Wednesday, July 1, 2015

Outlook For July 2015

Well it has been a very exciting June series on expected lines with large swings in either direction.
The Grexit woes are currently looming large. I won't get too much into the details as I have already covered the same in 2 separate posts.

What do we expect for July 2015???
Common market mantra for Nifty is Sell in May & Go Away / In July Make the Nifty Fly
Sell in May was not a predominant theme this time and it is too early to hazard a guess for July

Review of Nifty / BankNifty Charts

As far as Nifty is concerned, there are 2 major resistances to be conquered

1] 8425 [apprx] The prev swing highs prior to June expiry
2] 8493 A major swing high from where the previous fast and furious fall started towards 7940

2 consecutive closes above 8493 [8525 for a bit of tolerance] and Nifty opens for a retest of 8800 levels [vindicating in July make the Nifty fly]

At the time of writing, Nifty is flirting with the 8425 mark but I can stick my neck out and confirm that both 8425 and 8493 are extremely difficult to negotiate and would need a lot of volume and momentum [especially 8493 as that has stuck out for almost 5 weeks now]

On the downside, 8225, 8125 and 8025 remains good supports from where bounce backs can be expected.

On BankNifty, the critical resistance comes at 18600. As of now there is a short term double top formation around the 18800 area. 2 consecutive closes above 18600 and breach of 18800 with volume and momentum opens Nifty for test of 19200-19400 area.

As I have kept saying again and again, it is not the Greece standalone issue that is sending shivers for hot money. It is the risk of contagion and negative precedence it sets for a negative chain reaction across bond markets that will result in a lot of liquidity contraction with investors' flight to safety.

As I mentioned in an article earlier, purely from a sovereign debt perspective, ECB's standalone cost of Grexit standalone is estimated at about 40 billion euros over the next 36 months. The real uncertainties come on the shock-waves after that.

First and foremost: A large scale currency devaluation should Greece go back to Drachmas and what happens to the depositors' money in the banks. What exchange rates will be used?
And then if these things spill over to other PIIGS countries, the impact is much larger in countries like Spain and Italy.

The humanitarian angle: With deposits curbed at 60 Euros per card and ATM machines without cash, basic food, medicines and fuel purchases are also in danger. Procedural justice for sovereign mismanagement is resulting in a humanitarian collateral damage.

Multiplier Effect: There is not much public domain data in Europe with regards to Credit Default Swaps. Even when the previous 2008-2009 crisis took place, it was the Credit Default Swaps market that accelerated the credit crunch.

Hopefully by 6th or 7th July, we will have clarity on the issue.

So let us stick to critical levels and other indicators to watch out 

For the Indian equities arena, I have already outlined the crucial resistance and support levels.
2 things that I will be watching very closely are USD-INR and 10-Year bond yields. As long as spot rates are below 64.25 for currency and below 8% for the G-Sec, the house is in order. If the currency starts trading above 64.25 and / or bond yields harden over 8%, the corrective phase will get prolonged. For the corrective side, the pattern target comes to around 7650-7700 zone

Which way it will go, time will tell.
However, for the longer term, there are a lot of individual stocks that are ripe for accumulation.

Hindalco, Tata Steel, IDFC, Nestle, Tata Global Beverages are all at attractive levels. They may fall further from current levels by another 20% to 30% but that is ok. The time horizon for these investments is around 3-4 years and expected gains are at 20% PA in the longer term.

In the second week of July, Jupiter, a major planet will move into the fiery sign of Leo. On a personal level, it will bring a lot of positive changes for some whilst challenges for some other. Across capital markets, this Jupiter transit will bring a medium term shift. Whether it is a change for positive or negative, time will tell. But some certainty and direction will come into force by the end of July 

Tuesday, June 30, 2015

China - Meteoric Rise and Free Fall

Chinese markets hit multi-month highs within a short period of 6 months and have almost cracked 20% from recent highs within 2 weeks. Most Indian stock market commentators are busy harping on 2 points

1 - Margin selling pressure due to tighter government regulation [Partly correct]
2 - Money invested in China may be re-directed to India [Grossly Incorrect]

As usual, when the key objective of tv anchors is to fill in airtime and prove himself / herself smart, such loose comments are inevitable. Unfortunately, a vast majority of people end up following these very delusional anchors to find themselves on the wrong side of the fence.

