Over the years I have gotten lazy and shifted to tea bags. Today I made myself a nice cuppa tea; nice Darjeeling tea too. Why? Well the SP500 has me bewildered! I cannot understand why it is refusing to pull back. So I decided to go back to tea leaves and read them.
I shifted the cup from left to right and then swirled it around; first clockwise, then counter clockwise. Then I watched a storm in the cup and waited for it to subside. It was quiet at the center of the storm; but disruptive far away. We have seen the disruption far away in distant emerging markets.
Then the storm settled, and the water returned to the eye of the storm. This is a simple law of nature; in a swirling cup, water rises at the outer verges; it is faster near the vortex, yet still in the eye. As the water rises, so must it fall; the laws of nature must be obeyed. Following Fibonacci's observations, if zero is followed by one; what follows next is one, for it is the sum of zero and one; then comes two, then three, then five followed by eight; each number is the sum of the prior two. Just as the Phoenix rises from zero to one hundred, so too shall it return home to roost. As we rise from the devils intra-day low of 666 towards the prior intra-day highs of 1,576, we must expect major pauses at 882, 1014, 1,121, 1,228 and 1,359. So I find it hard to imagine the SP500 rising above this (1,359) level in the near term.
As can be expected, having whirled around the tea cup, most of the tea settled in the center. For the perfect cup of tea, once used in the brew, the tea leaves, like consensus, must be discarded. In the near term, the consensus is expecting a pull back (below 10% fall); not a correction (10% to 20% fall) or a bear market (>20% fall). Thus we are likely to have something more than a pull-back; I reckon we could pull back to 1,121, where the markets become cheap if 2011 earnings expectations are to be believed. A fall to 1,089 cannot be ruled out, I suspect a scrap between the Republicans and Democrats is in the offing and a shut-down of government come early March, could get priced pretty quickly. Truth be told, I expect a fall to 1,262 with downside to 1,215, but since these levels tie with consensus views, they are unlikely to hold. The 20 DMA is at 1,310, 50 DMA is at 1,283 and 250 DMA is 1,166; the technical picture is pretty and forward six month fundamentals look okay - maybe consensus is right and any fall will be arrested soon – but consensus views are almost always wrong. I do not think the time is ripe for a bear market fall because longer term consensus says we are in a cyclical bull within a secular a bear market; though of course there are murmurings of the return of a secular bull – the time to fear the secular bear will come when consensus sees a secular bull. At present levels, book profits to eliminate over-weights to equity which have arisen as a consequence of rising markets. The next move on a fall to 1.12k levels would be followed by investment to eliminate of equity under-weights caused by the market decline; the next investment required to eliminate under-weights arising due to a falling market, come in only at 1,063 levels. Overweight to equity should only come on falls below 1,063 levels; which at this stage seems unlikely.
What other market behavior could wrong foot consensus? The market could simply continue rising, denying the pull back expected by consensus; it could happen - after all the market is trading at just below 16X 2010 EPS (Prior Year PE Decade Median 19X; Lower Quartile 17) and at 14.25X 2011 EPS (Current Year PE Decade Median 16.7X; Lower Quartile 15.4) - but I doubt it will; I believe we are in a secular bear market, which means multiples should stay closer to 25th quartile and not median levels. And perhaps this strong belief in a secular bear means the market rising to 1,600 to thumb consensus in the nose! Interestingly, 1,597 is a Fibonacci number (a progression commonly observed in nature where the next number is the sum of the prior two; i.e. 0,1, 1, 2, 3, 5, 8, 13...610, 987, 1597, 2,584...); the one following 1,597 is 2,584. The point being made here is that having an opinion is fine; but stick to your preferred allocation to equity staking only small over or underweights on your intellect, because anything, or shall I say ANYTHING, can, and usually will happen.
For India, the picture is more confusing. I do not think Sensex should fall below 17,200-17,500 range; but this level could break if SP500 falls fast and hard. On the other hand, a fall in US would be led by a decline in risk aversion; if that takes the pressure of commodities, it could well be good for the Indian economy. But falling risk aversion also means foreign investor capital outflows, which means a further fall in markets unless domestic investors step in; I doubt serious domestic value buying will come in at over 16,000 to 16,500 level. All in all, I have no firm conviction in what may happen on the Sensex, they are too many variables. A fall to 17.2k levels would be followed by investment to eliminate of equity under-weights caused by the market decline; a further fall to 16.2k would lead to an additional investment to eliminate of equity under-weights coupled with additional investments to overweight equity by 5%.
