Sensex, Nifty charts (May 29, 2020): shorts get squeezed

For the month of May '20, FIIs were net buyers of equity worth Rs 139.14 Billion. (On May 7 alone, the GSK-HUL bulk deal led to their net buying worth Rs 190.6 Billion. Otherwise, they would have been net sellers for the month.) DIIs were net buyers of equity worth Rs 122.93 Billion, as per provisional figures.

India's GDP growth during Q4 (Jan-Mar '20) was a dismal 3.1% despite only 7 days of lockdown in Mar '20. That dragged FY 2019-20 GDP growth down to a more than a decade low of 4.2%. GDP during Q1 (Apr-Jun '20) is likely to slip into negative zone. 

For FY 2019-20, India's fiscal deficit widened to 4.59% of GDP, overshooting Govt.'s upwardly revised target of 3.8%. The actual deficit was Rs 9.35 Trillion, which was 22% higher than the revised target of Rs 7.66 Trillion.

BSE Sensex index chart pattern

The daily bar chart pattern of Sensex made a sharp up move in a holiday-shortened trading week that included monthly F&O expiry on Thu. May 28. Shorts got squeezed as both FIIs and DIIs were net buyers of equity.

Bulls were successful in ensuring that the index crossed two important hurdles - the middle Bollinger Band (20 day SMA) and the sliding 50 day EMA. However, the upper Bollinger Band may limit further index upside. Sensex continues to trade well below its falling 200 day EMA in a bear market.

Daily technical indicators are giving bullish signals. MACD has crossed above its signal line in neutral zone. RSI is rising above its 50% level. Slow stochastic has climbed sharply past its 50% level towards its overbought zone. Some more near-term index upside is a possibility, but don't expect a runaway rally.

Note the following comments from last week's post: "RIL's huge rights issue at a substantial premium is open for subscription till June 9th. Don't expect the index to fall much till then." The rights issue pot has been kept boiling by wily bullish announcements (e.g. multiple foreign investments in Jio, and a possible overseas listing after one or two years). The Rights Entitlement form is trading at a premium!  

India's economy has been tanking for a while. The pandemic has made it worse. Now there is a locust attack. Prolonged lockdown restrictions are gradually getting lifted though the Covid 19 curve refuses to flatten. There is no vaccine or cure in sight.

Under the circumstances, the index should be plummeting instead of moving up. True mettle of small investors are tested during such times. The market doesn't understand logic. It moves on sentiment and liquidity in the near-term. 

So, neither should you fight the 'ticker tape', nor should you jump in with all guns blazing. Just follow your Asset Allocation plan, and stay detached and calm.

NSE Nifty index chart pattern

The weekly bar chart pattern of Nifty gained more than 540 points (6%) on a weekly closing basis, after three straight weeks of lower closes. Shorts were squeezed out, thanks to combined buying by FIIs and DIIs. However, the index closed below its three weekly EMAs for the 12th straight week.

The 20 week EMA crossed below the 200 week EMA a while back. All three weekly EMAs are falling, which is a sign of a long-term bear market. The 'death cross' of the 50 week EMA below the 200 week EMA - which will technically confirm a long-term bear market - is still awaited.

Weekly technical indicators are in bearish zones, but showing slight upward momentum. MACD is trying to cross above its falling signal line inside oversold zone. RSI is rising towards neutral zone. Slow stochastic is in bearish zone (below its 50% level). Some near-term index upside is possible. 

Nifty's TTM P/E has risen to its highest level for the month at 22.38, which is above its long-term average in overbought zone. The breadth indicator NSE TRIN (not shown) is falling inside neutral zone, hinting at near-term index upside or some consolidation.

Bottomline? Sensex and Nifty charts are trading below their respective 200 day and 200 week EMAs in bear markets. Positive Covid 19 cases continue to increase rapidly after easing of lockdown restrictions. India's economy is on the verge of falling into a recession. Don't stop your SIPs, but don't be in a hurry to do bottom fishing.

Why you need the resilience and discipline of a door-to-door salesman to succeed in the stock market

If you are thinking: "What on earth is a door-to-door salesman?" then you probably belong to a generation that has never seen 3D picture discs in a View-Master or listened to a 78 rpm vinyl record on a gramophone. In which case, you have obviously never met a door-to-door salesman. 

There was a time in the not-so-distant past, when many retail products - particularly encyclopedias - were sold by salesmen who knocked on the doors of homes to demonstrate and sell their wares.

Just like the buggy whip and the hurricane lantern have almost disappeared with the onslaught of industrial and technological progress, so has the profession of door-to-door selling.

A few years ago, Forbes magazine had listed '10 Top Dead or Dying Career Paths'. Telemarketing and door-to-door selling was 7th on the list - just ahead of photo film processing.

Before the advent of the Internet and social media, the only way smaller manufacturers or dealers could mass-market their products was through door-to-door selling. 