Let me first put out a 5 year Chart of Shanghai Composite v/s Nifty from Yahoo Finance for a perspective 

The bold green line is the path of Nifty whilst the thin blue line is Shanghai Composite

Shanghai was down and out in 2013 at almost half the value of the earlier peak when all emerging economies were in their corrective phases. It stayed there for a very long time with elections due in South Africa, India, Indonesia and developed nations like Germany.

Remember that to a large extent, China pegs currency values and undoubtedly, it is the largest holder of US T-Bills and German Bunds as a sovereign across the globe. China was [and is still] trying to build on as a hegemony country of the East [Like US hegemony in the West]. The South China Sea dispute was a major factor of concern highlighted by major investment banks as well. 

Once the election tailwinds went out of the way and dollar strength started surging in second half of 2014, it started making a lot of sense for fund managers seeking 'alpha' returns that the Chinese market was one major pocket of opportunity. China is a major guzzler of steel, copper and zinc and base metal prices are down in doldrums globally for over 2 years now. Oil prices started cooling off and with Dow, FTSE almost near peaks, uncertainty in Europe and expensive emerging markets, it was no brainer that China was waiting to explode as far as fund managers were concerned.

The successful IPO of Alibaba gave things a positive fillip but this rise was too much too soon. Doubling of the entire index in 6 months and that probably meant tripling and quadrupling of some of the index heavy weights.

Statistically, this concept is known as "Regression To The Mean". In simple terms, it means that something that has been grossly overperforming / underperforming for a prolonged period of time will go contrary to that trend and allow averages to catch up. We see that with sales teams across sectors, thematic mutual funds and sectoral indices as well. [Law of Averages, as we say in cricket]

For instance, a sales team that consistently hits and exceeds sales targets for 3 or 4 quarters starts tapering and cooling off for a couple of quarters. On the other hand, sales teams that were down in the doldrums suddenly stage a comeback with good sales. Fundamentally there are many reasons for that but statistically, it is something that has been established well over time.

Let us take India itself for instance; In the 2005-2008 rally when we hit 6300+ for the first time in Nifty's history, FMCG and Pharma were steady overall but not rank outperformers. Cyclicals and Infrastructure was the buzzword. By the time the entire correction of 2008 peak corrected and we scaled 6300+ again in Nov '10, most of the stellar performers of 2008 were anywhere between 50% and 80% down. 2010 was the time when FMCG, IT, Automotive started becoming pet themes outperforming frontline indices and cyclicals [HUL was around 280 at Nifty Nov '10 peak and Asian Paints was around 350 (adjusted for stock split), Tata Motors hit lows of 125, Maruti 750 M&M 630]

From a global indices perspective, DJIA and DAX were rank outperformers in the 2010 to 2014 period. DAX rallied from 5750 levels to 11k+ levels despite the Euro-zone crisis; DJIA was at 10800 in Oct '11 and went on to scale 16k by end 2013. Nikkei more than doubled from 2012 to 2015. With all the After getting to these levels, the subsequent leg up has not been very inspirational. Euro-zone problems intact, massive QE, Shanghai was a rank under-performer in global activities. So what would law of averages indicate? It was time for the Chinese dragon to spit fire.

Early indications of the Chinese dragon waking up from slumber was the way it has been lapping up physical gold from the time gold went below 1450 dollars / ounce [and China has an almost 5 month order to delivery backlog! Details can be obtained from the LME notes and World Gold Council]
The way Chinese government is using T-Bills as collateral to fund massive infrastructure projects was a clear indicator of things to come. 

By September 2014, the Chinese dragon woke up from slumber and started breaking out of some critical resistances one after the other. The problem was the rise in Chinese markets was too much too soon and pretty much an asset bubble with a lot of margin trades [leverage] Chinese central banking agents were absolutely right in implementing tighter leashes because an index that languished at less than 50% off old peaks for over 2 years suddenly shot up defying gravity big time. Media pundits are again harping along big time about China being in a bear market since it has breached the 20% fall from peak.

