Nifty Outlook: Scary Reversals or Crazy Upsides?

In our January 2021 “year ahead” articles, we had prophesized on two things : 1) 13000 on Nifty, which was the level then, would become a base and not the resistance that everyone feared and that 2) the US Dollar, if it remained weakish to rangebound, would propel markets higher.

With 17000 hit on the Nifty, the next question on everyone’s mind – what now!

CURRENT SITUATION

The correction and subsequent consolidation in the 15000-14200-15700 range allowed the markets to pave the way for 16500 levels and as data improved globally, such levels were overshot. Market internals rapidly changed as the action area shifted to 17000 for the time being and these levels were overshot comfortably in rapid trading action in August 2021.

The current levels of the Nifty however now are at whats called a 3 Standard Deviation event – ánd therefore caution is warranted. But then caution is always warranted – and 17000 is not any different! So how do we know what happens next- from a mid term investors perspective.

FIRST, THE NEGATIVES

• The Emerging Market ETF Ex China has hit its 2 deviation band last week – from such levels, a breakout or a sharp reversal are the only two possibilities. From a safety point of view, one would presume a downward correction if past data is anything to go by though of course, a lot of news could impact on the upsides.

• The IndiaVIX chart has been displaying a rounding pattern after a long while and on each of the charts across timeframes, there is a higher probability of upsides (negative for indices) than downsides and to that extent, there could be episodic sharp moves which could cool off markts rapidly without warning. What matters however is levels of 15.5% or above sustaining because if they do, we might correct significantly.

• The current Nifty level is by far the most overstretched from its trading averages as the chart below shows. Such phenomena have to sooner or later result in a correction – almost about 15% to 20% from the top if historical data is anything to go by.

NOW, THE POSITIVES!

• While Nifty has been making new highs, that’s been without the Bank Nifty supporting. As of now, the ratio is trading at close to 2.1x which is just about whats called a pessimistic level – remember that banks have almost always led the charge historically and then Nifty catches up while this time around, its exactly the opposite. Theoretically, for the Bank Nifty /Nifty ratio to go back to historic highs, almost a 25% move is required which means a rise of almost 45000 plus on the Bank Nifty. While this may not happen immediately, this allows the Nifty to have a substantial upside available or at least, protection from deep downsides

• We also looked at the chart of an index major , Reliance (9.9% weight on Nifty), on a relative basis to see how its current price compares to its history. From what one can see, theres very little downside but potential for huge upsides on a relative basis which again means that the Nifty would find support as well as then paves way for huge upsides especially if the IT pack holds.

• The CNX 500 broader market index has underperformed in recent weeks and the pattern is suggestive of a bottoming out – this means the broader markets can in fact start outperforming sharply at some stage and sustain for months to come.

• And finally, the most important of them all – the DXY. The Dollar Index has had a huge buildup of shorts during the 2021 calendar year which was scary as it could mean huge upsides for DXY in a situation of panic – but from what one reads in the news, it looks like all the shorts have been closed out and still the price on the dollar has remained weakish and not followed through. This is the most important signal there is out there for emerging markets and especially India as it means that the dollar will fundamentally remain weak unless the Fed does something nasty that markets don’t expect. In addition, with inflation catching up globally, risks to sharp and sudden downward moves in the INR are on the lower side.

OUR TAKE!

Our takeaway from all that’s happening from the mid to longer term point of view is this – we may be approaching a near term consolidation as we have had a sensational rally and  it would be wise to rotate regularly BUT stay in the market. The market behavior is suggestive that what used to be a pessimistic base of about 10,500 on the Nifty shifted to about 13000 and now is closer to 14500 levels – and we may see much sharper upsides to markets over the next 1 or 2 years than we can imagine currently. While we may fret as we don’t come to grips with how to rationalize such levels and find our own justifications, the fact is that global money searches for future returns – and if the dollar were to weaken, such money would continue to pour into emerging markets in huge amounts.

And if the Indian capital markets can absorb such moneys with efficient fiscal and corporate level management of growth, and therefore cool off valuations , there need not be any worry at all for international investors.

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