In the past few days, I have picked up many red flags that have further strengthened my conviction that the markets may be running far ahead of fundamentals. In my recent posts, I have pointed out how the market participants have been extrapolating events like ISRO Moon mission (see here).
For example, the following three occurrences underline greed's dominance and gradually permeating irrationality in investment decision-making.
1. Recently, one popular finfluencer tweeted a list of some small and micro-cap stocks highlighting that their market cap is less than their current order book. Many of these stocks witnessed heightened buying interest, apparently from small household investors, following the tweet. The message was fervently circulated on other social media, like WhatsApp. I received the message through at least nine forwards from different sources.
All forwards appeared to endorse this seemingly manipulative message. No one on social media questioned the correlation of market cap (or enterprise value) with the order book. No one bothered to highlight the sudden jump in the order book, not substantiated by the overall economic activity. No one bothered to check the margin profile of orders received.
In fact, there are many instances in the market where the stock rises 10-15% just on the news of receipt of an order. One mega-cap company’s stock rose 5% in a day on the back of a news item that the company may have received two orders worth US$4bn from a foreign entity, to be executed over the next five years. The annual execution of this order would be less than 3% of the company’s annual revenue, and the margin profile of the order is still unclear. In the past, such orders have not been too profitable for the company.
2. On August 10, 2023, the Prime Minister, replying to the debate on the no-confidence motion, said in jest that stock market investors should invest in PSUs, which have been criticized by the Opposition parties in the past. Most PSU stocks registered material gains after the PM’s statement (see here). A case in point is the share price of a trading public sector company, which has incurred operating losses in the past four quarters. The share price of this company rose over 80% within three weeks after the PM’s statement.
3. A large reputable brokerage yesterday sought to caution the market by dropping its midcap recommended portfolio. The brokerage noted, “We see limited point in trying to find fundamental reasons behind the steep increase in stock prices of several mid-cap. and small-cap. stocks. There is no meaningful change in the fundamentals of most companies; in fact, they have worsened in many cases. The primary driver of the rally appears to be irrational exuberance among investors, with high return expectations (and purchase decisions) being driven by the high returns of the past few months.”
A strategy note released by the brokerage highlighted that “market sentiment is quite exuberant, based on (1) steep increase in the prices of many mid-cap and small-cap stocks; (2) large inflows into mid-cap. and small-cap mutual funds, and (3) huge number of new retail participants in the mid-cap and small-cap funds.”
The small-cap and mid-cap indices recorded strong gains yesterday, mostly ignoring the caution to the wind.
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