Stock markets may light up, post-Diwali

Traditionally strong third quarter to aid rally.

Three events that have an undeniable influence on the stock markets are the Union Budget, Infosys' earnings announcement and Diwali. It is a belief in the stock markets that markets rally before Diwali. Such is the unshakeable faith that investors have in this tradition that one common phrase that was repeatedly uttered during June and July 2006 was - "Markets will be at a new high by Diwali".

And Diwali has lived up to its reputation this year too. However, our study of the gains made by the Sensex one month prior to Diwali and one month after reveals that the probability of a post-Diwali rally is higher than that of a pre-Diwali rally. But, in the years in which the Sensex plunged prior to Diwali, an intermediate term reversal happened around the Moorat trading session that took the Sensex up by more than 10 per cent.

Post-Diwali rally
In the period from 1999 to 2006, the markets have recorded negative returns thrice prior to Diwali, in 1999, in 2000 and in 2005. In all these three years, the prevailing downtrend reversed on the Diwali day. In 1999, the post-Diwali rise saw the Sensex gaining 32 per cent in the months following Diwali. In 2000, the Sensex gained 19 per cent and in 2005, the gain in the months after Diwali was 65 per cent.

The gains made in stock prices in one month following Diwali show that the festive cheer generated by this festival lasts long after the actual celebration ends. The maximum monthly gain of 12.6 per cent was made in 2005. But we all know that this rally went all the way to a high of 12,671.

Strong quarter
This post-Diwali rally in prices can be partly attributed to the fact that the third quarter is typically a strong quarter for equity markets around the world. Prior to 2000, domestic stockbrokers would build positions in fundamentally strong stocks in anticipation of FIIs making fresh purchases from January of the following year. Fund managers like to report a healthy return on their funds/portfolios on December 31 and hence keep the prices buoyant in this period.

The Sensex is currently perched at a new all-time high. Easing of global liquidity concerns, cooling off of crude oil prices and fresh re-rating of corporate India after the second quarter results will keep the markets from sliding sharply in near future.

It is difficult to see how the Diwali magic will fail to work this time around too

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