The fickle beast is starting to act up a bit again, this time predictably and for reasons anticipated.
Excerpt from the December 2020 monthly digest – Over the past two months more than 1.1 lakh Cr of FII inflows have taken the equity markets higher almost effortlessly, this quantum is ~9% of the equity mutual AUM. If and when this trend of inflows reverses, our domestic asset management industry does not have enough firepower to keep volatility in check
We’ve had almost 12,500 Cr of net FII outflows starting Jan 22, the NIFTY 50 has given up around 1000 odd points. There is a method to the madness even if one can’t predict when the madness will begin or abate.
Again from the December 2020 monthly digest – What moves the market over the medium term is a mismatch in expectations and actual business performance. Watch the stock price behavior of a few blue chip stocks post Q3 results, excellent results but the market was positioned for that already. Unless a mismatch exists, it is not easy to beat the market.
The big lesson from the RH/Gamestop drama in the US is that one needs to be a special kind of dumb to have a massive short position in a stock where the shorts exceed the number of shares outstanding. This special kind of dumb usually has complex algorithms that are written by very smart PhD’s who see the world only through the lens of logic and numbers. They don’t take into account the people factor
that can sometimes sink the whole damn fund over a single trade, especially if you club this with high leverage. Anyone who can corner 5% of the float and hold out for a month at the wrong time can bring you to your knees. It may not happen 99.99% of the time, but the one time it does happen it can get ugly. That precisely is the point, you always buffer for the possibility of ruin when you run positions, even if the probability is just 0.01%. LTCM went bust in 1998 and this was by far the smartest set of people to ever manage money. What sunk them? Russian sovereign bonds.
In such funds the algorithm just pulls the trigger, it does not feel and neither does it exercise nuanced judgement as per the market situation. Their models force them to prune positions when the volatility spikes beyond acceptable levels, often at the worst possible time. The combination of MTM losses and Value At Risk models are trouble once one gets stuck in a vicious loop. Plus there are other funds to profit at your expense, once this drama is done we will know who is the big whale pulling the strings in the background while the RH guys on reddit are projected as the fall guys.
In the meantime such episodes can cause market gyrations in unrelated markets due to forced liquidation of assets. On Friday we had a 5,900 Cr net sell number from the FII’s. I am watching the next few sessions very closely. Back home, we’ll see what the Union Budget comes out with tomorrow. Sometimes the Jan/Feb volatility becomes a self fulfilling prophecy, we will know soon.
To again quote from the December digest – Slightly cautious given the market mood, but not coming to any conclusions yet