How to identify the first signs of the market bottoming out
Tracking price and volume gives a good idea of the market bottom.
One of the most complex and daunting tasks for any market participant is to try and determine when the market bottoms out, or reaches a point from where it no longer drops significantly. The market is greatly influenced by macroeconomic factors, policy measures and economic events. So, to ensure if the market has bottomed out is the most difficult task.
Investing in the market at the bottom and, thereafter, riding the investment with patience can generate very high compounded returns for years to come. So, the question that arises is how to read the first signs of a turnaround. In order to catch the bottom, one needs to first know what a market bottom looks like.
Stocks in any portfolio belong to different sectors, and identifying the sectors to which some stocks belong is a good first step in determining if a stock is near the bottom. For instance, the entire financial sector witnessed a decline during the credit market meltdown in 2008.
Basically, management guidance during earning calls is the first indication as to how a company management perceives future earnings. It is an important indicator of where the company is headed; it gives a broad sense of how its financial performance may look like at the end of the year.
Tracking price and volume gives a good idea of the market bottom. A stock tends to bottom out when there are fewer sellers on that counter. When there are fewer sellers, there are more buyers and they are willing to pay a higher price for that stock. This may cause a stock price to rise.
India has just started seeing a gradual drop in interest rates. The reduction in the cost of borrowing is always of help. However, interest rate cuts effected by RBI have not been enough for the market, which has been languishing due to various factors. The recent announcement of a cut in corporate tax rate for domestic companies and new domestic manufacturing companies by the Finance Minister will certainly help the market bottom out.
Auto numbers can also indicate market trend. Recent auto sales numbers suggest the sector is facing its worst crisis in 20 years and market sentiment has weakened a lot. When these numbers start improving, they will be a sign that the fall in consumption is getting arrested, and it thus giving an indication of bottoming out. In the current situation, however, the festive season will be a clear signal whether the auto cycle is going to reverse or not. Besides a flurry of IPOs, corporate actions and increase in the number of NCD issuances indicate increased confidence of market participants in the stock market.
It is the sincere desire of every market participant to buy at the bear market bottoms, but it rarely happens. The emotion of fear is so influential, the herd mentality is so strong and unconscious herding is so much popular that it becomes impossible to go against the consensus. One can look at any of the above ideas in their search for market bottoms, but it is advisable to look at more than one method for confirmation of such a market bottom.
(DK Aggarwal is Chairman & Managing Director of SMC Investments & Advisors)(DK Aggarwal is Chairman & Managing Director of SMC Investments & Advisors)