Saturday, September 18, 2010

BSE Sensex Index Chart Pattern – Sep 17, '10

The BSE Sensex index chart pattern rose above all resistances and doubts to close the week at 19595 – a level last seen in Jan ‘08. The index gained 795 points (4.2%) on a weekly basis, riding a tidal wave of FII inflows.

There is long-term resistance at the 20000 level from multiple tops made during Nov-Dec ‘07. Expect the index to pause and correct a bit. If that hurdle is crossed – and there is good reason why it should, then the next target will be the all-time high of 21200. Will that be crossed as well?

For likely answers, let us take a look at the one year bar chart pattern of the BSE Sensex index:

Sensex_Sep1710

Since there are no certainties in life, there are definitely none in technical analysis. Therefore, we will discuss both bullish and bearish possibilities. First, the bullish view.

The year-long sideways consolidation within a slightly upward-sloping trading range of about 2100 points has finally ended. Such long consolidations are almost always accompanied by a strong break out in the direction the index was moving prior to entering the consolidation range. In this case, upwards.

Such range bound consolidations are useful for setting targets. The minimum target is the width of the range from the breakout point. Assuming the break out point at 18500 and the width at 2100 points, we get a minimum target of 20600 (= 18500+2100).

In a strong bull market, with all three EMAs rising and the technical indicators looking bullish, there is every possibility of the Sensex overshooting its minimum target, and testing or crossing the all-time high of 21200.

When? That is a tough question. It could happen next week, or during Diwali trading (by which time most Q2 results will be out), or nearer the financial year-end in Mar ‘11. But I reckon, sooner rather than later.

Now, the bearish view. On a trailing twelve months (TTM) basis, the Sensex is trading at a P/E greater than 23 – which is already above the danger level (like the River Jamuna in Delhi recently) and threatening to wash away investors’ profits in a flood of selling.

The index has jumped way above the 20 day EMA, which is a clear sign that the index is overbought and due for a dip. The 50 day EMA is moving quickly away from the 200 day EMA – another sign of an impending correction.

The MACD is rising in positive territory and has moved well above the signal line, hinting at a correction. The RSI is inside the overbought zone – where it doesn’t like to spend much time. Another hint of a correction. The slow stochastic is also inside the overbought zone, but this indicator can remain overbought for long periods.

On balance, the possibility of a correction is looming on the short-term horizon. It could be that the Sensex makes a dash for the 20000 mark and then starts to correct. Or, the index could start correcting only after testing the all-time high. It could start falling from Monday. In other words, it will happen when it happens.

What about downside targets? The 20 day EMA level of 18700 is the first target, followed by the upper trend line of the trading range at 18600 and then, the 50 day EMA at 18300. A pullback towards the trading range is to be expected after a sharp break out. So, we will go with a drop to 18600 for now.

Whether continuous FII buying will allow a 1000 point drop in the Sensex is a moot point. Interestingly, the Sensex is poised for either a 1000 point rally to meet its break out target, or a 1000 point drop to meet its pullback target.

The repo and reverse repo rate hikes by the RBI was taken in stride by the Sensex, with only a one-day drop after 7 days of rise. Food inflation is showing no signs of correction. Commercial and passenger vehicle sales are booming. New FIIs are entering the Indian market in droves.

Bottomline? The BSE Sensex index chart pattern is poised to challenge the all-time high made in Jan ‘08. This is not the time to jump in with both feet together – but to look for value in fundamentally strong stocks that are off their 52 week highs. Nor is this a time to be paralysed by fear of what happened in 2008. That was the tail-end of a 5 years long bull period. We are just 18 months into a new bull phase.

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