Monday, February 7, 2011

It remains a sell on rally markets. Occasional bounce backs notwithstanding

First a word of thanks to all those who have messaged me and called me after Thursday's post and what followed up on Friday.

This morning, I heard some views regarding FII selling getting over and markets falling on Friday only on account of rumour mongering. Well, I have slightly different view.

As I mentioned on Thursday, I won't give too much credence to what took place on Thursday and Friday and in fact, even if you take a look at the GROSS volumes and not just the net number, you would notice that the FII volumes were 20-30% lower on Thursday and Friday.

And secondly, with regard to FIIs being net buyers - just consider this. Suppose an FII sells 500 crores of HDFC and buys 100 crores of Jain Irrigation, 100 crores of IDBI, another 100 crores of NHPC and say 300 crores of Sun Pharma. What's the net impact? An inflow of Rs 100 crore but how would that reflect on the Nifty? It will show Nifty down 20-25 points. Yes, we need to check the profile of stocks being bought and sold and not just the net number.

What amazes me most is that there is no panic yet on the street. Everyone seems to think it's a healthy bull market correction and the Nifty is in no danger of going to the levels of 4000-4400. And what corroborates my fear is the F&O data. Presenting some data here.

On November 4, when the Nifty was trading at 6282, the India VIX was 21.53. On Friday, with Nifty coming down to 5396, the India VIX has gone up to 22.69. So basically, a market fall of 14% is accompanied by an increase of just 5% in VIX. This is really bizarre. Under normal circumstances, you should have seen the VIX go up at least 20-25% if not more. The investors are still complacent.

Let's go back to the last bull market correction of June 2007 (not taking the big 2008 fall as that actually was a bear market). During that May-June, 2007 phase, Nifty fell 15% and the Open Int Put Call Ratio fell to 0.87 with the implied volatilities hitting 35-40%. This time, even with a 15% fall, the Put Call Ratio is at 1.12 and the IVs still stubbornly at 19-22%. You need these IVs to approach at least 30% mark before a bottom is formed.

Also, let's take a look at the options pricing. As I write this piece, the 5400 Put is priced at Rs 103 and 5200 Put is priced at Rs 40. Suppose you were to buy 5400 Put and write a 5200 Put, you would need to pay Rs 63 as premium. Now if the Nifty was to move towards 5200 or below, you would make a profit of Rs 137 and if the Nifty was to rally, you would make a loss of Rs 63. What you need for this market to bottom out is if this 5400 Put premium moved up to Rs 200 or above and that would happen if the IVs move.

Conclusion: This is still a sell on rally markets. The occasional bounce backs will come but the chances are that they will be shallow. What you don't need is another Thursday kind of session where Sensex goes up 350 points and creates a false illusion of a bottom. You need to see 5-6 trading sessions with the Sensex consolidating in a 300-400 point range with positive bias

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