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Narrowing markets can be like narrowing arteries.

The Indian stock market has been on an absolute roll over the past 30-40 days.

It is as if all the markets have gotten over the virus concern completely.

It may well be so but as long time students of the market, we must always dig deeper, because ultimately that is what people look to us, old folks, for: Experience coupled with level-headed Analysis.

Good news: In the one-month period ending November 10, 2020, the benchmark index, Nifty 50, has returned an impressive 6.10%.

 Concerning news:  this performance has been driven single-handedly by the banking and financial services sector. 

The data from October 1st is even more staggering: the Bank NIFTY is up a mighty 33% (yes, you read that right!), while the NIFTY is itself up around 12%. 

So what's the significance? Read this, with a deep breath:

The Banking and financial services sector, which constitutes slightly more than 35% of the Nifty 50 by weight, has contributed 7.33% to the overall performance of the benchmark index in the last month.

What this means is that all the other sectors combined have contributed -1.23%. Yes, negative!

Why, as an investor, should you care?

Because, data from multiple markets, and multiple time frames, (now, as you all well know, we at First Global, never settle for easy answers!) reveal that index performance driven by a narrow sector/ narrow set of stocks,  is a cautionary yellow light, if not an outright red light. 

Simply put, markets that are being driven by just a handful of companies (Indian banking, eg) while the broad market is falling or is not participating, can signal some dangers ahead.

While not trying to be alarmist, historically, on several occasions, markets have reversed course, after any substantial narrowing of breadth. 

Think of markets like blood flowing through a healthy arteries. When everything is fine, blood flows smoothly. But when arteries become narrow, it's not that a mishap will necessary happen immediately: it just tells you to become more careful, because the probability of a mishap has increased. 

It's exactly the same in investing. Constant risk analysis should be absolutely Central in any prudent investor's tool kit. 

Risk analysis does not mean that one expects the risk to materialise. It only means that one is vigilant and watchful and prepared to take corrective action if the potential risk becomes real.

Being well prepared in advance is usually 90% of the battle won, in anything in life including investing.

It may also surprise you to know that despite the recent outperformance, the banking index is still among the worst performing sectoral indices year to date, and is, despite all the sound and fury, more than 10% below its all-time high! 

The point is not whether Indian banking is out of the woods or not. 

The point is that towards the end of intermediate Bull markets, a very common phenomenon is that underperforming and laggard sectors start to rally. Now this does not mean that the Bull market becomes transformed into a bear market. 

Investing is only about analysis of probabilities. There are never any short things in investing. It's only a range of probabilities. 

All this means is that, statistically, one should avoid getting carried away by the surface level, "visible" happiness and ask more detailed and pointed questions, when market internals start becoming worrisome.

It is only by asking critical questions that one can get deeper insights.

The larger point for you as investors, is that you must keep asking your fund manager & Portfolio Management company, whether they are analysing markets deeply or not, or are they just acting like kids in a candy store. 

The true test of fund management skill is not to get swept away by euphoria or hysteria, but to keep a sensible, analytical head on shoulders at all times.

Being mindful of market's internal action only means that as investment managers, one remains extremely alert and vigilant in order to prevent damage to portfolios

The Primary goal of financial management has to be avoidance of big losses.

And if your Portfolio Management Services (PMS) provider or Asset Management Company, prevents significant damage to your portfolio, you will almost always win at this game of investing.

(A version of this article was first published in Moneycontrol)

From the desk of 

Shankar Sharma & Devina Mehra

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