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Volume IconWhat is market capitulation?

A recent survey by Bank of America Corp suggested market capitulation before a rally in stocks by the first half of next year. But what is market capitulation? Here is a report

Stock market

Capitulation in financial markets refers to a phenomenon where investors liquidate their positions during periods of extended decline in the stock price for fear of incurring a bigger loss. This panic selling may even emerge due to negative news flow, global sentiment, calamity and margin calls etc.

How to identify capitulation?
Whenever a stock or index starts to fall with heavy volume, one can observe panic selling. In the chart, one can see the Nifty 50 benchmark index drop from 11,500-odd levels to near about 7,500-levels in a matter of just 13 trading sessions owing to the Covid-19 induced lockdown in India.

One needs to gauge the momentum through various candlestick patterns or formation for confirmation.

Not all market weakness leads to panic selling or capitulation. One needs to be aware of the overall market sentiment and the trigger that causes the mayhem.

What does capitulation tell you?
The stock market is likely to see a bottom once the capitulation subsides. Squaring off one’s position during capitulation gives traders a sense of relief.

Technically or even fundamentally it is nearly impossible to predict the scope and time-frame of a capitulation. The worst part of a market capitulation other than the financial loss, is the impact it has on the investor’s mindset.

Investor psychology
This behavior is heavily influenced by various market news, FII inflow/ outflow, fear of losing out, etc. There is also the tendency of investors to shift from one segment to another during such times. Investors may find equity highly risky at times and may thus shift to bonds, commodity, currency etc.

Over the years, investors have become highly cautious and now prefer to buy stocks a little higher but only after the negative sentiment ebbs. More often than not, to lift the overall market mood, the regulator or the government brings in policies that restores sentiment.

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First Published: Oct 19 2022 | 7:00 AM IST