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Wednesday, June 30, 2010

Stock Chart Pattern - Bilcare Ltd (An Update)

Ten months back, the stock chart pattern of Bilcare Ltd was struggling to come out of the bear’s grip, even though the fundamentals of the company remained strong. This is one of the hazards of investing in mid-caps and small-caps. They outperform during later stages of bull markets, but underperform when the bears attack.

I had then concluded my analysis with the following comments:

‘The stock chart pattern of Bilcare Ltd is not inspiring confidence. A fall to the 300-350 zone may be a better entry point for bravehearts.’

The 2 years bar chart pattern of Bilcare Ltd shows that the stock did provide an opportunity for making some short-term gains:

Bilcare_Jun3010

The stock dropped to 330 in July ‘09 and then abruptly changed direction and proceeded on a 9 months long rally, making higher tops and bottoms till it touched 600 in end-March ‘10.

In spite of the smart 82% rise in 9 months, the stock barely managed to retrace 20% of its huge bear market fall from 1830 to 279. As mentioned in my earlier analysis, small-cap stocks rarely recover from such a massive correction.

There are a couple of interesting points to observe in the chart. The stock twice tested its Jun ‘09 high of 549 – once in Dec ‘09 and next in Jan ‘10 – but failed to cross it. It promptly corrected down to its 200 day EMA.

The upward bounce after getting support at the long-term moving average the second time finally cleared the hurdle of the previous top in Mar ‘10. The resistance from 549 turned into a support till the stock made the high at 600.

Why didn’t the rally sustain? Probably a lack of follow-up buying. This is reflected in the negative divergences in the RSI and MACD, which made lower tops as the stock hit a new high.

The correction is going on for 3 months, and both the stock and its 50 day EMA have dropped below the 200 day EMA. Today’s sharp fall was on high volumes and doesn’t augur well for the bulls.

The MACD is in negative territory and below its signal line. The slow stochastic is in the oversold zone. The RSI is ready to drop into its oversold zone. It is possible that the stock may see a bounce up to the 200 day EMA. Use the opportunity to exit, if you haven’t done so already.

Bottomline? The stock chart pattern of Bilcare Ltd had made a brief foray out of the bear market, and is now back again to where it belonged for the past two and a half years. Small investors should avoid this stock.

Tuesday, June 29, 2010

Strategies for buying and selling stocks and mutual funds – analysis of last week’s exercise (Part I)

Last week’s reader exercise was a prelude to introducing certain strategies that can enhance the returns from stock market and mutual funds investment – particularly when the market is in a prolonged sideways consolidation.

Before I get into the analysis part, a big THANK YOU to all of you who participated. Except for questions 2 and 4, the answers to the other questions varied widely – as should be expected from investors with different experience and risk tolerances.

The Sensex has been trading in a broad band of about 2700 points – between 15300 and 18000 for almost 10 months. During this period, individual stocks have either hit the skids, or made new highs, or gone nowhere. Should you try to jump from stock to stock as one slides and another climbs? That would make the brokers rich.

At such times, stock picking skills come to the fore. Identify good funds or fundamentally strong stocks that still leave a ‘Margin of Safety’ and buy a small quantity. Where will the cash come from? If you had booked profits earlier and not redeployed the cash, then you have no problems. What if you are fully invested?

This is one reason why I recommend quarterly dividend option in bank fixed deposits (FD) and dividend options in mutual funds. That goes against the tenet of growth through compounding. But an investing strategy has to be flexible to factor in market vagaries.

The cash inflow through dividends and interests has several advantages. In funds, it works as automatic profit booking during bull phases. The dividend can either be reinvested in the same fund, or in a different fund, or to buy shares.

The interest from a fixed deposit can be invested in a recurring deposit, or for buying NSC certificates from the Post Office (which are not subject to the fluctuations of bank interest rates), or for buying funds through the SIP method. The principal should get reinvested in another FD – for a shorter period if rates are low. (An exception to this ‘rule’ will be covered in Part II next week.)