I am not even getting into Elliott Waves here - simple technical analysis tells you that large swings up or down tend to retrace at least 50% in nominal terms and 38.2% in semi-log terms. So for an index that has moved from 2200 levels to 5200 levels, a 50% retracement is very much on the cards that pegs the retracement to go to at least 3700 levels before resuming the next leg upwards.

A lot of Indian tv anchors are making an absolute fool of themselves by saying money will move out of China into India. Taking the major index stocks into account, Indian stock market is worth a little over 1 Trillion USD. Chinese penny stocks alone are worth 8 trillion!!

Right now, all focus is on the major Grexit and potential repercussions. The structural bull market in China is absolutely intact. In the short to medium term, it may slip to 3250 as well but it is poised to scale 7500 levels over the next 5 years. The current correction is severe simply because the meteoric rise was fueled by leverage and when deleveraging has been imposed, weaker hands will be taken out in the process. All said and done, some headwinds have to be negotiated.

If the Grexit crisis and contagion does hit global markets, then we may see the Dollar Index briefly kiss the 100 mark. After things cool off in Greece and the next innings of QE begins to alleviate the pain caused, we will in all likelihood see the Dollar Index cool off to about 90 levels. This is the time when the Indian Tiger and Chinese dragon will roar once again.

[What goes up must come down; smart money is always on the look out for alpha and hence regression to the mean / law of averages will play out across asset classes]

Just as we have Hang Seng Bees, we may soon get Shanghai / Shenzhen Bees in India and should that come through, it makes sense to have SIPs in that!  

The Big Fat Grexit Drama / Nifty

Says Keynes, "Markets are irrational to the extent one is solvent"; whilst I may not agree with all his economic principles, I definitely agree with this prophetic statement of his.

We started with a huge gap-down and all major index futures across the globe were showing cuts of over 4%. First it was the put writers who ran for cover, then we saw some brave gladiators aggressively write calls only to run for cover towards the end.

Whenever this kind of uncertainty hits the market, there will be multiple knee-jerk reactions and at the end of the day, one starts wondering what the hell is going on! Technicals are supreme; temporarily they may show ticker prices contrary to technical expectations and that always happens in conditions of flux and panic. However, these tendencies are exceptions and eventually prices move back to regular technical conditions.

Going purely by a technical outlook for Nifty [I will be making a separate detailed post tomorrow with outlook for July 2015], we had a large swing down from 8493 to 7940 in April series.

8493 - 7940 = 553 points [61.8% = 342]
7940 + 342 = 8280 So a move upto at least 8280 was very much on the cards. What really happened was a fast and furious pull-back [signs of a structural bull market] all the way to 8425 odd levels.

With today's gap down opening and lows of 8200 [rounded], the swing has been 8425 - 8200 = 225

[61.8% = 8340 apprx]

Tomorrow is the monthly close. For the last 2 months or so, the critical price on a monthly time-frame has been around the 8380-8425 zone [Last month's critical number was 8410] If we do manage to close around the 8380-8425 zone tomorrow, then it suggests that regardless of where markets go in the early part of July 2015, prices will try to stage a comeback towards the end of the series exactly as they did in June 2015]

Back to Greece and why markets are so worried.....

ECB funding to Greece has been about 340 billion Euros over the last 60 months i.e. about 5.5 billion Euros a month [Note that this is the estimate for GREECE ALONE] If the series of bailouts have to continue, then the amount can be upwards of 500 billion Euros for the next 5 years!

Good economists also pride themselves highly on Game Theory and always say "Think Forward - Reason Backwards" It is difficult and time consuming for me to put out the illustrations here but as the so called Troika is examining the situation with Greece, the starting premise for ECB with Greece is "Heads = Greece Wins, Tails = Germany loses"

This game needs to be evaluated from ECB perspective
Node 1: ECB allows concessions to Greece. The immediate effect will be that the other PIIGS nations will haunt ECB even more with concessions offered to them. [Greece and Ireland are small drops in the messy ocean. Spain and Italy are the white elephants to manage. And if managing 1 drop like Greece costs almost a trillion euros including already spent money and further funding needs, imagine the costs for other PIIGS nations]

