In stock markets, history has a tendency to repeat itself. The cycle of fear and greed never changes. If history has taught us anything at all, it is that stock markets move in cycles: the boom-bust cycle to be exact. Markets always peak out when optimism is at a peak. The last time this happened was in Jan 2008. The Indian markets peaked at 21,000 levels. The forward P/E of the BSE-Sensex was around 24 times. foreign institutional investors (FIIs) had pumped in a record US$ 17.8 bn in 2007. The IPO market was booming like never before. Reliance Power's Rs 117 bn IPO, the largest ever in India at that time, had been subscribed about 70 times. It seemed then that the good times would last forever!
The mood changed in a matter of a few days when the fears of a US recession set in. Even so, nobody could have foreseen the carnage that would follow later that year. Despite our lack of foresight, it does make sense to keep a keen eye open for such risks. What about now? Does the market situation resemble 2008? In a word: no; still it does pay to be prudent.
The Sensex is around 29,000 levels. The forward P/E of the BSE Sensex is around 18 times. FIIs activity has been buoyant. They pumped in nearly US$ 16.2 bn in 2014. After the ECB's QE announcement, 2015 could very well see a new record in terms of FII flows.
However, there are important differences between 2008 and 2015. For one thing, the IPO market is in the doldrums. GDP growth in the September 2007 quarter was 9.5%. In contrast, GDP growth for the September 2014 quarter was 5.3%. We have also not seen many big bang reforms yet.
The markets don't seem to mind too much thought. IPO activity could soon pick up as could GDP growth. The IMF and the World Bank have both stated that India will soon over take China in this regard. With a pickup in economic growth, improved corporate profitability cannot be far behind. This is why the markets believe that the bull market will continue for now.
However, it is important for investors to not get carried away in the euphoria. Even if 2015 is not like 2008, it does not mean sharp corrections cannot happen at any time. Indeed, they can happen when people least expect them to. Thus investors would be well advised to avoid speculating in the markets and invest only in fundamentally sound businesses, keeping a hawk eye on valuations.