Question your own logic at all times, and try to avoid the ‘always growth option’ or ‘always through SIP’ strategies of investing. Suppose the market corrects viciously down to 12500 in the next 2 months. Unlikely, but possible. A year of gains will disappear from the growth option. SIP over 2 months of lower NAVs will not lower the holding cost of the previous 10 months by much.

Regarding gold, this what Warren Buffet has said: “Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.”

I haven’t felt the need to buy gold. But if I did, it would probably be a gold ETF or a gold fund. Much more convenient from storage and transaction points of view.

This post has already become too long, and I haven’t even covered questions 4, 5 and 6. Guess you will have to wait till next week for my analysis – because 4 and 5 are a little tricky, and will need some explaining.

In the meantime, nods (and applause) for Rsuvarna, Joe and Ganesh for logical answers. A hat tip to Eswar for his elaborate thought processes which helped in writing this post.

Those whose names didn’t get mentioned, please don’t feel disheartened or slighted. None of the answers were ‘right’ or ‘wrong’. I was looking for the logic behind the choices.

Monday, June 28, 2010

Dow Jones (DJIA) Index Chart Pattern - Jun 25, '10

The bull rally in the Dow Jones (DJIA) index chart pattern came to an abrupt halt at the 50 day EMA. May be it was the proximity to the 50% Fibonacci retracement level of the correction from the Apr '19 top. It could also be because of the negative divergence observed in the RSI in last week's analysis. Or a combination of both the factors.

It is futile to try and assign reasons for a stock market's behaviour. Mr Market moves as per his own logic. The human mind likes to impose pattern and order and cause-and-effect relationships where none may exist. It is more reassuring - plus it makes good copy!

The fact is that the Dow made an about turn and dropped below the 200 day EMA and re-entered a bear market from which it had briefly emerged. The bulls will have the consolation that the psychological as well as long-term support-resistance level of 10000 wasn't breached.

The 6 months closing chart pattern of the Dow Jones (DJIA) index shows a continuation of the bearish 'lower tops-lower bottoms' pattern:


The 20 day EMA remains below the 50 day EMA and both have resumed their fall. Both need to drop below the 200 day EMA to confirm the bear market. Till that happens, the bulls will continue to make sporadic efforts to take the index above the 200 day EMA.

The slow stochastic has fallen from the overbought zone. The MFI is resting on its 50% level. The MACD is above the signal line, but has started to drop in negative territory. The RSI has bounced up a little after touching its 50% level.

The fundamental news continues to be mixed. The ECRI's Weekly leading economic index has signalled a 'recession', as per this article. First quarter GDP growth and consumer activity came in below expectations. However, container freight traffic using railroad and trucks showed improvement.

Bottomline? The chart pattern of the Dow Jones (DJIA) index is near a long-term support and another upward bounce is possible. As long as the index remains below 10700 and above 9700, it is only good for traders who wish to trade the range. Investors should wait for a break below 9700 or a breach of 10700 on the up side to take action.

Sunday, June 27, 2010

Stock Index Chart Patterns - FTSE 100, CAC 40, DAX - Jun 25, '10

FTSE 100 Index Chart

The 50 day EMA stalled the bull rally in the FTSE 100 index chart - and how! I had mentioned the possibility of a swift counter-attack by the bears, mainly because of the high-volumes on Friday. Looks like the extent of the BP oil spill disaster and the inability of the company to redress the situation is casting a pall of gloom on the market.

The technical indicators are turning bearish. The 20 day EMA has started to move down. The 50 day EMA is about to drop below the 200 day EMA - and confirm the bear market. The slow stochastic and RSI have both dipped below the 50% mark. The MFI is poised on the 50% mark. The MACD is still above the signal line but has started sliding deeper into negative territory.
The strategy to follow now is to 'sell on rises' as the bears resume complete control.

