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Offbeat: Catharsis!

Where were you when the earth shook?

Aaaah! After a huge binge of eating, drinking and making merry, I feel like I have managed to crap it all out the morning after. Isn't that a beautiful feeling? All that sin, which one is carrying around inside him, out in one mad rush.

Readers will find my metaphor distasteful, and not just literally. Across India, if I know humans and markets well, 97% of the investing population would be nursing a dull pain in the pit of their stomach...comparable to what one gets when all that bingeing (referred to above) is still grumbling in your innards.

I don't seek to offend you, my dear readers. If it gives you comfort, I have also lost four years' salary in this last earthquake. The difference between you and me is only in that while you rue the money you lost, I am celebrating the money I am left with.

You, my dear readers, saw the unearned gains as some sort of God-given right, while I saw it as sinful excess. We both drank at the party side by side, but one drank happily and carelessly, one sipped with an eye on the bouncer. If you did not see the parallels with Sodom & Gomorrah, then obviously, you have not read or remembered the bibles of investing.

But enough of the preaching. Let me point to you some further chastising thoughts. There is much talk in the media about some 'foreign hand' behind it. Politicians talk about manufactured crises, looking for a scapegoat. The Left, as usual, derives salacious pleasure from such cataclysmic events...hoping it is the rich that get hurt. But that is never true...their ideological enemy, the bourgeoisie, actually benefit...they are usually at the buying end, not the selling end of such crises.

The pink papers go to town with some explanatory logic. Either some international developments, or some conspiracy, or of course, somebody in power is responsible. Finally, hang it round the regulators...they are supposed to guard the market, aren't they?

But markets must do what markets must do. I can't help remember that the markets ignored Rajeev Gandhi's sudden death for nine days, before going into a precipitous fall. Why, I have often wondered? The only answer is that 'strong hands' were holding stocks, building up positions in anticipation of the return of the Congress. They were completely surprised (or rather, shocked) by this sudden development. The initial panic was stemmed with organized buying...foolish retail turned tail, with mainstream media stories about how 'it did not matter'. Once retail bought back, down the market went...suddenly, the market 'remembered' what a great man he really was.

Markets go up and down based on whether stocks are in 'strong hands' or weak ones. Do not forget that markets are a mechanism to impoverish one set of people and enrich another set of people. Contrary to what the Left is fond of saying, markets DO NOT hurt the poor...they create the poor. Likewise, they do not benefit the rich...they CREATE them. When everybody understands this, there will no Left left.

Markets are nothing but a place to exchange human behaviour. Some sets of behaviours win often, while some sets of behaviours lose out even more consistently. 'Good' behaviour may approximately assure you success, but bad behaviour most certainly guarantees you impoverishment.

When I say 'strong hands', I am referring to virtuous behaviour...patterns that I have documented in detail, patterns that you will find in every detail of economic life. The obverse is 'bad behaviour', which leads to 'weak hands'.

Let me explain. For all the talk about 'conspiracy', the crater in the market is deepest in the 'interest-rate' sensitive stocks...power, infrastructure, housing finance, realty/construction, auto, steel and later, maybe cement. These stocks have had steep falls, with little buying coming in, even at the bottom.

The losses for investors in these companies has created a liquidity crisis (through margin calls) for traders, especially leveraged traders. Obviously, such people have little understanding of the money markets, if they have gone and increased positions at a time when the supply of money is tightening.

When they now need to sell assets to cover their liquidity needs, what do they find? There are no buyers for their favoured stocks, but there are buyers for their other non-interest rate sensitive stocks. So if you lost money in realty, you might find that you are not able to exit realty at a decent acceptable price, but there are buyers for your sugar shares. Are you surprised? This is no different from the Pandavas being asked to give up Draupadi, if they had nothing else to put on the table.

What is the logic? Sugar is moving on a trend that has no relation to the broader liquidity trends in the economy. The sugar story is based on either oil-to-ethanol-conversion, or rising international prices on the expectation of the EU turning from exporter to importer. The best sugar companies are near debt-free, unlikely to get affected by rising interest rates.

So Smart Money would be cherry-picking those sectors that will ride out the coming liquidity crunch, the broader capacity overhang that is going to cast a cloud over the economy. There will be other examples, but I have just been able to find one. Should the retail investor be surprised if he finds that his favourites don't come back, but the shares he is forced to sell are the ones that bounce back?

How come he was holding the worst-quality paper at the wrong time? And why does this ALWAYS happen?

Soros is fond of saying that markets do not anticipate or discount future reality...they often create it (reality). Now try and understand this...bubbles don't get created because some external development sucks in money, they get created when retail money rushes into some part of the market, either in response to some external logic or just randomly.

In other words, we need to be sensitive to the creation of a 'social epidemic', which is really the driving force behind a bubble. Sometimes, the immediate trigger for a social epidemic may turn out to be a non-event, like the recent rise and fall of Realty stocks. I honestly cannot understand why the prospects of real estate should go up at the start of a clear interest-rate tightening cycle. History will judge me, but I don't see how liquidity can be easy in the coming couple of years.

I don't blame the (realty) cos. They were merely finding an alternate route to funding. As lending from the housing finance sector was drying up, they sought recourse to the equity markets. That is how water behaves, how monkeys react in crowds...the Principle of Institutional Stupidity.

But what does the retail investor have to say, to defend his actions? And did he realize that if there are too many of his ilk, already invested into the stock, the stock is ripe for a collapse. It isn't that ignorance comes alone. As a behaviour pattern, it is accompanied with greed, which in turn, alternates with fear. Fear predominates where there is ignorance, and the cycle is complete. Put some masala into it, in the form of over-leveraging, herding and over-confidence and you have a potent recipe for disaster.

We all know that water is unstable, but rock is stable. The uneducated, diversified opinions of thousands of people, all unsure of themselves and prone to change their opinions, will create a boiling, volatile broth that is bound to create a dam-burst.

Compare that to the 'social consensus' in steady, stable stocks that are out of the gaze of mainstream media. These stocks don't get affected by earthquakes. Their earnings are never over-discounted, like in the realty sector today. But they also do not spread the pain. Moderate risk, moderate returns... haven't you heard that before?