Not every pullback is a bull rally

We saw this happen umpteen times between 2008 and 2013. Frenetic rallies from an apparent bottom seemed to fizzle out with equal speed. In most cases, the index gave away most of its gains, while specific stocks touched new lows. The key challenge is how to differentiate between a false rally and a genuine pullback in the market? Easier said than done, but here are some pointers.

False pullbacks and true rallies

Between 1994, when the markets corrected after the US raised rates and 1999, when the tech boom began, there were at least 14 intermittent rallies that fizzled out. Similarly, between 2000, when tech crashed and 2003, when the long term rally started, there were again 7 substantial rallies that fizzled out. So how do you differentiate between a genuine rerating and a false rally?

Let us look at two classic cases. Larsen and Toubro corrected sharply from its peak in 2009, but by late 2010, it had recovered most if its losses. As the capital goods cycle turned down, the entire rally fizzled out and by late 2012 L&T was below where it started from. A classic case of the hidden bear fooling the optimistic bulls!

The most famous example, of course is of State Bank of India, which corrected sharply during the global crisis of 2008. By late 2010, SBI was above its 2007 peak. But then the bad loans issue started surfacing and SBI gave away close to 70% of its price. Even as we stand today, the stock is almost 35% below its peak price. And these are true blue chips!


Are the fundamentals of the stock changing?

Both SBI and L&T are cases where medium term outlook deteriorated rapidly. Capital cycle in case of L&T and bad loans in case of SBI. When the outlook goes bleak, it is most likely a suckers’ rally. Keep off!

Where is the leadership for the pullback coming from?

A broad-based rally that covers large caps and mid-caps is more reliable. Also rallies based on ground data are more credible than rallies based on hope, distant cash flows and eyeballs. Watch for leadership of a rally!

Are global macros supportive?

If global macros are not supportive, rallies can never sustain. Your industry may be in great shape, but if the US is going to tighten rates, then forget about a genuine pullback. Same is the case with liquidity tightening and geopolitical risks.

“First came the innovators, then came the imitators and finally came the idiots” – Warren Buffett


  1. It sounds clichéd; but still has a lot of truth. A sustainable rally normally begins when the last long position has been squeezed out of the stock. A classic case is Aban Lloyd. The correction from Rs.4000 to Rs.600 happened rapidly and then it was a long grind down to Rs.200. After the last bull lost hope, the stock rebounded 400% in the last 1 year.
  2. At a broad market level, the ratio of advances to declines, or the A/D ratio, is the biggest give-away. A sustainable rally in the market is characterized by an A/D ratio that is positive and also shows an increasing trend. It is only when mid-caps participate that rallies sustain.
  3. This is a psychological googly. Genuine market rallies are built on scepticism and fear. From 2004 to 2007, as Indian markets were getting positively re-rated, investors continued to be sceptical of the up-move. Only towards late 2007 and early 2008, when investors started believing in the perpetuity of the rally, that the long term damage started. That is paradoxical, but true.
  4. Look for tipping point events that the company is betting on. There are so many examples in Indian markets. Hero Honda betting on fuel efficient bikes in 1985 is one case. Eicher betting on the Enfield is another case. Infosys betting on the outsourcing model in 1994 is the third case. Tata Motors shifting its focus to cars in 1997 is one more case. All became star stocks!
  5. Always watch out for debt in the balance sheet. If you look back at the rally post 2009 and compare with current prices, the rallies that did not sustain were the overleveraged companies. Reliance Communications, DLF, GVK, GMR, J P Infrastructure and Educomp are companies which were weighed down by too much debt. Every rally was met with resistance.


Calling a suckers’ pullback from a genuine rally is always visible clearly in the rear-view mirror. But two basic ground rules can help. Never believe a rally that is not supported by global and domestic macros. It is impossible to sustain a rally in cyclical sectors if the growth is not picking; if interest rates are not low; if bank funding is not picking up; if inflation is not under control and if the fiscal position is shaky.

If you want to actually bet on sustainable rallies then bet on long term tipping points. We have already spoken about the tipping points for Infosys and Hero Honda. But what are the possible tipping points today? Look at stocks that are redefining the e-commerce space without burning too much cash. The likes of E-clerx, Just Dial and Info-Edge are classic cases in point. Or look at replacement technologies like alternate fuels, battery cars etc. It may be a long haul, but well worth it!


A sustainable rally in the market is predicated on good macros and fund flows. Stock specific rallies, on the other hand, are typically driven by tipping point theories. Many stocks at a tipping are able to beat bad macros. Take the case of Apple and Samsung globally. Take the case of Eicher Motors, Page Industries and TTK Prestige in India. Value rallies in any market!

But the biggest danger you need to be cautious about is the barrage of news and views that tend to distort our perspective of a sustainable rally. As Mark Twain put it eloquently, “A lie can travel half-way around the world, while truth is still putting on its shoes”. As long as you can rely on your own judgement to separate the wheat from the chaff, you can do it!

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