DAX Index Chart

Just when it looked like that the DAX index chart had returned to a bull market, the bears struck back. I had mentioned about the possibility in last week's analysis:
'.. a technically important 'reversal day' pattern (higher high, lower close) on significantly higher volumes on Friday ... may encourage the bears to launch an attack next week.'
The index cleared the May '10 top but stopped short of the Apr '10 top and fell sharply below the 20 day EMA. The index found support from the 50 day EMA and it is possible that the bulls may use that to start another rally.
The technical indicators are not supporting such a possibility. The slow stochastic has dropped from the overbought zone. The RSI is above the 50% level but falling. The MFI is below the 50% level. The MACD is positive and above the signal line, but is reversing direction.
CAC 40 Index Chart

The bull rally in the CAC 40 index chart pattern was good while it lasted. The index actually managed a close above the 200 day EMA, but failed to go past the May '10 top. All good things usually come to an end. The index has fallen sharply below all three EMAs and reverted back to a bear market.
The technical indicators have started to weaken. The slow stochastic has dropped from the overbought zone. The RSI and MFI failed to climb up to their overbought zones and have changed directions. All three are still above their 50% levels. The MACD is above the signal line and marginally positive.
Bottomline? The chart patterns of the European indices are back in bear country. What appeared to be a 'bear squeeze' turned out to be a 'bull trap'. Selling on rises and shorting on a drop below the previous lows should be the strategy. Please remember to set adequate stop-losses.

Saturday, June 26, 2010

BSE Sensex Index Chart Pattern - Jun 25, '10

Last week's analysis of the BSE Sensex index chart pattern explored two possibilities with bearish implications - a possible head-and-shoulders pattern, or a double-top pattern. The week's trading action kept both possibilities open, in spite of strong buying by the FIIs.


The hike in oil prices led to a spurt in oil marketing company stocks - but the hikes were not large enough to cover their huge losses. Opposition from within the UPA may lead to partial roll back of the price rise. Either way, the hike will lead to an increase in cost of transportation of goods - which fill further stoke the fire of inflation. 

The RBI may have little option but to increase interest rates. That will be a negative for the stock markets. Selling by both the FIIs and DIIs on Friday may be an indication of the smart money bailing out.

Time to have a look at the unfolding struggle between the bulls and bears in the 6 months closing chart pattern of the BSE Sensex index:

The index touched a high of 17922 on Monday, Jun 21 '10 backed by the highest volumes of the week, just 126 points short of the Apr '10 high of 18048. The FIIs were net buyers through Thursday, Jun 24 '10, but the index failed to move up any higher, as volumes dropped off.

Thursday's price action produced a 'reversal day' pattern (higher high, lower close) followed by Friday's 156 points drop. The Sensex barely managed to close higher on a weekly basis. So, is this a time to go short, or stay put?

All three EMAs are moving up, with the index above them. That means the index remains in a bull market, and will not be under any threat as long as it stays above the May '10 low of 15960. Why? Because moving below 15960 will have a combination of four bearish implications:

1. The Sensex will drop below the 200 day EMA
2. It will form a pattern of lower tops and lower bottoms
3. A double-top (or head-and shoulders) pattern will be confirmed
4. The index will fall below the 61.8% Fibonacci retracement level of the entire bear market fall 

Any one of those four will have bearish implications. A combination of the four may be devastating. It is imperative for the bulls to strongly defend the 15960 level, in order to prevent a deeper correction.

On the longer term charts, the Sensex has made a series of higher tops in Jun '09, Aug '09, Oct '09, Jan '10 and Apr '10. Higher tops (and higher bottoms in-between) were made every 2-3 months. This bullish series may have been interrupted when the Sensex failed to make a higher top last week.

The technical indicators are suggesting caution. The MACD, a lagging indicator, is positive and above the signal line. The slow stochastic is in the overbought zone, but about to drop below. The RSI and MFI are both above their 50% levels, but have started descending after touching their overbought levels.

So far I have only pointed out the bearish implications. Nothing of the sort may happen if the FIIs resume their buying spree. The Sensex can take support at the rising 20 day or 50 day EMAs and go on to make a new high in Jul '10. That will maintain the series of higher tops and higher bottoms. A convincing close above 18500 will negate the bearish possibilities.

Bottomline? The chart pattern of the BSE Sensex index is in the midst of a likely trend reversal pattern that is yet to play out. A close below 15960 will be bearish. A close above 18500 will be bullish. Till either happens, 'caution' should be the watch-word.

