What did it? Corporate results? The monsoon? Reassurance from US markets? Rekindled FII interest? The Maruti IPO? Whatever it was, the May-to-June transformation of stockmarket sentiment is quite a story, by any reckoning. From gloom to boom in just a few weeks. At the time of writing, India's benchmark index, the BSE Sensex, has already rallied by more than 600 points from its recent bottom of 2,904.

The deluge of FII inflows has, without doubt, been a major factor. May and June (till the 25th) have clocked a net FII inflow of Rs 5,807 crore. To put that in perspective, this figure is well above the Rs 3,678 crore clocked during the entire calendar year of 2002.

And it is not just prices that are shooting up. Trading volumes are turning frenzied too. The combined daily volume on the BSE and NSE is now placed above Rs 4,000 crore, a good deal more than the Rs 2,500 crore-odd two months back. And as with all strong rallies, most of the action is concentrated in a handful of rip-roarers, led at the top of the table by Infosys (See Fancied Stocks, based on BSE volumes traded in May 2003, in Rs crore).

Roaring Volumes

The top of the chart of high-volume stocks is dominated by big companies, as one would expect. But take a closer look, and you'll see a subtle shift. The old pattern of the top few stocks clocking a disproportionate share of the volumes seems to be changing.

Though Infosys has retained its top status as the most heavily traded stock, volumes in the company's scrip have come down to Rs 2,018 crore now from Rs 5,800 crore three years back. Meanwhile, the No 20 stock's volume now is around 10 per cent of the No 1's volume, up from around 5 per cent three year back.

That may, of course, be a reflection of the end of Dalal Street's technology obsession. The change in sectoral preferences is clear from the rest of the data as well. During the boom days of 1999 and 2000, any 'old economy' stock in the top 20 list stood out like a sore thumb.

There were, in fact, only five: Reliance, ITC, L&T, Hindustan Lever and SBI. Since then, the software bias has vanished. Though several tech stocks are still at the top, scrips such as Silverline (No 7 in 2000, but No 111 now) and SSI (No 8 in 2000 but No 128 now) have gone from the top 20. Explains Vetri M. Subramaniam, Head (Equity Funds), Kotak Mahindra Mutual Fund, "After the it disappointment in April, investors have started looking seriously at other sectors. Two factors led to this. First, the fundamentals of other sectors are improving fast. Second, as these sectors were ignored for several years, the valuations have become compelling. The current rally will be lead by these stocks."

PSU STOCKS

ONGC rig at Bombay High: Hopes of speedy privatisation of the oil PSUs have been revived the recent success of the Maruti IPO That PSU stocks could generate so much interest has come as a surprise to many. From the banking sector alone, four PSU stocks are in the Top 20, ranked by volume traded. "Yes, there is a very clear shift to these counters," confirms ICICI Securities' C.K. Narayan, "and that is why the volumes are high here. The traders as well as institutional investors are participating in the current upmove." The Securitisation Act has played a large role in the banking action, for sure. But even otherwise, there's an efficiency story to be told too. To top it all, public sector banks have the cushion of unbooked profits on their gilt portfolios. "The dividend yields of these bank stocks are close to their fixed deposit rates of 6 per cent, and that is why even after the recent surge, the valuations are still cheap," argues Enam's Manish Chokhani. India's biggest bank, SBI, is particularly attractive. "This is because it is much stronger, and is not affected by the uncertainties regarding return of capital," says Parag Parikh's Rajeev Thakkar, referring to the recent brouhaha over PSU banks returning some of their capital to the government. Another action zone is that of PSU oil companies. Even illiquid counters are perking up. The GAIL counter, for example, has shown a jump in the number of shares traded recently-from around 10,000 a day three months back to above 1 million now. "The recent developments are positive for oil sector stocks. ONGC is now getting aggressively into exploration abroad. It is also getting into refining. HPCL and BPCL have benefited immensely from the dismantling of the administered price mechanism," explains Kotak Mahindra MF's Vetri M. Subramaniam. A word of caution. PSU stocks are highly sensitive to privatisation news. The recent Maruti IPO has revived market hopes of the speedy privatisation of oil PSUs, but that does not mean that the uncertainties have reduced significantly. Any backtracking by the government could send these stocks crashing. It might be safer for long-term investors to invest in stocks that are strong on their fundamentals, regardless of other news. BHEL, for example. "BHEL is an internationally competitive player with a very strong order book position. Though its valuation has improved from five-to-six times to around 10 times (based on prospective p/e), it is still attractive," says Srinivas Rao Ravuri, an analyst at Edelweiss Capital.

