BSE Sensex Index Chart Pattern - Jun 19, '09

Last week's BSE Sensex index chart pattern showed 14 straight weeks of gains on increasing volumes. All the technical indicators were positive and supporting the up move. The economic fundamentals were hinting at signs of improvement. Everything pointed to a continuation of the rally.

However, I did strike the following note of caution:

'But I remain cautious simply because of the continued 14 positive weeks of rally without any meaningful correction. That increases the possibility of a steep fall.'

Prescient? Hardly. Just several years of experience in the stock market and watching chart patterns. In spite of the late pullback on Friday, Jun 19, '09 the Sensex closed lower than the previous week. The incredible bull spell seems to be broken.

This week, we will take a look at the 6 months bar chart pattern of the BSE Sensex index to catch some very interesting formations:-

The long-awaited correction during the week was quite steep and the Sensex pierced through two supports - (i) the 20 day EMA from above, some thing it hasn't done since Feb '09; and, (ii) the up trend line connecting the bottoms made on Mar 9, '09 and May 14, '09.

Friday's pullback took it back to the up trend line and very marginally above the short-term moving average - which means the bulls aren't ready to give up without a fight. The text books on technical analysis say that if you missed selling at the top, sell on the pullback.

Now look at the formation over the last four weeks (the previous 19 trading sessions, to be precise). Do you see a nice semi-circular 'rounding top' formation? Not quite? Then have a look at the signal line of the MACD.

A 'rounding top' is bearish. Since the time spent in the formation has been only 4 weeks, its effect may be weaker. That means, the BSE Sensex index should get support in the region between the previous low of 13480 (made on May 18, '09 when the huge gap-up happened) and the 50 day EMA at 13200.

I've also introduced the Money Flow Index (MFI), a momentum oscillator that is interpreted much like the RSI, but with a difference. The RSI is based on the price alone. The MFI uses price data weighted with the volume of transactions in Rupees.

See how the MFI made a lower top when the Sensex was hitting a new high? This negative divergence is not that clear in the RSI or the slow stochastic indicators. One more reason why you need to look at several indicators for coming to any conclusion.

The best (or worst, depending on your market stance at the moment) has been saved for the last. My favourite indicator, the slow stochastic. After remaining at or in the overbought region for the better part of the past 3 months, it has dived down steeply, and gone below the 50% mark.

The last two times it did that - in Jan '09 and Feb '09 - it went all the way down to the oversold zones, followed by up moves. So watch it closely over the next two weeks.

The big gap (between 11950 and 13480) in the Sensex still remains unfilled, and the very bearish possibility of an 'island reversal' still remains open.

Bottomline? Remain very cautious over the next two weeks, and refrain from making wild bets on unknown stocks. The BSE Sensex index chart pattern is dancing to global money flows. Keep track of the world indices. Fresh investments should be made after the budget.