See Dow at 20k by 2011, more subprime woes: Knight Equity

Nifty BSE | NSE 31/05/12 Are Mutual Funds betting on Nifty?

Ralph Acampora , Chief Technical Analyst, Knight Equity Markets, sees the Dow trading at 20,000 by 2011. He thinks the US still has to unwind some of the excesses that they have had in the last five years. "I would not be surprised if there were some more bankruptcies. However, we have to deal with stagflation and that's going to be coming on the front burner fairly soon, especially after the Presidential election year. Once we get past that, I am not too sure about 2009." He expects more subprime woes.

Excerpts of CNBC-TV18's exclusive interview with Ralph J Acampora:

Q: What are underpinnings of technical analysis?

A: A couple of logical assumptions should be made. Firstly, the stock market or all markets are a discounting mechanism. A person buys today in anticipation of good news tomorrow and tomorrow is usually several months down the road. Conversely, they will sell in anticipation of bad news. In fact, in college professors told us that the stock market is a leading economic indicator. So, if people are talking about a recession, the market should bottom before the recession actually takes hold.

If you accept that, then you accept the second logical assumption needed in technical analysis as well. It is a very simple scale, where accumulation stocks have to be accumulated. There has to be demand for them to go up in price.

The third assumption is relativity; how much buying is there will dictate how further the move goes. How can you tell a deep decline in a market and where it would proceed?

Q: What are the stages set for a great bull market to unfold? What are the things that are important and what are the conditions necessary?

A: The early stages of a bull market is usually led by the blue chips because they have quality, history, reputation and have earnings and visibility. So, that is how it would normally start.

As time goes by, people feel comfortable and after they have made some profit in the blue chips as the market goes higher, the quality of the portfolio starts to get a little lower. In other words, they will go from blue chips to secondary stocks.

A secondary stock is not necessarily a bad company. For example-in the United States, Proctor and Gamble is a blue chip primary stock. It is in the Dow Jones Industrial Average. Colgate makes the same product but they are not in the Dow, and not as big. That is secondary. It is a quality company but is slightly different.

So, that kind of stock leads for a period of time. For sure, as the market moves high and speculation starts to come in, people feel very enthusiastic and confident and then they start buying the junk. So, it starts with fear in blue chips and ends with junk and greed. That is the psychology of the overall market.

Q: 'Nothing new happens in a bull market; everything has happened over the last 200 years,' what do you think of this?

A: Yes and No. Every bull and bear market has their own leadership and is marked by different events. So, they are not quite the same. They look the same on the charts theoretically because they have the moves and the excitement.

But you can have a period of time where it is unprecedented. We had it in the United States in the late '90s when we had this unprecedented boom in dotcom stocks.

Q: What are the biggest mistakes that someone can make in a bull market?

A: There is a first commandment that every investor should remember, 'thou shall not fall in love'. And that is what happens to so many people. They fall in love with their stock, especially if they have made a lot of money with it. They know everything about the company; they know everything about the earnings and after a while they forget to become a little bit more objective. They become too subjective.

Q: Is the converse also true that people are so scared in the early stages of a bull market that they will sell too early?

A: Yes. One of the definitions of a bull market is that at the bottom people are so frightened. Actually that is what most technicians are looking for, that kind of fear. If a contrary opinion is taken, one goes against the herd or against the crowd when everybody is worried about it. 

It is all in the headlines in the newspaper and every night on TV sets. They are talking about how terrible the market is; that is the seed and the fertile ground that bull markets are built in.

Q: You have studied all the great bull markets in US modern history. Is peace a theme for bull markets?

A: Yes, peace and prosperity. The longest stretch of peace in Europe is today. There were more people, prosperity, income, excitement and more things being put in. So, that momentum is still alive and well.

Q: In terms of the economic sensitive indicators, what is necessary for those bull markets?

A: You have to have growth and an environment of low interest rates and low inflation. Fortunately, some of that is changing right now. My biggest fear is that that we have what looks like some stagflation. I am not an economist but if I look at the prices of gold, wheat, corn and things like that I get a little concerned.

Q: But if interest rate is going down and inflation is moderating and there is peace; is that a good recipe for a bull market?

A: That will be an environment that people would feel more comfortable about.

Q: How about a technological change?

A: In the old days, in one of the bull markets we had railroads and then you had the automobile that came back and then the radio. After the Second World War, it was automobiles and now it is technology.

Q: In your experience, what are the best looking chart patterns that one should look at the start of a bull market?

A: Ideally, you are looking for a stock that has been depressed. Technicians call that 'a bottom pattern' that can take any number of formations. It could be like the letter 'W', it could be a double bottom or it could be a long saucering type bottom. But any kind of bottom whatever shapes it takes; can take a minimum of three-six months. 

In fact, the longer it takes the better it is. As it is with the Theory of Relativity, the longer the bottom the longer the buying and greater is the upside potential.

Secondly, if I saw what my favourite stock looked like, it might be forming that kind of a configuration. The next thing I would do is look at the sector that it is in. I want to know if there are other stocks in the same group performing in the same manner. So, I am looking for commonality.

Q: Is it a rising tide that all stocks should do well and no one is an island?

A: No one is an island in that group and then you take that concept and talk about market breadth; you talk about the tide coming in and you really need a lot of stocks to support the move.

We technicians call that the army and the generals. You can have the general stocks going up, like General Electric and General Motors.

However, if you do not have the army of stocks and the breadth of the market to support it, the move will be limited. So, I look at the individual stocks and see if they bottom. I look at the group and then at the market as a whole and then I look at the breadth of the market.

