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Tuesday, November 23, 2010

The Sensex and Nifty are correcting: is it a buying opportunity?

After closing at all-time high levels on Nov 5 ‘10, both the Sensex and Nifty indices have been undergoing corrections and have dropped below the 50 day EMA. However, both indices are well above their rising 200 day EMAs. That means both indices are bearish in the medium term and bullish in the long term.

In technical analysis, the 200 day EMA is taken as the trend decider. An index or stock trading above a rising 200 day EMA is in a bull market. If an index or stock is trading below a falling 200 day EMA, it is considered a bear market. As of now, there is no sign of a trend change, so bull market investing tactics should apply.

In a bull market, one should buy the dips. In bear markets, one should sell the rises. Since both the Sensex and Nifty are in bull markets, the answer to the question is an obvious ‘yes’. Less obvious is: when should one start buying?

That may depend on factors, such as:

Both indices are still quite a bit above their average P/E valuations. Then there is the old adage about not trying to catch a falling knife. When you combine the two, the smart move will be to wait for the correction to play out before buying. How does one know when the correction will get over?

That is another tough question. The honest answer is: no one really knows. The global economic and political news is increasingly turning negative. Europe is still in doldrums. Ireland has opted for a bail-out that is threatening the survival of its ruling coalition. The problems of Greece, Portugal, Spain have been postponed and not solved. They too may opt for bail outs – which means debt restructuring or money printing.

The second round of money printing (QE2, if you want to be nice) in the USA is surely going to devalue the dollar some more and cause US stock markets to rise. Year-end profit booking considerations of FIIs are likely to lead to selling in emerging markets. China’s likely belt-tightening has already caused a sharp drop in the Shanghai Composite. That is inducing a domino-effect on other Asian indices. The sudden heightened tension between North and South Korea is not good for the Asian markets in the near term.

The domestic political news is also casting a shadow over the Sensex and Nifty. The Commonwealth Games scam was bad enough. Now the telecom 2G licence scam has brought the opposition as well as a coalition partner together in cornering the government with the strident demand of a JPC (Joint Parliamentary Committee) probe. The Supreme Court has wrapped the knuckles of the Prime Minister. In a typical political tit-for-tat, the Congress party has upped the ante against the Karnataka BJP Chief Minister – forcing the Left parties to demand the CM’s ouster.

To cut a long story short, the environment is not conducive to a quick end to the ongoing corrections in the Sensex and Nifty. Remain patient, and hold on to your wallet. In last Friday’s post, I had mentioned different support levels for both the Sensex and the Nifty. Watch those levels closely for any upward bounces on good volumes. That will be the signal to start buying again.

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