Stock Chart Pattern - Larsen and Toubro

The stock chart of Larsen and Toubro has been in a consolidation pattern since the election and requires a close look. Before that, a brief peek into history.

Two Danish engineers and school mates, Henning Holck-Larsen and Soren Kristian Toubro, left Europe to set up the company in Bombay back in 1938. Their first office was so small that only one of the partners could use it at a time.

How the company grew to become the largest engineering and construction conglomerate in India is a fascinating story. Interested readers can find out more by visiting the L and T site.

After the passing of Larsen in 2003 (Toubro preceded him in 1982), the company seemed to grow a new set of wings. A solid well-managed and fundamentally strong company with steady growth, cash flows and dividends, its stock was not doing anything exciting.

A futile effort by the Ambanis to wrest control of the company perked things up. The divestment of the cement business, which was like a millstone around its neck, to the Birlas of Grasim came as a real boost to growth.

The global economic boom, the emphasis on infrastructure projects in India, a 5:1 stock split followed by two 1:1 bonus issues acted as rocket fuel that made the company shoot up to the must-buy list of FIIs.

Several subsidiaries and joint ventures including units in finance, electronics, information technology are its hidden assets. An apparently disastrous high cost investment in scam-scarred Satyam is turning out to be a blessing in disguise.

Now the technicals. The one year bar chart pattern of Larsen and Toubro has been in a 'pennant' formation, that opens up a few different possibilities:-

After peaking at 2235 on Oct 30 '07, the L and T stock started falling and dropped by 75% to a low of 557 on Mar 9 '09. The subsequent bull rally seemed to stall at the 1000 level, but post election results, a gap-up move took it all the way to 1800 on Jun 18 '09.

The stock entered a consolidation pattern called a 'pennant'. It is a narrow triangular pattern that usually forms after a sharp up (or down) move. Volumes have steadily receded during the formation of the pattern, which is now 7 weeks old. Ideally, it should have broken out upwards from the pattern by now.

Notice how the technical indicators made lower bottoms while the stock made a higher bottom in Jul '09. A negative divergence. Since then, the stock has made a lower top, but the RSI, MFI and slow stochastic made higher tops. A positive divergence. The conflicting signals indicate indecision among market players.

The MACD is marginally positive. The RSI and slow stochastic are turning down from overbought zones, The MFI turned down before reaching its overbought zone.

If the stock breaks out upwards (as it should for a consolidation pattern in an up move), it should go the same distance as it did from the recent bottom of 557 to the top of 1800 (i.e. to about 2800).

If it breaks downwards, it may get support at the zone between its 200 day EMA and the top of the gap at 1100. It may also close the gap and find support at its previous top at 1000.

There is a third possibility. The stock may continue to consolidate sideways, in which case the 'pennant' formation will fail. Now you know why I keep mentioning that technical analysis is not a science!

Bottomline? The stock chart pattern of Larsen and Toubro is showing indecision. Existing holders should hold with a stop loss of 1350. If you want to add or enter, do so on a break above 1600, or on a correction to 1100-1150.