The Thoughtful Investor
Identifying Tops And Bottoms
Identifying tops and bottoms is a difficult game, but we still discuss the important features of both tops and bottoms while arguing that it isn't necessary for an investor to buy at the bottom and sell at the top to make a lot of money because investors who are aware of the signals that are emitted at the tops and bottoms will do equally well.
These signals do not come from the general psychological arguments of everyone investing and no one talking about stocks, but rather from the specific price action that the underlying securities reflect a few months before and after these turning points, which are referred to as tops and bottoms in hindsight.
Signs of a bull market:
- Launch of fresh mutual fund schemes to raise money to buy stocks of the sector in demand.
- Inflow by Foreign institutional investors (FII)
- Maximum Leverage -That is when participants of the market are full in and have also taken leverage with their position by buying shares in finance, which they had no intention of holding for long.
Why market falls suddenly:
A small price drop causes leveraged people to receive margin calls, which cause a chain reaction of selling and further price drops. This creates more fear in the market, and the weak players begin to sell. One must remember that, while a bull market will raise stock prices, a company will take its own time to perform.
Signs of bear market:
- Valuations are most reasonable at the bottom with prices being justified mostly by P/E ratio, dividend yield or a price to book value ratio.
- Public participation is minimum
- Leverage is very small with minimum volatility
- Sense of uneasiness around ( as the macro environment will be throwing up bad numbers)
Sectors that recover first (In order):
- Automobile Companies: People who had been putting off their vehicle purchases have now begun to do so.
- Banking Sector: The likelihood of bad assets decreases, and businesses begin to perform. Increased economic activity also promotes business expansion, which leads to more loans thereby increasing the business of the lenders.
- Industrial companies: In order to expand, you will need to purchase machinery.