it did that in March 2011 and then came right back down. So, that's again is an interesting price structure. What I am focused on is the golden cross, which is, when a short-term moving average crosses the long-term moving average, and for longer term market cycles we use the 200 DMA and the 50 DMA. I think a lot of fundamental analysts will frown at this that I am suggesting a technical tool to discover whether this is a bull market or not. However, the genesis of that is usually share prices lead the turn in the fundamental cycle and there is a state of denial on the fundamental cycle.
At the current pace, at which the market is moving, we will actually get a golden cross in early March. And if you go back the last 20 years on the Nifty or the Sensex, those occasions have coincided with a turn in the fundamental cycle. The last time we saw a golden cross on the way up was March 2009 and that sounds very familiar because in March 2009 fundamentals looked fairly bleak and then in the subsequent two months there was much greater optimism on fundamentals.
If you go back further then the previous time it happened was July 2003. In the 2003 cycle, the markets were cheap like they were in December this time. There was a lot of liquidity sloshing in the system and suddenly equities rose up 30-40%, without a blink, and most people denied it saying that the fundamentals look quite shabby and there are no reasons for this to happen and then in 2004 fundamentals started to change.
So it is quite reminiscent of that but I tend to agree with you that jury is out. We can’t be absolutely certain that this is happening. I can’t put my head to work. I have to put my heart to work and it seems like we have hope here that this is a new bull market.
Q: Let me ask you about 2003 example then. What typically happened? The first move everybody missed. After that did the market turn and give you another opportunity to enter or was that entry opportunity many months later and at a price point, which was significantly higher than the starting point?
A: It was certainly a lot higher because, if I remember correctly, the Sensex started at 2,800 or so in April of 2003, went all the way to 6,000 before it actually gave its first correction. So the markets actually doubled, which was a big miss, but then if you see the subsequent bull market, it didn’t really matter if you bought it at 5,000. You still quadrupled your money in the subsequent four years. So, you still made a lot of money and stocks went up 10-20 times even from those levels. I don’t think we are dealing with a same type of depressed valuations.
So, if I were to spoil the party for the bulls, I’ll draw their attention to two facts. The valuations that we saw in December were a good 30% higher than we have seen at previous bear market troughs. So they weren’t actually the cheapest valuations that we have seen at bear market troughs, including 2003 and 2009. The second thing is that the price fall that we saw from the previous peak, if we reckon that the October 2010 was kind of a bull market peak, which again is subject to a lot of debate, whether we actually had a bull market between 2008 and 2010 or it was just another bear market rally from the bear market that started in 2008, it was only 25%. Whereas, historically, the market is usually halved from the bull market top to the bear market bottom. So, it did not really face that type of severe price correction that we have seen in previous bear markets. So, those two are party spoilers—if I may put them that way.
But again this is up for debate. I mean was the market peak of January 2008 the bull market peak? Did we see a new bull market, which was a very short one, between March 2009 and October 2010? Or was this all a part of a big bear market where we saw big trading rallies and then final trough which was actually higher than the December 2008 trough but it was probably the proper time correction that we should have got from the excesses of 2007?
So that is hard to tell and only time will tell what actually happened, but we did not hit the valuation lows of previous bear markets for sure.
Q: That makes you suspicious?
A: No it doesn’t make me suspicious because we don’t have to get there. A lot of other things fell into place. The sentiment was really bad and usually that’s a key ingredient. The positioning was very feeble. That’s another key ingredient. I think people had given up on equities as an asset class.
Indeed in 2011 we ended the year with negative real returns on equities, which were the worst in India's history apart from 2008, which was a very abnormal year. So I am taking the absolute returns, which we all know were negative, but on top of that we had fairly high inflation. So when you plot the negative real returns they were really bad. In fact, the five-year CAGR on equity returns by the end of 2011 were negative on a real basis, which has not happened in India's past.
So it was certainly a very bad market and I am talking here only about the Sensex and the Nifty. The broader market was in much worse shape. I would say quite a few ingredients were in place though valuations were not precisely there and that’s again a question of using Nifty, Sensex versus BSE 200 and a broader market valuation matrix, which was a lot cheaper. The hit on the broader market was a lot deeper then the narrow market. So may be that’s the right valuation matrix.
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