It might be safer for long-term investors to invest in stocks that are strong on their fundamentals, regardless of other news

Retail Relevance

And now the crucial question: what does the change in the Top 20 mean for investors? Should a retail investor alter his portfolio to mirror the new list of fancied stocks? To help make a decision, BT has created a 'volume topper index' to examine how such investor behaviour would have paid off in the past five years (five because that span covers an entire boom-bust cycle). This index is calculated on the assumption that the Fancied Stock investor shifts his portfolio to the new toppers every year.

This investment strategy will work well in a rising market (See Amplification, next page), while it will be disastrous in a falling market. It amplifies both the gains and the losses. The reason is simple: the fancied stocks are the ones that lead the entire market's direction, so they rise more than the average, and fall more as well.

Anyhow, that is sufficient information to create an investment strategy. So long as you've got a sharp eye on the general market direction, it could play out well for you. Concentrate on Fancied Stocks in an upturn, but bail out when the going gets tough. Remember, these stocks do well in broad bull rallies. Beware the smaller rallies that occur in an otherwise sideways-moving market.

Says Manish Chokhani, Director, Enam Securities, "The valuations now are really attractive, and P/E of Sensex (based on prospective earnings) is now placed at just 12. Even if the discounting factor remains at the current level, the earnings growth itself can push the Sensex to the 4,000 level by 2004. Even a small improvement in the discounting factor (that is, P/E going up to 14) can push the Sensex to the 4,800 level. So if the monsoon turns out to be 'normal', and no major political upheavals happen, the Sensex should range between 4,000 and 4,800 during 2004."

Technical Tracking

The technical stockmarket charts-that plot moving-average trends-seem to corroborate the bull-market story. Elaborates C.K. Narayan, a technical analyst at ICICI Securities, "The recent bottom (2,904 in April 2003) is higher than the previous bottom (2,828 in October 2002). And the Sensex has already gone above the recent top (3,417 in January 2003). That means the Sensex has already made a 'higher-bottom, higher-top pattern', and this signals that the market is poised for a medium-term rally. The Sensex should touch around 4,400 in 12-18 months."

The next question is whether you should buy all these top 20 stocks, or only a few. Here, you may want to use some sectoral logic. Since the software stocks have lost the market's fancy, chasing them may not be such a good idea. "As the it companies' margins are under pressure, they are out of favour now. So it companies will generate only trading interest now," says Sachin Sawrikar, Fund Manager, SBI Mutual Fund. Software stocks are unlikely to deliver fat returns.

Some Picks

What about the co-called 'old economy' companies? They are now in demand (See Old is Gold), thanks in part to the low valuations caused by years of neglect. Five of these are PSU stocks. The others are time-tested players such as Reliance, Telco, Tata Steel, HDFC and ITC. Of these, Reliance is likely to lead the current market rally, priced attractively as it is-at a P/E ratio of 10.89.

If Reliance's plans of taking over HPCL come through, it will become the second-largest fuel retailer in India. Tata Engineering and Tata Steel could perform well, too. "Tata Engineering's main growth now is expected to be from the passenger car business. As per the current indications, it is doing well during the month of June. Both Indica and Indigo should grow by 20 per cent," says Avinash Gorakshaker, Senior Analyst at Emkay Shares & Stock Brokers. As for Tata Steel, "Though the higher demand from auto sector will help Tata Steel, the commodity nature of the business is still a concern," Gorakshaker adds.

HDFC continues to show promise, given the growing accessibility of a mortgage home to larger numbers. "Because of this, even after the competition from banks, HDFC will be able to grow at more than 20 per cent," says Rajeev Thakkar, Head of Research at Parag Parikh Financial Advisory Services. Then there's itc, which is betting aggressively on agricultural and marine exports to offset the anaemic tobacco business. "Within the next five years, ITC's non-tobacco business will reach around 45 per cent," estimates Harrish Zaveri, Analyst at Edelweiss Capital.

Those are some indiviual stock picks. But on the whole, remember that investing in 'fancied stocks' can pay off-if you play the market well.