Can Fear and Greed "both" increase share prices ??

Greed, conventionally, is known to increase the interest of people in a certain section of stocks, thereby increasing the demand and its price. Similarly, fear is something best known to people in the stock market currently, across the globe. It can bring stocks down much quicker than they can rise. Fear, much before the virus even impacted the economy, had driven the markets to the 5-year low. But today is something special...

There can't be a better day to explain what short squeezing is and how fear can drive stock prices high instead of low. Today, only fear and panic have made huge money for the brave who dared to have an optimistic look towards a despondent market and the economic scenario. Yes... It was this FEAR and PANIC that made the banking NIFTY skyrocket today.

The day started with a gap up opening for the banking sector which was doomed to serve another bad day for the forlorn bulls. It opened at Rs.17603.40 and fell down to Rs.17560.35 for the day's low within the first hour itself. Just like an arrow stretches back to get the necessary impetus to go a greater distance in front, the bank nifty bounced upwards, breaking all the immediate resistances on the technical charts.

It moved to Rs.18874.25, i.e., 7.22% from the day's opening and over 1300 points from the day's low. These kinds of returns are rarely spotted, even in the most volatile markets like the ones we are witnessing. It also closed near those highs.

There is no reason for the bulls to cheer apart from the hope of the vaccine testing being successful and partial upliftment of the seemingly never-ending lockdown. The economic damage has been done and the policies rolled out by the government are for the people, instead of favouring the financial institutions. The repo rate reduction by 40 basis points was a pleasant surprise but moratorium extension can increase delinquency rates. The trade-off thus does not support such a huge rally.

Watch the graph from RIGHT to LEFT. This is what can happen when you are close to an expiry date.

Then why such a big rally today?

As the day progressed, with such a good sell-off in the past week, the investors realised that it was time for them to book their profits from short selling BANK NIFTY. Short selling is basically selling the shares at a higher price and buy it back when it is available for cheap in the market. It is unconventional compared to our normal buying-then-selling mentality. But this short-selling strategy has a deadline for the investor to buy the stocks back, not caring for whether they have made a profit or a loss. This weekly deadline is due tomorrow - 28th May 2020.

With a spectacular week for short-sellers, the investors started booking profits thereby leaving the grips on bears loose. This means that they are satisfied with the drop in prices and do not hope for a further downfall of the bank nifty. This does not mean the bulls are ready for a ride, just that the bears have lost power. This is not something I am speculating - this can be confirmed by the drop in open interest, i.e., number of players and open contracts in the market and also by the drop in the put-to-call ratio for the entire day.

Since bearish investors were winding up their profits, this squeezed the prices higher. As prices went higher, the leftover bearish investors also started booking their profits in panic. This is how FEAR induced a sense of buying (back) of the bank nifty index. The stocks have remained under pressure for long now, but there is no way the bulls can be solely attributed for such a precipitous rise.

Due to this cycle of fear that has pushed more put buyers and call sellers to end their positions, the price went higher which in turn again forced the leftover to close their positions, hence, continuing the rise in price. This is 'short squeezing' - due to prices rising, one ends the short position thereby creating a further rise in the price. So if any trader was holding onto the short position even then, has reduced profits owing to price rise and is squeezed to close positions fearing more losses. This is how fear can drive markets higher than greed can. This is again possible owing to the time crunch with expiry of contracts at hands.

These are phenomenon visible generally with highly liquid stocks and those who have an impending expiry date for certain kinds of derivatives, eg. futures and options.

Economic sense of the market ...

With over one-third of the listed companies in NSE opening their offices and workplaces from June next week, obviously the market is hopeful. But the damage that has been done to the economy cannot be estimated properly even by the experts in the market. The GDP growth of a country, with over 130 crore people, is being estimated to be negative. This comes both as a shock and opportunity for investors.

With schemes and programs for the MSMEs and small ventures - 'Make In India' and 'Atmanirbhar Bharat', I believe better times will be seen. With decent monsoons and opening of workplaces, within 2 quarters I believe, most companies with good cash and cash flow will be highly profitable. Hence, companies are being traded at cheaper than their original capability. Cash is king in such times.

Sectors like FMCG, pharma and IT are bound to do good. Sectors like auto and hospitality & travel will take the most heat. Better to choose sectors with a small term in mind. After the COVID scenario is clear, perhaps maybe a few months later, the portfolio can be rejigged for a long term investment.

Speaking about the banking sector, a lot will be clear in August itself. Fearing delinquency rate increase, the banks are apprehensive in giving loans and believe in parking their money in bonds and other safer options. This reduces the liquidity in the market, thereby reducing demand and consumption. This is a matter of worry. On similar lines, NBFCs are even worse. They have been under scrutiny since IL&FS case last year and all the dirt inside is being cleansed. This sector will not have a great time in the near future. Better to look for opportunities in good companies like HDFC and IndusInd.