Salesmen were paid a token salary - or none at all - and made money through sales commissions only if they met their monthly or quarterly targets. Each salesman was allocated a specified locality or territory - where they had to compete with other salesmen selling similar or different products.

Home owners were bothered and irritated by their door bells being rung by salesmen at all odd hours trying to sell them anything from incense sticks and toothpaste to books and vacuum cleaners.

Most slammed the door shut on the faces of the salesmen. A few who were kind enough to listen to a salesman's pitch probably didn't buy, giving some excuse like "I just bought a similar product" or "I don't have enough cash with me."

In other words, making a sale itself was a difficult task. Meeting stiff monthly sales quotas was nearly impossible. Still, the salesmen would go on their rounds come rain or shine - knocking on doors and getting them slammed in their faces.

You can just imagine the kind of resilience and discipline that was required to carry on - despite knowing that the chances of success were negligible. But when they did make a sale, good salesmen ensured that they sold their higher-valued products so that they could earn more commission.

Being able to handle repeated disappointments and having the mental wherewithal to bounce back and keep trying is just the kind of discipline one requires for success in the stock market.

A successful salesman eventually developed a winning strategy after repeated failures. So should a stock investor. 

If you have tasted some success by buying a stock without doing much research and then selling it at a profit, you are unlikely to be able to repeat your success.

Even after doing proper study of a company's annual report and its stock price chart, the stock you pick may not give you the returns you expect. 

Eventually, the resilient and disciplined investors will learn from their mistakes (or follow the advice of an experienced investor) and learn to follow a plan and a strategy that enable them to select winning stocks.

And once they have picked a winner, they buy a lot of it and hold on for the long-term to reap the benefits of dividends, rights, bonuses and buybacks.

Stock Buybacks: A Good Thing or Not?

There are many ways in which a company rewards its shareholders. The most common methods are bonus issues, rights issues, dividends, stock splits and share buybacks.

Bonus issues increase the equity capital. The market price of equity shares gets adjusted according to the issue ratio. So, in theory, there is no gain for shareholders. The company can benefit because the higher capital enables them to borrow more. 

In reality, share price often rises following a bonus issue - particularly for established and financially strong companies - as the lower bonus-adjusted price attracts buyers.

Rights issues increase the equity capital, and sometimes also the reserves if the rights issue is offered at a premium to face value. If the issue price is lower than the market price, shareholders benefit through capital appreciation, even though the market price gets adjusted in the same ratio as the rights issue.

Dividends benefit shareholders, because it is tax-free cash in their hands. For companies, the cash outgo indicates that the company does have sufficient resources to pay dividends. 

If the company has to resort to debt in order to pay dividend (or tax), then it is a 'red flag'. This is why studying the Cash Flow statement in Annual Reports is so important. It gives a clear view of a company's cash position.

Stock splits do not increase the share capital of a company. The face value of equity shares get reduced and the number of shares increase proportionately. Again, in theory, there is no benefit for shareholders.

However, the increased number of shares in demat accounts usually leads to near-term selling. Eventually the selling subsides. The lower market price of the split shares attracts buyers, pushing up the market price. 

Here is an example of how bonus and splits can enhance value for long-term shareholders.

Back in 2002, ITC shares of Rs 10 face value were trading at around Rs 600 or so. If someone had bought 100 shares, his investment would be worth Rs 60000 - not a small sum 14 years ago. 

If s/he had the foresight to hold on till today, the holding would have increased to 3000 shares of Rs 1 face value - thanks to two bonus issues (1:2 and 1:1) and a stock split (10:1).

At the current (corrected) market price of Rs 300, the shareholding would be worth Rs 9 Lakhs - a 15-fold increase, not counting the substantial dividends paid each year.

Share buybacks - sometimes at a premium to market price - reduce the equity capital to the extent of number of shares bought back. The bought-back shares are extinguished. Shareholders get an exit opportunity at a profit.

In case they hold on, the market price tends to rise after the buyback (due to higher EPS and lower P/E) - providing capital appreciation.

Read more about pros and cons of share buybacks in this article.

How to reallocate your assets

An investor friend asked me a million dollar question last week: The stock market has collapsed and blue chips are available at attractive valuations, but where is the cash to buy them?

Many investors - yours truly included - have been taken by surprise by the severity of the market decline. Let alone think about buying, many are scrambling to save whatever little is left of their portfolio. The currently attractive fixed deposit (FD) rates have prompted some to sell even at a loss and move to fixed income.

This is as great a time as any to give some thought to asset reallocation. But to do that we have to start with asset allocation.

Let us say that you are 35 years old and an investor in the stock market. The thumb rule for percentage allocation to equity suggested by market experts is (100 - your age). In this case, it will be (100 - 35 =) 65%.

Now you may not feel comfortable with the associated risk of such an allocation to equity. No one is pointing a gun at your head. Choose whatever percentage makes sense to you. 40-50% if you are a conservative investor. 75% if you are aggressive about making high returns with high risk.