Friday, June 25, 2010

Stock Index Chart Patterns - Shanghai Composite, Taiwan TSEC, Hang Seng - Jun 25, '10

Shanghai Composite Index Chart
The chart pattern of the Shanghai Composite index is trying to extricate itself from a strong bear grip, but other than making a slightly higher bottom and a higher top it doesn't look very optimistic for the bulls.



The effort at an up move got thwarted by the falling 20 day EMA. All three EMAs are falling with the index below them - the sign of a bear market. Should the bulls give up and go for a vacation?
The technical indicators are not looking too negative. The slow stochastic and RSI are just below their 50% levels. The ROC is at the '0' level. The MACD is above the signal line and moving up in negative territory.  If the bulls can regroup, a little effort can take the index above the 20 day EMA.
The stock market is yet to digest the full implication of the yuan's unpegging from the dollar. But the signs of labour unrest after several years of suppression can have serious repercussions about foreign investments. The drop in the Baltic Dry index may be a sign of slow down in the voracious Chinese appetite for commodities import.

Hang Seng Index Chart
The Hong Kong index chart pattern is quite a contrast to the Shanghai Composite chart - trying to maintain their bullish position. The bears are on the back foot, but in no mood to give up without a fight.


The index is above all the three EMAs. The 20 day and 50 day EMAs have started to move up and the 20 day EMA is all set for a bullish cross above the 50 day EMA. The 200 day EMA has hardly fallen.
Note the bullish saucer-like rounding bottom patterns in the technical indicators. The slow stochastic is in the overbought zone. The RSI is about to enter its overbought zone. The MACD is above the signal line and rising in positive territory. The ROC is positive and made a higher top - a positive divergence.
But it isn't a one-way street for the bulls. The Hang Seng is well below the Apr '10 top. It also made a 'reversal day' pattern (higher high, lower close) on Thu. Jun 24 '10.

Taiwan (TSEC) Index Chart
Like the Hang Seng, the TSEC index chart is also trying to hang on to its bullish stance. Today's price action must have come as a bit of a dampener.



After managing to stay above the entangled 50 day and 200 day EMAs (and the psychological 7500 level) for four straight trading sessions, the TSEC slipped back into bear country by closing below both at 7475, which was also a lower close on a weekly basis.
The technical indicators are reflecting the recent bullishness. The slow stochastic is in the overbought zone. The RSI is above the 50% level. The MACD is above the signal line and has turned positive. The ROC is exhibiting positive divergence even as the TSEC is well below the double-top made in Apr '10.
Bottomline? The Shanghai Composite index chart pattern is still in a firm bear grip. The Hang Seng and Taiwan TSEC indices are looking more bullish, but the bears are trying to regain the upper hand. Time to wait and watch how the fight for dominance unfolds.

Thursday, June 24, 2010

What is the Australian Mining tax and how is Gujarat NRE Coke affected by it?

During question hour in one of the popular business channels today, a viewer asked whether he should buy the Gujarat NRE Coke stock. One of the anchors enquired why he had chosen this particular stock. The answer was enlightening: "It is a good company".

Both the fundamental and technical analysts in the show seemed positive about the stock with a long-term view - more so because the dark cloud of the Australian Mining tax had apparently lifted. The stock had already perked-up on the news. (So did many global mining stocks today.)

Mining stocks are not within my 'Circle of Competence', and I have never invested in them. A friend had strongly recommended the Sesa Goa stock many years ago, and I would have become rich had I listened to his advice.

But I have learned from Warren Buffett - who studiously avoided tech stocks during the dot.com boom - that investors should only buy businesses that they know something about.

Anyway, I was intrigued and decided to do a little digging. This is what I discovered.

Kevin Rudd, the erstwhile Labour Party Prime Minister of Australia had announced last month that he proposed to introduce a Resource Super Profit Tax of 40% on mining companies. Why?

Thanks to the huge, unsatiated Chinese demand for commodities, top mining outfits like BHP Billiton (60% Aussie owned) and Rio Tinto (30% Aussie owned) were making bumper profits from their Australian mines. Australians were not benefitting much because these foreign-owned companies were repatriating their profits overseas.

