Markets on information-overload high

The upward trend looks strong in technical terms but it would be wise to keep a stop-loss at 3 to 5% off current prices

An unusually volatile week ended on a happy note. On Monday, May 13, the Nifty crashed two per cent. Every technical analyst, including yours truly, assumed a new intermediate downtrend had begun. On Wednesday, the market bounced 2.5 per cent. It carried on up, breaking out to a new 28-month high. Despite experiencing the biggest one-session crash of 2013, the Nifty has eventually gained four per cent in the last fortnight.

What triggered this schizophrenia? One possibility is information-overload. The last fortnight saw a raft-load of Indian macro-economic data, European GDP data, and sundry other price-sensitive data coming into focus. Presumably, various investors interpreted these data differently and after a slugfest, the bulls won this round.

The Index of Industrial Production and April trade data had contradictory themes. The IIP was marginally up, both year-on-year and for all of 2012-13 versus fiscal 2011-12. However, March 2013 IIP is below March 2011 IIP, which shows how much momentum has been lost.

April trade data showed a widening gap of $18 billion and it was a trigger for the sell-off. Exports picked up marginally but imports shot up. The culprit was gold and silver imports, which rose 138 per cent in value terms over April 2012. Crude imports also rose by about four per cent. Interestingly, both crude and gold dropped considerably in price during April (and both have subsequently fallen further in price).

So, the rising value of imports was due to larger quantities being imported. This is probably a healthy signal where crude is concerned, since higher crude consumption is correlated to more economic activity. It is not a healthy signal where gold is concerned.

The Consumer Price Index showed a drop to 9.4 per cent year-on-year, moving below double-digits after a long period. The lower CPI was interpreted as bullish, of course. The positive impression was reinforced when the Wholesale Price Index dipped to 4.9 per cent year-on-year. When the Reserve Bank of India (RBI) governor said he had "taken note of the WPI", bulls went into an overdrive. Rate-sensitive stocks zoomed. Even the highly damaging Cobrapost stings were ignored as the Bank Nifty went vertical.

The WPI and CPI numbers undoubtedly look good at first glance. But as always, there are problems with credibility. The website Capitalmind.in pointed out that in the past two years, there have been six preliminary WPI releases placing inflation at below seven per cent. On each occasion, there has been an upwards revision to above seven per cent.

This time, the February 2013 WPI was revised upwards from the initial 6.84 per cent to a revised 7.3 per cent. Also, again as usual, there are unbelievable differences in the wholesale and CPI readings of the same items. Vegetables declined nine per cent in April according to the WPI, while rising 5.4 per cent in the CPI. This sort of anomaly doesn't make sense.

But most traders look only at the point-to-point initial numbers, ignoring revisions and other puzzling trifles. It may be noted that while D Subbarao has talked tough, the RBI has reduced policy rates by 1.25 per cent since May 2012, and that does suggest the central bank believes inflation is falling. The finance minister also says he can pull the fisc down to 4.8 per cent in 2013-14. Given weak crude prices, he may be able to do so.

The rating agencies seem somewhat unimpressed by all these apparent incremental gains in financial health. S&P has reiterated its negative outlook, though it hasn't downgraded India's sovereign rating as it has been threatening to for several months. The litany of political scandals and the logjam in the Parliament continued. The best one can say is the UPA-II survives till the monsoon session. The monsoon itself is predicted to be on the better side of normal, and that may help with both food inflation and with consumption demand.

Meanwhile, indices in the US hit all-time highs and the Nikkei continued to display its new-found machismo. The decline of the yen continues and the dollar has risen to a 10-month high. In Europe, the news was bad. France slid into recession and Germany teetered on the edge of zero-growth. It doesn't seem as though Europe will participate in any global recovery this year or in 2014, for that matter. Some traders are now saying "Europe is the new Japan" referencing the latter's decades-long recession and implying the global economy can rebound without the Eurozone's contribution.

The rally in India and elsewhere has been driven by foreign institutional investor (FII) buying, which has climbed sharply. This has not affected domestic sentiment much. Domestic institutions have been heavy sellers and retail is also not bullish yet. Smaller stocks are in a bear market.

However, a breakout is a breakout, even if it is restricted to large caps. By definition, there should be an upside from here. Momentum traders would still be adjusting to the sudden trend reversal of last week. There may be more inflows at this point.

The next key target would be the all-time highs registered in early 2008. The Nifty touched 6,357 intra-day in January 2008 and it was then trading at 27-28 PE, with the gross domestic product (GDP) growing at 8.5 per cent. As of now, the market PE is below 20, which makes valuations less daunting, even if the GDP growth has almost halved since 2008. If the RBI continues to cut rates, there is a good chance of an earnings surge by Q3, 2013-14.

A trader has to go with a trend, which looks this strong in technical terms. But keep a stop-loss at something like three-five per cent (say, at 5,850 or 5,975) off the current prices. Monday's session may be a harbinger of high volatility through the next several months.