Q: What are the tools of a technician's trade? What are the two-three things, the indicators or the averages or price points that a technician should look at?

A: The first thing is the markets because everybody understands what the Dow Jones is. The perception is that the Dow has only 30 stocks. It is actually not a very good average. But, you can ask almost anyone that is interested in finance or investing. They all know what the Dow closed at last night. But if I asked them where the Russell 2000 closed they are not too sure. And that is a huge part of the market.

As a rider and as an analyst, I want to be in tune with my readers. So, I have to start looking at the indices that they understand. Of course, I am going to do all the other indices whether they understand or not to round up my research. I have to see the kind of support that these leading averages have.

Q: In terms of looking at the price or the volume or moving averages, what are those indicators that are your tools of trade?

A: First is always price. We are getting so sophisticated in this day and age because we have all the indicators. But you don't own them, you own the price of the stock. If you can draw a simple line and if that price is going up, you are a happy man. If it is not going up, you have a problem. So, I stop with price.

Of course, price is built on momentum and on the flow of funds. So, the momentum will be some kind of a momentum indicator. I also look at volume to support my theory on price because if I identify this strong upward bias in price, I want to see if that is supported by flow of funds. So, I start with price and then I will add the other indicators too.

Q: IBM closed at its 52-week high at Rs 120. What influences could you draw as a technical analyst?

A: If that was the case, it would be good especially in an environment like this where the market has been kind of weak and people have been concerned about different things. So, right away anyone who owns IBM or people who are looking into buying and investing are going to be attracted to that stock because of the fact that it has done well at 52-week high.

Psychologically, that would probably be one of the stocks I would look at.  I would take that and would look at other stocks in that sector to see if they are also forming it. But just making new highs in itself is not all. It is not the only thing we look at. But it is a good starting point.

Q: Other than price, what are the tools that you use?

A: I start with price and we have to look at volume.

Q: Does volume precede price?

A: Some people say that, but I disagree with that. The reason that people say that is to get a stock moving up, you need the volume or the demand to come in. But a bear market starts with light volume. So, be careful.

Volume does not always precede price. The first tool is price, second is definitely volume and the third thing is psychology. You want to see if insiders are buying the stock. That would be a very positive indication. You want to know what the put-call ratio is. If too many people have puts in the stock that means they are negative. After a decline, a lot of that negativism could be a sign that there is a bottom in itself.

Q: How do you gauge public psychology, whether they are too bullish and that would be contrarian or bearish?

A: There are many ways. In the state, we have all sorts of surveys. The most popular one is the bull-bear numbers that come out every week. If a preponderance of these people, who are advising investors, are too bearish or bullish it is usually the opposite and is usually wrong.

Q: In 1995, when the Dow was 4,500; what did you call the Dow?

A: I said Dow 7,000.

Q:  So, was it a big leap?

A: Yes, absolutely. But technicians are historians. I spent a long time in the public library and about a month accumulating my data. I found that it was same. At the time I interpreted it as being the same environment that existed in the early '60s in the United States. That was a time of low inflation; low interest rate and those were the ingredients.

Q: Was it called the Goldilocks economy?

A: Yes. This time they had a different name for it.

Q: You have been called the king of the financial market at that time. You not only got fame, you got a red Corvette too, didn't you?

A: Yes.

Q: What does the license plate say?

A: Dow 7,000.

Q: Then you revised estimates to 8,200 and then 10,000?

A: Friends of mine would call and say, "you got the 7,000, keep your mouth shut. You were lucky." I said yes. I said the momentum was there and another important ingredient is you have to have leadership. It cannot be just price; it has got to be groups. There has to be several real dynamic leaders and all the way up to leadership, which kept supporting itself.

So, when I was asked to write the book by people who say, "What was your thinking behind the 7,000 and 10,000?" I sat down thinking about what was the common trait of these mega moves. That is the term I made up and I found that it was peace.

Q: If the past is prologue, your call for the Dow is?

A: It's still 20,000 by the year 2011. I haven't changed anything.

Q: In between that, will you expect to see violent corrections?

A: In the title of the book, I insisted that they put on the cover of the book that you can expect violent declines. The US still has to unwind some of the excesses we have had in the last five years.

Q: Given what has happened in the last six months in America, the subprime crisis, the housing debacle and the Bear Stearns debacle was not known when you wrote the book . You are still bullish on the economy?

A: I am not an economist. I don't like what I see especially the cost of everything. I put a little gasoline on my lawnmower this week and it cost me almost USD 20. I think we are going to have to deal with that. 

I lived through that in the 1970s and we had an oil crisis then. So, there are similarities. I don't want to paint too much of a dark picture. But we have to unwind some of the excesses. In the aftermath of the subprime crisis, there will be a lot of bumpy roads. I would not be surprised if there were some more bankruptcies. However, we have to deal with stagflation and that's going to be coming on the front burner fairly soon, especially as we are in the Presidential election year. Once we get past that, I am not too sure about 2009.

Q: There is a saying in Wall Street, 'you don't fight the Fed'. The Fed has done unprecedented action this time. Does 20k still look good?

A: Yes, but it's not going to be a straight line up. Before this problem with subprime actually happened late 2007, the Dow had been five years without a 20% correction. That leadership was dominated by value stocks and small and midcap stocks; that leadership was tired. 

We started to see growth stocks come back in the middle of 2007 and some of the largecap stocks. So, that rotation was very necessary for the bull market to continue.