'Super' profits meant any profits above the long-term Australian Government bond rate of 6%. So any excess profit above 6% was proposed to be taxed at the rate of 40%. Needless to say, the mining companies were up in arms and started lobbying against the tax and threatened to take their business elsewhere.

The adverse publicity and pressure forced Kevin Rudd to resign, as elections are around the corner. The new incumbent, Julia Gillard, is the first female prime Minister in Australia. She opened the door to negotiations with the mining companies without abolishing the proposed tax - which will come into effect from July 2012.

Whether the tax proposal is changed or remain unaltered, the balance sheets of mining companies will get affected only from 2013. There will be no effect for the next two years.

Does this 'positive' news for mining stocks worldwide and Gujarat NRE Coke in particular warrant today's price rise? There is no proposal to remove the tax - only an offer to negotiate, which could lead to a possible reduction in the rate.

Gujarat NRE Coke has a mining subsidiary listed in the Australian stock market. I am not sure how much profit it makes, or whether it makes any profits at all. The company itself can hardly be termed 'a good company'!

At today's closing price of Rs 65, the stock is trading at a P/E of 62.5! The company has bloated equity, debt of Rs 1328 Crores, debt/equity ratio of 1.12, negative cash flows from operations in three of the last five years, net margin and RoE in single digits.

Technically, the 50 day EMA is below the 200 day EMA and the stock is trading below both its medium-term and long-term moving averages. The stock is weak fundamentally and technically. Just the kind of stock from which small investors should stay miles away.

Related Post

What is your Circle of Competence?

Wednesday, June 23, 2010

Stock Chart Pattern - Jagran Prakashan (An Update)

The stock chart pattern of Jagran Prakashan was analysed 10 months back, after it had fallen from 170 to 40 during the bear market. The stock made a bullish rounding bottom pattern and rose to 105, which was the 50% Fibonacci retracement level of the entire fall.

The levels of 120, 140 and 170 (the bull market top) were mentioned as possible up sides. I often face questions from readers about different stocks and their levels. Where can it fall? What is the up side?

The simplest way to find out is to draw longer-term support-resistance lines. More often than not, these longer-term support-resistance lines provide clues to entry and exit points.

In the 3 years bar chart pattern of Jagran Prakashan, several support-resistance lines have been drawn, and the purpose of each will become clear soon:

JagranPrakasan_Jun2310

The level of 105, touched in Jul '09, was not only the 50% Fibonacci retracement level of the bear market fall but also a long-term support-resistance level. Expectedly, there was some selling. The stock fell to 85 in Aug '09.

That level corresponded with another longer-term support-resistance line, and previous tops made in Jun '09. It received support, moved up to test the 105 level again, moved down to 92 and then spent about 2 months oscillating near the 105 level.

It eventually broke upwards out of the sideways consolidation zone and touched 120 in Oct '09. Almost immediately, it corrected down to the 105 level. The 120 level also happens to be the trend deciding 61.8% Fibonacci retracement level of the entire bear market fall!

[For those who don't know (or remember) how to calculate Fibonacci retracement levels, here is an example:

170 - 40 = 130 (the entire bear market fall); 0.618 x 130 = 80; 40 + 80 = 120.]

The stock bounced up only to struggle around the 120 level for a month before moving up to touch 142 twice - in end-Dec '09 and early-Jan '10. Here it faced resistance from another longer-term support-resistance level.

Note that while the stock was making higher tops from Jun '09 to early-Jan '10 (marked by the upward sloping line), the technical indicators were all making lower tops. The combined negative divergences prevented the stock from moving up any further.

After dropping down to the 120 level by end-Jan '10, the stock consolidated for 3 months around it and then fell below the 200 day MA to the 105 level in May '10. Once again it bounced up to 120, and after a brief struggle, moved up to 130. At today's closing price of 125, it is trading at a P/E of 21.7.

Fundamentally, the company continues to do well, with low debt, positive cash flows from operations, decent margins, and can be added on any dip below 105. Closer to 85 will provide a better 'Margin of Safety'.

