Run-away bull markets are not rare in the history of stock markets. After rallying in the face of all odds and surmounting a wall of scepticism, markets come to a stage when they suddenly break-out and begin a dizzying climb upward.
Many of the emerging markets have undergone (or are undergoing) such phases over the last three years. The most striking example is the move made by the Shanghai Composite Index since July 6 this year. The index has gained almost 60 per cent since this trough interspersed with almost negligible corrections. The Hang Seng has, of course, outdone the Shanghai Composite over the last three months. It is up, hold your breath, 80 per cent since its July trough!
The 36 per cent gain the Sensex has recorded since the August trough pales in comparison to the rallies in these indices. But the Sensex has had its wild days too. If we hark back to the riotous days of 1992, our benchmark recorded a gain of 133 per cent in the four months between January and April 1992!
In other words, though the Indian market seem over heated, over stretched, over valued and so on, this state of affairs can continue for some more time before the party comes to an end. The question is, how do traders play this phase?
Traders can make money in a downtrend as well as an uptrend. But initiating short positions in anticipation of a peak is akin to lying down in front of a moving road-roller. There would be plenty of time to go short once the markets reverse in earnest. Stay with the uptrend till important support levels are breached with certainty.
Do not plough back the profits in to the market, though the temptation might be great to do so. Stick to the initial capital that you have planned to trade with. If you are a compulsive bull, reducing the trading capital by 10 per cent with every 10 per cent rally in the index might be a good idea too.
Volatility and whip-saws will increase as the market moves higher. If you have that uncomfortable feeling deep within, just take a break for a few months.