The younger you are the more should be your equity allocation. Why? Because equities tend to earn the best returns over the long term, and when you start young you have less responsibilities and hence can afford to take more risk.

The older and closer to retirement you are, the more should be your allocation to fixed income. Why? Because the stock market can be in doldrums just when you are about to retire - when your regular income source will dry up. The (100 - age) formula comes in handy after all.

For argument's sake, if you agree with the 65% equity allocation (this could mean shares or equity MFs or a combination), the balance 35% should be in fixed income, gold ETF and cash. A rough breakup can be 25% in bank FD or Post Office MIS or PPF, 5% in gold ETF and 5% in cash.

The gold ETF is a hedge against inflation, but low returns may not permit a higher allocation. The cash is necessary for unforeseen opportunities - like a rights issue, or additional purchase due to a bonus issue or divestment.

If you have Rs 20 lakhs as an investible surplus, this asset allocation formula means Rs 13 lakhs in equity/MF, Rs 5 lakhs in fixed income, and Rs 1 lakh each in gold ETF and cash.

Investment guru Benjamin Graham had advocated that on no account should you let your equity allocation go beyond 75% or go below 25%. If you follow this advice to the letter and spirit, it will enable you to reallocate almost without thinking.

How? Say the stock market moves up (not likely in the near future!), and the value of your equity portfolio becomes Rs 18 lakhs. Your total investment value now becomes Rs 25 lakhs (=18+5+1+1), and your equity percentage becomes 72% (=18/25).

This is still below Graham's limit of 75% but is 7% above your original plan of 65%. Prudence requires that you start booking profits partially. If you are aggressive, you can ride the bull market till your equity value goes up to Rs 21 lakhs. Now you've hit the 75% level (=21/28). No further waiting - start selling and invest the proceeds into fixed income and cash, to return to your original percentage allocation plan.

What happens in the process is you increase your wealth in real terms - not only on paper, because now your fixed income/cash amounts have increased. The actual figures are about Rs18 lakhs in equity, Rs 7 lakhs in fixed income and Rs 1.5 lakhs each in gold ETF and cash.

Thanks to the bear market, let us assume your equity value drops to Rs 10 lakhs. Your total investment value is now back to Rs 20 lakhs (=10+7+1.5+1.5) but your equity allocation is down to 50%.

Guess what? You now have some extra cash to deploy back into the market. And if you opt for Post Office MIS and/or monthly/quarterly interest from your FD in your fixed income allocation - then you will have even more cash without touching your FDs or gold ETFs.

No wonder Warren Buffett has said that knowledge of simple arithmetic is enough to be a smart investor! (In real life, the arithmetic may become a little more complicated - but an Excel spreadsheet should take care of that.)

How to exercise your rights

Several large rights issues from companies like Tata Motors, Hindalco, Tata Investment will be hitting the market in the near future. Recent entrants to the stock market, like my young friend Bala, may not have a clear idea about what to do with a rights issue.

Once you receive the rights issue application form and the offer booklet from the company, go through the details of the offer. Special attention should be given to the details about how much to pay, when to pay, where to pay and what to write on the cheque. Any mistakes can cause your application to be rejected.

Several options are available to the investor. These are listed below:

1.  Apply for your entire entitlement; e.g. if your entitlement is 42 shares, this figure will be clearly mentioned in the application form; just fill out the form and pay the application money for the 42 shares

2. You may apply for additional shares in the box provided in the form; e.g. apply for 8 additional shares and pay your application money for (42+8=) 50 shares; chances are you will get allotment for the 50 shares because the market is in a bear phase and many investors may not apply for additional shares. Don't get greedy and apply for 52 additional shares. You may then get an allotment of say 17 shares and be left with an odd number of 59 shares (which may be difficult to sell later in one lot)

3. You can apply for less shares than your entitlement; e.g. apply only for 25 shares and let the balance entitlement of 17 shares lapse

4. You may 'renounce' your entire entitlement in some one else's favour, like your broker or your friend. You will usually get a monetary consideration for your renouncement, say Rs 8 per share.

5. You can request the company for split forms, i.e. 25 shares in one and 17 shares in another. That way you can apply for 25 shares and 'renounce' the balance 17 for a consideration of say Rs 8 per share

6. You can decide not to do anything at all and let your entire entitlement lapse.

Why would you choose this last option? In a falling market the difference between the market price and the rights price may not be large enough. After the rights issue is over, the market price may even drop below the rights issue price. So you may be better off to buy the shares at market price after the rights issue is over if you feel the rights price is not leaving a large enough margin of safety.

Investors who participated in the recent rights issues of ICICI Bank and State Bank will know what I'm talking about.

There is a recent move by SEBI to make rights issues paperless, but as on date it remains a proposal only. If readers have any questions on rights issues, please send me an email with your specific query ( or leave a comment on the blog).