We are in a bull market. Nifty has tripled from the March 2020 Covid-low of 7,511 giving excellent returns to investors. Many stocks have turned into multibaggers. The spectacular returns from the market has attracted millions of newbies into the market.

The total number of demat accounts has exploded from 4.09 crore in April 2020 to around 15 crore in March. Many IPOs, even those with high valuations, are getting oversubscribed many times.

Newbies are chasing smallcaps pushing their valuations to frothy territory. Speculation in the F&O market has become rampant. Newbies are rushing in where seasoned investors fear to tread.

In a bull market many excesses happen. The market, which often swings between greed and fear, is getting close to greed in some pockets. Investors should guard against some of the excesses, which might harm them in the not-too-distant future.

Frothy valuations in the broader market

The Sebi chief recently warned investors about ‘frothy’ valuations in some segments and asked the mutual fund industry to do stress tests of their mid and smallcap schemes. Stress tests showed stress in some smallcap schemes. One smallcap fund with AUM of more than Rs 25,000 crore declared that it would take 30 days for them to sell 25 per cent of their holdings. This is a high level of stress that can create liquidity issues in the event of a sharp correction in the market. Sane voices in the market have been voicing concern over the frothy valuations in the mid and smallcap segments. Some mutual funds have stopped taking lump sum investments in their smallcap schemes. But, ignoring these red flags, investors, particularly the newbies driven by the FOMO factor, continue to rush to these segments. Recency bias – excessive influence of recent performance – is at play here. In the calendar year 2023, while Nifty gave 20 per cent returns, Nifty Midcap 100 and Nifty Smallcap 100 gave whopping 46 per cent and 55 per cent returns, respectively. Newbies believe this outperformance will continue. This is unlikely to happen since valuations are excessive.

Excesses in the IPO market

The Sebi chief has warned against some excesses in the IPO market, too. She said, “ we have seen that there are hundreds of crores of applications with multiple PAN card details, knowing well that these applications will get rejected.

The whole process is done to inflate the subscription.” She added, “ 68 percent of HNIs and 43 percent of retail investors flip their trades in the first week of IPO listing.” This trend of the IPO market becoming a “market of traders, instead of investors” is a risky trend. A lesson from history is that frenzy in the IPO market often end in pain.

Rampant speculation in the F&O market

It is well known that trading in futures and options is a recipe for losses for 90 percent of traders. Various studies have shown this to be true all the time. Yet millions of traders are venturing into this dangerous game and losing money consistently.

In the year 2023 Indian investors traded 85 billion option contracts, more than anywhere else in the world. Retail investors account for 35 percent of the F&O trades. India has been on top of the charts in F&O trades since 2019.

The fact that India is ahead of even the US in the volume of option contracts indicates the depth of excessive speculation in India. A Bloomberg study shows that in the year ended March 2022, active traders in India lost $5.4 billion.

This amounts to a loss of $1,468 per head, a big amount in a country with a per capita income of $2,300 in that year.

Despite this loss, traders driven by greed are indulging in excessive speculation in the market. Another disturbing trend in the market is retail investors chasing low-grade small and micro caps.

This is another recipe for disaster. Surprisingly, greed is high and fear is very low in the market. Investors should remember the famous Buffet quote, “be fearful when others are greedy.”

Remain invested and stay with quality

When we are in a bull market, like now, and the market is setting new all-time-highs, investors should remain invested. This bull market has a long way to go.

As India races to an $8 trillion economy with a possible market cap of around $ 10 trillion by around 2032, lots of wealth will be created through the stock market.

But the journey will not be smooth; there will be sharp corrections in this journey, during which, many newbies chasing smallcaps and midcaps with lofty valuations will get hurt. Vast majority of rampant speculators will lose heavily. The warnings from the regulator are timely.

(Disclaimer: Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)