Node2: ECB allows Greece to get booted out of the Euro zone by coercion or by voluntary exit, it sends strong signals to other PIIGS nations that one cannot take the ECB for granted. However, this option then comes with far greater pain. There are trillions of dollars worth of derivatives betting exactly on a Euro-zone contagion. And these derivatives are largely spread across the bond markets and the moment Greece is booted out, there will be immediate repercussions in the derivatives markets of other Euro-zone members bringing in a temporary liquidity freeze not just in Greece [already in place today] but the entire Euro-zone

As this happens, it also sets a precedent for other PIIGS nations to work out on exit options. Regardless of which way the ECB decides on Greece, there is inevitable pain. From a Greece stand-alone perspective, the cost of Grexit has been estimated at about 1 billion dollars a month over the next 36 months as per Angela Merkel's calculations [refer news and views from Saturday for details] Just as RBI does not care what Dalal Street wants, ECB does not care what equity markets want. Central banks have their objectives in a different realm all together

They are however aware that there will be a huge liquidity squeeze with Grexit because of the panic in bond markets and a HUGE RISK of Germany returning to DMs that will perhaps end up trading at 2:1 against USD if this event does take place. Any return to DMs for Germany will almost close doors for German goods and services all over the globe. Exports are the key to Germany's survival.

Last but not the least, there is the humanitarian aspect
Some of the images on Sunday were extremely disturbing
Queues outside of ATM machines resembled the queues Indians have at Shirdi Sai Baba Temple or Tirupathi Balaji temple! There was a 76 year old lady who was in the queue for 2 hours to withdraw her maximum quota of 60 Euros and when her turn at the ATM counter did come up, there was no cash left in the machine! The lady just fainted out of physical and mental stress!!

To get a feel of how bad the situation is, forget supermarkets but talk to mom and pop grocery stores [equivalent of our kirana stores] and pharmacies. With social security cover and/or medical insurance, a person cannot be denied access to medicines. Over the last 5 years, medical bill settlements have seen ballooning turnaround times [Remember that most of the medical insurance is underwritten by banks' insurance arms] From a regular 1 week turnaround time in 2009-2010, the turnaround time has gone up to an average of 90 days. Legally, medicines cannot be denied to people with genuine documents. With the bank run that has just begun, pharmacies are not sure whether they will even get back money rightfully due to them if the system itself goes bankrupt

As far as mom and pop stores are concerned, they have every right to refuse customers any form of credit, even to purchase essentials like milk, fruits, vegetables. That being said, these very stores may not get credit from stockists and super-stockists and with no resolution in place, the entire country's stockpiles of essentials will last for no more than a month.

Along with the Grexit, it will be a return to Drachmas for Greece that will be at least 10 times lower in comparison with Euro and release hyperinflationary trends. [In the post- World War time zones, Germans had to carry millions of DMs in wheel barrows to grocery stores to just pick up basic essentials. From a humanitarian aspect, Germany is very well aware of the pain, a common man has to go through]

One last example of the problem: A small business owner logged on to his internet banking account. As it happened with Cyprus in 2013, the system ended up displaying messages on the lines of "Book Balance xyz Euros; available for transaction = 60 Euros. It can be very frustrating indeed to not be able to access your own money. They money stuck in the bank can end up becoming literally worthless if Grexit happens.

So whilst the mainstream press is pointing fingers at Greece alone prolonging the negotiations, fact is that ECB also wants time to ring-fence itself and minimize the pain. It is definitely not a pleasant site to see people not being able to buy essentials with their own money for mismanagement from the baking sector [both Central Banks and Private Banks]. ECB is looking at every possible loophole in the derivatives legal codes to avoid having liquidity crisis for Credit Default Swaps.

To summarize, there is inevitable pain for Greece, ECB and in fact the entire Euro-zone. The only thing that one has to look at is how to minimize the pain. Also note that should a contagion take place, forget about US Fed raising interest rates or other major economies tightening monetary policy - it sets up the platform for next round of QE

So that is the background for the ongoing panic and volatility. Technicals may go out of the window for a brief 1 week timeline only to come back. As long as Rupee-Dollar exchange rates remain below 64.25 levels and bond yields do not jump past the 8% spot rate for 10 year treasures, India remains an active. Markets may not fall immediately but Rupee-Dollar above 64.25 and bond yield above 8% will the first indication of a large wave down.