 "FIIs climb the Wall of Worry")
The Indian markets have conformed with this acrobatic metaphor over the past year, even as the negative factors have multiplied in number and gotten larger. This is largely owing to the largesse of the foreign portfolio investor or the foreign institutional investor (FII).
If one may extend the metaphor, maybe the WoW has gotten too high. Or FIIs have gotten tired. The major market index slid below its own 200 Day Moving Average last week. The proximate cause was modest FII selling. The FII selling spooked already bearish domestic participants who also sold.
If domestic institutions and FIIs both align at the negative end of the sentiment spectrum, there will be more selling over the next few weeks. That would cement a downtrend and perhaps, turn it into a full-fledged bear market that could last for a year or longer.
A bear market would actually be rational given the outlook over the next year or more. It isn't that India's massive deficits, lukewarm macroeconomic performance or poor earnings growth are new. Many investors, especially FIIs, have discounted these things earlier, mouthing platitudes about long-term growth prospects as they pumped money into Indian stocks.
What has changed is that investors are now accepting that there isn't light at the end of the tunnel. The economy doesn't yet show clear signs of bottoming out. The deficits will remain high through the foreseeable future. Inflation is still at uncomfortable levels and growth is slow. There is not much chance of substantive policy change before this Lok Sabha is dissolved. There is a pretty good chance the next Lok Sabha will be badly hung as well, and that could mean continuing policy paralysis, or worse, populist policy-making that pushes a fragile economy over the edge.
Meanwhile, Europe remains teetering on the edge of another disaster. There are whispers now that Germany may be heading into recession. Japan's new quantitative easing should release some liquidity into global markets, whether it reflates Japan's own economy or not. But it will also push up government debt in Japan, and that's well over twice gross domestic product already.
The global currency and commodity markets don't quite know how to handle the dynamics yet. The dollar is likely to strengthen by default since the euro and the yen are weakening. Non-precious metals have dropped into a big bear market. Gold, which could be expected to strengthen under the circumstances of currency weakness, is at a 10-month low. Shipping is in the middle of the biggest slump since Admiral Doenitz's U-boats sank everything in sight during World War II. And there, is just a chance that the North Koreans will field test their new missiles as they're threatening to.
The earning season is owing to kickoff in India. The early birds include information technology (IT) majors who have probably done all right. The scramble for US H1 visas also indicates that business prospects are reasonable. At the same time, the industry has seen its first protests. Freshers hired last year by HCL Tech have gone on fast to protest recruitments being deferred. This could mean a changing paradigm for the industry, if one of the majors, which has registered an excellent performance over the past several quarters, is deferring hires.
Expectations outside IT are low. So low in fact, that there could be positive surprises. The HSBC Services Purchasing Managers' Index suggests that service growth is very slow at the moment. Auto sales recorded another negative month, so that industry is a wash-out. Nothing suggests there has been great improvement in industrial production in February, though those figures are yet to be released. It seems the season for doom and gloom all round.
The eternal optimists have seized on the partial decontrol of sugar to enter that sector in the absence of other growth stories. Some have also increased their exposure in Indian pharmaceuticals, partly because of the sector's defensive reputation.
The biggest overhang on sentiment now is political instability. The United Progressive Alliance may hold together for the full-term or it may collapse in the monsoon or the winter session. But it has to go before May 2014.
Neither of the major coalitions looks in the least confident of a majority. Every mention of a Third Front causes fresh jitters in the market. Historical data suggests that there is little chance of a sustainable bull market until the next government takes charge in the 16th Lok Sabha. If the next government has a fragile majority, bearishness could last longer.
Technically speaking, the drop below the 200 DMA has not gone deep enough or lasted long enough to confirm a long-term bear market. But on the basis of the charts, and of poor breadth and institutional selling, the trend looks strongly bearish.
Long-term bear market lasting a year or more often see price retractions of 20 to 50 per cent below the previous peak levels. The Nifty last peaked in January 2013 at 6,111. So far, we have seen a nine per cent correction from the peak. Another 600-odd points lopped off in the next year would not be too surprising.