Bottomline? The stock chart pattern of Jagran Prakashan is almost a text book example of how a stock behaves near long-term support-resistance levels. Existing holders can book part profits. New entrants can wait for likely lower levels.

Related Posts

About Support and Resistance levels in stock chart patterns
What exactly is the Margin of Safety?

Tuesday, June 22, 2010

How to (or not to) take investment decisions - another reader exercise

Many small investors with limited resources at their disposal are often faced with investment decisions where they need to choose from several options. Some practical situations, described below, will be the basis of another reader exercise.

There are no 'right' or 'wrong' answers because investors have different priorities and risk tolerance. The objective of the exercise is to make you aware of your own decision making process and what type of an investor you are.

So have no fears about participating. A couple of lines explaining each choice will get additional 'brownie' points. I will post an analysis of the responses next week, and acknowledge the reader with the most logical answers.

Q1. Your fixed deposit of Rs 100,000 in a bank has just matured.  Will you:

(a) Renew the fixed deposit - even though the current rates are lower?

(b) Keep it in your savings account till the expected interest rate increase takes place, and then renew?

(c) Invest in the fixed deposit schemes at higher interest rates being offered by different companies?

(d) Invest it in mutual fund units?

(e) Invest it in shares?

Q2. You have decided to purchase mutual fund units in an equity fund. Will you:

(a) choose the growth option?

(b) the dividend re-investment option?

(c) the dividend payout option?

Q3. Every one seems to be buying gold and gold prices are at an all-time high. Will you:

(a) follow the crowd and buy a few gold coins/biscuits?

(b) buy units in a gold fund?

(c) buy gold ETF units?

(d) refrain from buying till prices drop?

Q4. You had bought 500 shares of a small cap company about 2 months back. After stagnating for a while, the price recently shot up by 25%. Will you:

(a) sell all 500 shares and book short-term profits?

(b) sell 250 shares and reduce your holding cost on the balance shares?

(c) hold on for higher prices?

(d) buy another 200 shares at the 25% higher price?

Q5. You had bought 1000 shares of another small cap company about 6 months ago. The stock has been stagnating since then. A recent announcement of 20% dividend and a stock-split perked up the price by 10%. Will you:

(a) use the up-tick in price to sell out?

(b) wait for the dividend and stock split and then decide?

(c) buy another 250 shares at the 10% higher price?

Q6. You have been holding a well-managed mid cap MNC company's stock for a couple of years. The company recently announced delisting of its shares from the stock exchanges at a buy-back price that was 15% higher than market. Subsequently the price has spurted by 30%. Will you:

(a) hold on with the hope that the company may increase the buy-back price?

(b) sell your entire holding at the current market price?

(c) sell 80% of your holding now, but keep 20% aside in case the company increases the buy-back price?

(d) sell to the company at the announced buy-back price?

Monday, June 21, 2010

Dow Jones (DJIA) Index Chart Pattern - Jun 18, '10

Last week, I had observed a 'reversal week' pattern in the Dow Jones (DJIA) index chart - a lower low and a close higher than the previous week. Positive divergence in the RSI indicator also suggested that the bulls will be able to control the proceedings for some more time.

Some times the index behaves exactly the way you expect - giving technical analysis an aura of predictability that it mostly doesn't deserve. Mr Market just happened to oblige, perhaps to keep people like me motivated!

Seven straight up days for the Dow led to a higher weekly close for the second week in a row. The index comfortably crossed the 200 day EMA and closed exactly on the 50 day EMA, after moving above the medium-term average intra-day.

Have the dark clouds of a double-dip recession been blown away? Was the Euro-zone debt default news just media hype? Are the bulls well and truly back in the saddle after a bear-mauling? A look at the 6 months bar chart pattern of the Dow Jones (DJIA) index may provide some answers:

Dow_Jun1810

By correcting less than 20% from the top and moving above the 200 day EMA, the Dow may have negated the possible drop into a bear market. But it isn't time yet to celebrate. Friday's intra-day high of 10514 is a 50% Fibonacci retracement of the correction from the Apr '10 top of 11309 to the Jun '10 low of 9726.

