BSE Sensex Index Chart Pattern - Aug 28, '09

Last week's analysis of the BSE Sensex index chart pattern concluded with the following observations:

'The BSE Sensex index chart pattern looks ready for a 10-15% correction. Some times the stock market does the exact opposite of expectations. The index may just start an up move towards the previous high of 16000 - specially if the FIIs start to buy big.'

Instead of correcting, the Sensex staged a 1100 point rally - from its close of 14810 on Aug 19, '09 to 15922 last Friday, Aug 28, '09. Strangely, it was more due to the buying of domestic financial institutions. On some of the 7 straight up days, the FIIs were net sellers.

That tells me that the forthcoming PSU divestments - particularly, the Oil India IPO at a large premium - is the probable cause of the domestic institutions propping up the market.

If that surmise proves correct, then the Sensex could move higher during the next couple of weeks till the IPO gets over. That would not be an occasion for celebration. It would lead to a perilous situation that I will discuss with a longer term chart.

But first, a look at the 3 months bar chart pattern of the BSE Sensex index, which is now looking a lot better technically:-

The 7 days rally has negated a lot of the short-term bearishness. All three EMAs are now moving up together with the index. The volumes have started to perk up a bit.

But look at the sea change in the technical indicators. The RSI and MFI are both above the 50% levels and moving up. The sharp up move in the slow stochastic has brought it to the door step of the overbought zone. Even the MACD has edged above its signal line.

So, happy days are here again, right? May be for a few more days. There are a couple of concerns. The index is close to the 16000 level, where it faced resistance earlier in the month. It is also very near the 61.8% Fibonacci retracement level of 16043-16068. Keep a watch on those levels for good resistance.

The other, more important, concern is the distance between the 50 day EMA and the 200 day EMA, which is close to 2000 points. On prior occasions, such a distance between the medium and long-term moving averages have led to severe corrections or even trend reversals.

In the 5 years closing chart of the BSE Sensex index above, note the bull market corrections in 2006 and 2007, when the 50 day EMA deviated too far from the 200 day EMA. In 2008 and 2009, the deviations were bigger which led to trend reversals.

Can the pattern repeat? I'll be willing to put some money on it. Will it be a big correction or a trend reversal? That will depend on how much further the Sensex rises from here.

For the sake of the bulls, let us hope that the correction comes soon - because on corrections the Sensex may not drop much below the 200 day EMA (which is now at 13000). The bears are probably licking their chops and egging the bulls onward and upward for an eventual reversal back to the bear market.

Bottomline? The BSE Sensex index chart pattern is coming close to a turning point - a big correction or even a trend reversal. It may not happen within the next two weeks, but it will happen. Avoid new investments, and keep booking partial profits.