Dalal Street begins to crack under the strain as sensex takes a dip

Sensex falls 389 points on fears of inflation, populist Budget moves and overbought F&O positions 

MUMBAI: The market is counting its worry beads. Fears over inflation, a regulatory crackdown, populist moves in the Budget and overbought positions in derivatives saw the Sensex take a 388.78-point pounding on Friday.

Over the past two weeks, the index has fallen 1,019.74 points, wiping out all the gains that were made this calendar. In fact, the close of 13,632.53 for the index is 1.12% lower than the close as at the end of last year.

Therefore, it may be prudent for stock market investors to be content settling with gains much lower than they reaped in the past two years. Over 2005 and 2006, the Sensex had returned 42% and 47% respectively.

It’s becoming clearer by the day that stock selection and longer holding periods are what will matter now, as wild swings exacerbate each passing day.

Friday saw retail investors entering the markets on a negative note after the Securities and Exchange Board of India banned the promoters of Atlanta and big-time stock market player Manish Marwah from dealing in the shares of the company on allegations of price rigging. “This order resulted in a selloff in a lot of scrips, which affected retail investor sentiments,” says Deepak Jasani, head of retail research at HDFC Securities.

Inflation also figures high in the list of factors dampening market sentiment. In the week ended February 3, 2007, it had touched a two-year high of 6.73%. Though the 6.63% figure announced on Friday for the week ended February 10 seemed to suggest a cooling off, it still remains in an uncomfortably high zone.

Jasani sees the markets stabilising between 13,300 and 13,500. “If it doesn’t, we could be in for a big fall,” he adds. For now, Jasani’s advice is to lighten positions on any rise and see if the markets stabilise around those levels. “One could take a fresh view after the budget,” he says.

Overbought positions in the derivatives market have been another cause for concern. On Thursday, when February series contracts expired, around Rs 42,674 crore worth of open positions existed.

“This is fairly large for the beginning of a new series,” says Soumendra Agarwal, derivatives analyst at Brics Securities. However, he feels that a lot of 4,100 Nifty calls and puts have been sold on Friday, “which makes the downside very limited”. The Nifty closed down 2.5% on Friday at 3,938.95 points.

Analysts say the stock markets’ weakness in the past two weeks has a lot to do with the traditional theory that when inflation rises, interest rates too rise. As a result, investors’ risk appetites come down. They then turn to safer investment alternatives.  

These include fixed deposits, which in the Indian context has started yielding upwards of 9% per annum.

“Some people have been talking about switching money from equity to debt. Though this number could be small, a small outflow from equity is sufficient to bring down stock values in a scenario where there are very few fresh inflows,” says Jasani.

Rahul Nangalia of Nangalia Stockbroking sees the fall in a brighter light. “The more the markets go down before the budget, the less it will bleed after the budget,” he says.

For the short term, “it’s better to clear your positions now rather than wait to react to any negative statement that may come out of the budget,” advises Nangalia.