Inflation, Deflation, Both? - Sainik

aka Alice in Wonderland...

True to script, the Indian markets vaulted over 5500 levels to close at around 5915, which is just 8 percent below the previous all-time highs of 6340 attained in January 2008. If this level is crossed, India would become a part of a handful of countries trading at all-time highs-the Indonesian and Malaysian markets are already trading at all-time highs.

Clearly, the surge has been led, predictably, by FIIs, whose appetite for Indian equity never seems to end. Local institutions have been heavy sellers, but to no avail.

Banks and tech stocks were the leaders in this rally. It is surprising that tech stocks are hitting new highs despite negative vibes coming out of the US and the growing fear that Europe is a disaster waiting to happen, and the rupee strengthening against the US dollar. Sounds illogical? The RBI has come out with a very hawkish economic policy which should have affected banking stocks but this was just brushed aside by the relentless optimism. Well this is the stuff that runaway bull markets are made of!

While we are on a tear, there seems to be confusion in other markets. Just consider this: the US and Europe markets are going nowhere because consumers are just not biting; hence the talk is about possible deflation. With the Bond market rallying a while ago, and yields hitting new lows, the case for deflation is justified. However, a look at the Gold market which presents a different picture-the precious metal hit a new life-time high last week, and looks set to cross $1300 per ounce in the near future. Traditionally, a rally in gold means that inflation is around the corner.

So what's it then? Inflation or Deflation? Some more head-scratching to do if you observe the currency markets. Japan intervened in the currency markets for the first time since 2004 and bought dollars to weaken the yen, so as to help its exporters. On the other side, the US is asking China to strengthen its currency and threatening to label China as a currency manipulator.

What does one make of the Japanese action? Manipulation? While this going on in broad daylight it has been ignored by everyone. The whole scenario resembles something straight out of Lewis Caroll's 'Alice in Wonderland'.

The US equity markets are totally devoid of volumes and large swings can materialise without any rhyme or reason. The markets to watch are the US bond market, gold and the dollar index. These are large markets with huge number of players and cannot be manipulated by any one entity, including the Government, for an extended period of time. The direction of these markets will determine the fate of the underlying economies.

Right now, the markets are indicating that all is not well, at least in the developed economies, whatever Obama, Bernanke and other political leaders of various countries want us to believe.

Coming back to our own markets, while all the analysts are unanimous in their opinion of the indices hitting new highs and the markets continuing to flare up higher and higher, we would like to play the contrarian card and issue a short-term Sell on all rallies during this week. We would recommend lightening up on at least 50percent of the holdings, if not the entire portfolio.

Very rarely would one like to issue a Sell call, because if it goes wrong, all one hears are curses. But we are ready to be cursed. Do note though that I am not advising shorting the markets as yet, since it is very risky in markets which are irrational such as these.

If one were to sell in a calibrated manner over the next few days on all rallies, we believe one would get some good bargains in end October, just before Diwali.

The sectors which look ripe for profit booking are the banking, technology and cement. One would be able to buy ITC, Satyam, Maruti, Bhel, L&T, and TVS Motors, on a decline of 5 percent from current prices whenever it happens.

Whatever, you choose to do, hope it is profitable.