Till the Dow clears the 61.8% retracement level of 10700, doubts about the resumption of the bull rally will remain. The RSI is exhibiting negative divergence, as it dipped down towards the 50% level.

The other technical indicators are favouring the bulls. The 20 day EMA has moved above the 200 day EMA. The slow stochastic is in the overbought zone. The MACD is above the signal line and quickly rising in negative territory. The MFI is above the 50% level.

The fundamental news is a bit mixed. The manufacturing data for May '10 came in ahead of expectations, with both industrial production and capacity utilisation showing improvement over Apr '10. A contradictory picture emerged from the housing data. Home builder sentiment and housing starts dipped more than expected. Unemployment data continues to be a drag on investor sentiment.

Bottomline? The chart pattern of the Dow Jones (DJIA) index is poised at an important technical level. Asian and European indices are continuing their rally. The Dow should follow suit. The final barrier for the bulls will be the previous top of 11309. Till that is breached, buying should be very selective. This is a good time to dump the non-performers in the portfolio.

Sunday, June 20, 2010

Stock Index Chart Patterns - FTSE 100, CAC 40, DAX - Jun 18, '10

FTSE 100 index chart

FTSE_Jun1810

In last week's analysis of the FTSE 100 index chart pattern, the increase in transaction volume and positive divergences of the technical indicators had hinted that the pullback rally could continue.

The bulls were able to overcome several important technical barriers, as the FTSE 100 had a second straight higher weekly close. The index moved above the 20 day EMA (which has started rising), the 200 day EMA (which didn't really fall during the correction), and the psychological 5200 level.

But the technical resistance from the 50 day EMA proved too strong for the bulls. The volumes were lower during the week, except on Friday. The index closed slightly lower on the highest volumes of this month.

Could it be a sign of 'distribution'? The RSI and MFI indicators are suggesting as much. Both are above their 50% levels, but turned down as the index moved above the 200 day EMA. The slow stochastic is in the overbought zone. The MACD is above the signal line, and rising in negative territory.

The FTSE 100 had 7 straight up days. It may consolidate for a few days before resuming the rally. But beware of a swift counter-attack by the bears.

DAX index chart

DAX_Jun1810 

The German DAX index chart pattern continues to show bullish strength as it went past the psychological 6200 level and moved up to test the May '10 high of 6277. It fell just 20 points short. All three EMAs are rising with the index above them - a sign of a bull market.

But a technically important 'reversal day' pattern (higher high, lower close) on significantly higher volumes on Friday - not yet updated on the chart - may encourage the bears to launch an attack next week.

The negative divergences in the RSI and MFI may strengthen the resolve of the bears. The bulls will look at the MACD (which is above the signal line and rising in positive territory) and the slow stochastic (which is in the overbought zone) to conclude that all is well.

CAC 40 index chart

CAC_Jun1810

The CAC 40 index chart pattern was expected to ride on the bullish fervour and move above the 50 day and 200 day EMAs. The index did move above the 50 day EMA and tried to cross above the 200 day EMA. It did so on intra-day basis but closed just below it.

The CAC 40 had a higher weekly close for the second week in a row. More importantly, it had 8 straight up days and managed to close marginally higher on Friday on good volumes. Both the FTSE 100 and DAX indices closed slightly lower for the week.

The technical indicators are showing strength. The MACD is above the signal line and about to enter positive territory. The slow stochastic is in the overbought zone. The MFI is above the 50% level and climbing up. The RSI is also above the 50% level, but showing negative divergence.

Bottomline? The chart patterns of the European indices are swinging towards bullishness after 2 months of correction. Till the previous tops are overcome, bulls won't regain full control. Buy only what you know. This is not a time for experimenting with new ideas.

Saturday, June 19, 2010

BSE Sensex Index Chart Pattern - Jun 18, '10

Last week, I had mentioned the possibility of the up move in the BSE Sensex index chart pattern facing resistance from the 50 day EMA and the 17400 level. I had also cautioned that if the FIIs continued their buying spree, the Sensex may go past the 17400 level to test the top of 18048.

