We have seen correction unfold in the equity markets over the last few days after the significant run up seen over the preceding few months.

After reaching a level of around 5200 for the Nifty and 17500 for the Sensex the markets have been correcting over the last few days. The reasons for the same are several which include high valuations, some result disappointments, global cues as well as the RBI Monetary Policy which came out a two days back and was taken negatively specifically for the banking and real estate sectors. The overall impact of the RBI policy ex of these two sectors is not much and as such interest rates are not likely to move up any time soon.

I expect that the current correction which has already seen the markets moving down by around 10% from the top should play out over the next few days. As of today the NIFTY has reached a level of around 4800 and the Sensex is at 16200 levels. I do not expect the markets to fall by more than 4-5% from the current levels and as such the bottom of the markets in the current corrective phase should be around 15800-16,000 for the Sensex and 4650- 4700 for the NIFTY.

The market correction has seen bears come out of their (slightly early) winter hibernation and announcing that the upmove is over for now and we are going to see a very deep correction. This will be driven by the reversal of liquidity flow and a US Dollar bounce back. My view on both these issues are as follows –

The Liquidity Tap – The liquidity tap that has been opened by central bankers all over the world is unlikely to be turned off or slowed down any time soon. Comments coming out of all Western central bankers, the Chinese as well as the RBI is that they still believe that the recovery is fragile and they would like to watch for some more time before taking and significant action. Economic numbers out of Western economies are still mixed with alternate bouts of positive and negative data points. some of the improved numbers is segments like Autos and housing in these economies have been driven by incentives and their sustainability after the incentives run out is still doubtful. Credit flow is still muted and the financial sector is not completely out of the woods. As such the logic of reversal of liquidity as a reason for the markets to fall is untenable at this stage.

US Dollar Bounce Back – Given the fact that the US Dollar has continuously been losing value over the last few months it is only natural that there is a bounce back. All bull markets and bear markets have a bounce back associated with them as nothing moves up or down in a straight line. Technically I believe that the US Dollar Index moving below the 78-80 range is extremely negative for the long term direction of the US Dollar. Even fundamentally the US Dollar remains very overowned. As per the comments of Bill Gross a couple of days back, there is a huge over ownership of US Dollars, specially by China. As such any bounce back would be used as an opportunity for investors to exit/diversify their US Dollar holdings. Even taking into account the long term growth prospects of the US economy vis a vis emerging economies there is no way there can be a directional upswing in the value of the USD. As such a short term upswing in the value of the USD should only be used to buy risky assets.

Overall economic performance continues to be healthy and the economic outlook continues to improve. In bull markets dips should be used to buy into rather than sell into and the current correction provides a good opportunity as the fall in the broader markets has been much more severe than the Indices and lot of stocks are coming at good entry level prices.

Another reason why i do not think that we are likely to have a 20% correction at this stage is that the markets had a prolonged period of consolidation between May and August. Even the subsequent upmove in the markets has not been driven by any euphoria or excessive optimism. As such there should not be a severe sell off in the markets as speculative positions are well controlled. Given that the results season is coming to an end this week most of the market reaction to the results will also get over shortly. Under the circumstances my bet would be on a 10 odd percent correction rather than a 15-20% one. I think we will get a bigger correction sometime next year after a much bigger upswing.

“Its important to grab entry points in bull markets as they come with gaps and are normally short lived”

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