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Market Watch: Bull case vs bear case

While it is difficult to take a clean call on the market from here, it helps to lay down the key metrics which will determine the endgame, in both bullish and bearish scenarios, writes Udayan Mukherjee.

india Updated: Mar 16, 2008 23:02 IST

There’s just too much noise around financial markets these days. No wonder everyone is so confused. While it is difficult to take a clean call on the market from here, it helps to lay down the key metrics which will determine the endgame, in both bullish and bearish scenarios, and assign probabilities to them. It may still not enable you to make up your mind but it should certainly aid clarity in perspective. Just what I am about to attempt, lay out a bull and bear case for the market.

First, the bull case. The US does not go into a recession. If that's too optimistic, it does but only for a little while, say a quarter or two, and bounces back by the second half of 2008. The US Fed throws more money at the financial system and is succesful in averting an outright financial disaster. Commodities ease off and so does global inflation. Global risk appetite improves in a few months and flows resume to emerging markets like India. Following a shallow US recession, Indian GDP growth does not slow down drastically, we still clock close to 8.5 per cent growth. Inflation subsides below 5 per cent and the RBI cuts interest rates in the middle of the year. Earnings growth slows but still comes in at around 18 per cent, which is acceptable. Buoyed by the global situation and a better than feared economic and earnings deceleration, stocks don't derate further. We bottom out around 15 times 2008-09 earnings, close to where we are trading today. The bull market resumes in the latter half of 2008.

At this point, I am your all time favourite forecaster, right? Read on, up next is the bear case.

The US goes into a deep and long recession. At least 4 to 5 quarters. The Fed fails in it's desperate attempts. The financial crisis deepens and banks go bust. More Bear Stearns-style accidents happen. Global risk aversion intensifies and more money gets pulled out of emerging markets in a panic. The US leads a global bear market in equities. Crude hits 140 dollars and inflation goes haywire. In India, Inflation climbs and stays above 5 per cent and the RBI leaves interest rates unchanged through the year.

The US recession sparks a global economic slowdown and Indian GDP growth grinds down to 7 per cent. Corporate earnings growth slips to 12 to 13 per cent. Stocks de-rate further. Local participants lose confidence in the market, continue selling stocks and start redeeming mutual fund units. As we stumble through a tough year, we get close to national elections which adds uncertainty to the environment. What looked like a brief correction in a multi-year bull market starts looking more like a year-long bear market at the end of a four-year bull run.

The problem is that neither of these scenarios look completely outlandish. Opinions will vary, but none of the above possibilities can be dismissed. So if you are confused, don't despair. The good thing is that you don't "have" to do anything. As an individual investor, you are not a broker who has to peddle stocks or a fund manager who has to buy stocks. There is absolutely no harm in waiting or holding cash till the picture gets a bit clearer. Remember, discretion is the better part of valour.