September has been a stellar month as far as the performance of Indian markets is concerned. The Sensex rose by a sharp 12% during the month. This was largely owing to a surge of foreign money. As per the SEBI, FIIs infused a massive US$ 5.4 bn (net) into Indian stocks during the month. The recent gains have taken the Sensex to just a shying distance from its all time highs achieved in January 2008.
So are we in a bubble, as was last seen in 2008? A sharp rise like what we have seen over the past few weeks suggests that these indeed are risky times. But we are still away from the mania that was seen in 2008 when the markets were at their peak. This can be seen from the fact that while FIIs have been bullish on Indian stocks, domestic funds are acting pretty cautiously.
Anyways, with markets now trading at near expensive levels, the biggest question is - how long will this rally last?
Well, we do not have a clear answer to this. After all, FIIs are known to be fickle investors and there is no limit to which they can act like maniacs. They come in hordes, and leave in hordes.
But one signal we are getting with respect to the possible FII behaviour - and thus the possible movement in Indian stock prices - can be found in the vibes coming out of the US central bank - Federal Reserve.
The Fed has maintained near-zero interest rate for short term loans since December 2008. It has done this to encourage the recovery in the world's biggest economy. Now with several experts expecting the Fed to maintain the dollars cheap, we see this as laying the foundation of a financial bubble in emerging market stocks like India - a bubble that could just be in its initial stages.
A continued and heavy dose of cheap dollars printed by the Fed has led to excessive risk taking by speculators to speculate in stocks. While the situation has still not reached a stage that could be termed a 'bubble', it won't take much time for things to get out of hand.
With more cheap dollars available, and for a longer time, stock prices in emerging markets like India can rise even further. But the house could well come crashing down the day the supply stops!
So, what should you as an investor do?
Well, the answer lies in valuations. As we stand now, the overall valuations of the Indian markets are at high levels. And this makes stock prices highly vulnerable to a correction.
Data Source: BSE
The answer to this uncertainty does not lie in selling all stocks and sitting on cash. The answer lies in being strict with which you selection of stocks. Investing is a continuous process and like you need to be prepared for a bull run, you also need to be prepared for a correction (and not fear it).