What is a bubble? It is nothing but massive and unwarranted increase in prices of the investment with respect to the fundamentals of that investment. The most popular bubbles of the recent decade are the stock market bubble in the early 90s post: Harshad Mehta scam and the technology or internet bubble in 2001.

Stock markets are driven by three factors i.e., Fundamentals, Liquidity, Sentiments.
Liquidity and sentiments are interrelated. Currently, Indian stock markets seem to be driven largely by liquidity/sentiments. Fundamentals have been more or less fine, but they have not been that good to warrant such remarkable turnaround. The last time the Sensex took a year and 10 months to rise from the 8,000-plus level in early 2005 to the 16,000-plus level in late 2007. This time around it has passed through the same distance in just flat six months. What are the reasons behind such a strong comeback?

The FII investment of Rs 80,500 crore in 2009 is the highest ever inflow into the country in rupee terms in a single year and comes a year after they pulled out over Rs 50,000 crore. Although, FII inflows were high in 2009, but no of new FII s were very limited this year compared to the previous years. This was mainly due to high profile collapse of Lehman brothers and others, which deterred the new entities from entering the Indian market. Other than that, FII s have made merry in 2009. Major reasons for resurgence of interest by foreign investors were low interest rate regime in US/UK and also ease of restrictions on P-notes. However, till 2007, FII s were mostly using P-notes used by foreign funds in India to trade in local shares, but off late, more and more FII s prefer to park their funds through sub-account route. This is mainly due o the uncertainty among FII s

Till Mar 09, stock markets were going southwards, as FII s were selling all the way. It s only after Mar 09 that stock markets picked up, and the reason for that was fairly simple. FII s started buying April onwards. From this, we can clearly make out that surge in the Indian stock markets is heavily influenced by FII investments. Indian stock markets more often than not dance to the tunes of FII s. FII s inject much needed liquidity in stock markets, which automatically uplifts people s sentiments.

Although, FII inflows are the major reason for stock market upswing, experts feel that there are other positives too. Finance minister s statement on GDP growth, strong show on the corporate advance tax payout, record-low interest rates, tax cuts and higher government spending unveiled by policy makers since September 2008 to shield the economy from the global slump are few factors that would lead India on growth trajectory. But as I mentioned before, fundamentals, although good do not justify such a rapid rise.

The worst part of the bubble scenario is timing it. However, the bubble scenarios in past decades have taught us few important lessons. You can save yourself by diversifying and rebalancing your portfolio. In addition to that, just plainly follow three golden rules of investing, i.e. invest early, invest regularly and invest for a long time.

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