Indian Stock Markets Crash - Good Time to Invest

The market fall has been described in many words in papers/websites - freefall, crash, saare zameen par, etc. etc.

Is this a good time to invest?

Firstly, why have the markets fallen so much in 2008? It is due to a combination of factors, the key ones being
  • the negative global sentiment that is prevailing
  • recent IPO of Reliance Power (which had an overwhelming response)
  • selloffs by FIIs
  • aggressive positions built up in the futures market
Once a selloff starts and goes beyond a point, then it begins to have a catastrophic effect on the market. Why? Simply because the aggressive positions built up are leveraged positions. Which means that the positions have been built up by borrowing money. There is a margin put up (usually a % of total value) and this margin needs to be maintained by the investor. And this margin is tracked real time.

Beyond a point, the margins become insufficient and further margin calls are made on the investor (by the broker) and also on the broker by the exchange (the broker has to keep a margin with the exchange). If this margin calls are not met, then the broker simply sells off the stock in the market.

Imagine this situation happening on a large scale and you can very well picturise a scenario where the brokerage houses are on the phone with the investors asking them to top up margins and in the event of margins not in place, selling off stocks. This selling off fuels panic in the markets and that is what has happened in the last two days.

Now why do I say that this is a good time to invest? Consider the following factors:
  • The Indian economy is still fundamentally strong and would grow at 8.0% to 8.5% this year. India and China are the two fastest growing economies in the world
  • The results posted by the companies are in line with expectations of the market. And the figures on tax collected by the government also show a good increase for the quarter which means that the other results that would come out in the next 10 days would also be good
  • Interest rates are at a peak and though RBI would not change the rates now, they may reduce the rates in the second half of this year
  • Mutual funds/insurance companies are now on a buying spree. MFs have recently collected a lot of money through NFOs and they are now in the process of investing these proceeds. Insurance companies, especially LIC, is rumoured to be on a buying spree and they have bought around Rs. 300 crores in the market on 21/Jan alone
  • At current levels, Sensex is trading at 17 times FY09 earnings. This is reasonable as compared with other markets and also is in line with the long term average of 16.5 times earnings. And this is cheap compared to the PE ratio of China which is 45+

So, if you have a medium to long term view (not a trading view), the next few days are great to invest