Another short-term dip may start soon

The short-term top when the recent market decline started on 15th April has not been scaled still. Two weeks ago, I had suggested that “the only silver lining is that pessimism about global economy is running deep. This always sets the stage for a snapback rally that seems to have started. The rally may take the Sensex all the way to 17,300. And beyond that? Even we don’t know what’s coming.”

We got an unexpectedly powerful rally, which has taken the Sensex from 15,960 to 17,919, halting just under the previous high of 18,047. Foreign institutional investors (FIIs) are back in a big way. This entire June, they have reported net positive investment for every day, barring four. Of the four days of net outflow, three were insignificant. This follows a huge net outflow in May. Money is coming back into India in a big way, at least for now.

This has led to decoupling re-asserting itself. From 26th April, the Indian market had moved down in lockstep with the rest of the world, especially the US market.
 
Both the markets made bottoms on 25th May. But, after that, the Indian market has shot up to almost its immediate previous high with a 12% rally, whereas the US market is still struggling, having managed to eke out only a 3% gain over one month. This is how long-term outperformance of Indian market accumulates; but short-term is another story. If the US goes down by 10%-15%, India will not stand tall; it will go down, too, quite sharply, as we have repeatedly seen. The US market seems to be headed down again at the time of writing. None of the concerns of the last month—Greek sovereign default, stricter US financial regulation and softening US economy—has gone away. One of the most credible independent economic research firms, the ISI Group, is talking about the industry having hit a ‘soft patch’—a polite way of saying that the US economic growth is faltering, pointing to poor retail sales and housing starts. It added that the soft patch was intensifying and broadening. In early June, the weekly leading index (WLI) of the Economic Cycle Research Institute (ECRI) went into negative territory from the downward trend that had started in November.

For the uninitiated, ECRI’s WLI has been accurately calling recessions and recoveries well in advance of any other agency or firm for 40 years. In mid-2007, the WLI had forecasted the 2008 recession and, in late 2008, it forecasted a recovery amid a global financial crisis. WLI was positive throughout 2009, braving widespread bearishness before starting to peak in November. ECRI says that while it is not forecasting a sharp slowdown, the economy will not grow faster either. It’s in cruise mode. That is enough to keep the market down.

The Indian market too is reaching a high of its very short-term cycle. The lines on the sand for the bulls to defend are still 16,500 and then 16,000 on the Sensex. The upside is not higher than 18,300, as of now.