During the month of May '10, the FIIs were net sellers while the DIIs were net buyers, as the Sensex corrected more than 2000 points from 18048 down to 15960. This month, the roles have reversed. The FIIs have turned net buyers and the DIIs have resorted to selling, and the index has so far retraced 84% of the fall.

In last Thursday's post, I had written that once the Sensex nears the Jan '10 top of 17790, bears may start selling and bulls may strengthen their hands by booking profits after the sharp rally. That could lead to the formation of a bearish 'head and shoulders' pattern on the chart.

The 'head and shoulders' pattern has not formed yet - and may not form at all - but at this stage, being aware of a possible change of trend may save investors from incurring losses. Let us look at the 6 months bar chart pattern of the BSE Sensex index:

SENSEX_Jun1810

Two long-term support-resistance lines have been drawn at 17400 and 17800. Note that the sharp rally from the recent low of 15960 has quite easily overcome likely resistance from the down trend line, the 50 day MA and the 17400 level.

On Friday, Jun 18 '10, the index made an intra-day high of 17723, but closed much lower at 17571 - forming a 'reversal day' pattern (higher high, lower close). The hesitation near the Jan '10 top of 17790 was along expected lines.

If the 'head and shoulders' pattern does form - with the left shoulder marked 'S' formed in Jan '10 and the head marked 'H' formed in Apr '10 - then the Sensex is now in the midst of forming the right shoulder. The up-sloping 'neck line' of the 'head and shoulders' pattern connects the two recent lows of 15652 and 15960. The down side target from such a pattern is around 13500.

Observant readers may have noticed that 'head and shoulders' like patterns visible in the MACD and RSI indicators as well. The RSI is also showing negative divergence. Technically, that makes a pretty strong bear case.

But the index is above the 50 day and 200 day MAs; the MACD is positive and above the signal line; the slow stochastic is well inside the overbought zone and volumes have picked up in the past few days - so the bulls have no reason to retreat.

If the Sensex moves above 17800, it is likely to face resistance from the previous top of 18048. That could create a bearish 'double top' pattern with the valley point at 15960 (in-between the two peaks). The down side target from such a 'double top' pattern - if it forms - is around 13900.

There is a fundamental reason to be cautious as well. It is the rate of inflation - which does not seem to be coming under control despite the best hopes and sound-bytes from the country's economics wizards. Inflation by itself is not a bearish indicator. But if interest rates are hiked to control inflation, that would be bearish.

Is the bull party coming to an end, finally? I wouldn't count the bulls out - specially when they are in the current garb of FIIs with deep pockets.

Volumes play an important secondary role in chart pattern formation. Volumes are supposed to be lower during the formation of the right shoulder of a 'head and shoulders' pattern or the second peak in a 'double top' pattern. The current trading volumes can't be called 'low'.

Can a surge of buying by the FIIs take the Sensex past 18048? Sure it can. There is long-term resistance between 18500 and 19000. Buying now means an upside of about 6% and a possible downside of 20%.

Bottomline? The chart pattern of the BSE Sensex index appears to be in the midst of forming one of two bearish trend reversal patterns. As in life, there are no certainties in technical analysis. Investors must take their own decisions. I am just sitting back, and waiting for the dividend cheques to roll in.

Friday, June 18, 2010

Stock Index Chart Patterns - Hang Seng, Malaysia KLCI, Jakarta Composite - Jun 18, '10

Hang Seng index chart

HangSeng_Jun1810

In last week's analysis of the Hang Seng index chart pattern, the improvement in the technical indicators and a close above the 20 day EMA had hinted at a continuation of the pullback rally.

The index closed above the psychological 20000 level through the week but failed to move past the resistance of the falling 50 day EMA three days in a row. Today's 150 points up move overcame the resistance from the medium-term moving average and ensured a second straight higher weekly close.

The 200 day EMA is less than 300 points away, and the bulls will surely attempt to clear that resistance next week. But will they succeed? The volume support during this pullback rally has been sorely lacking, which raises a question mark about the rally continuing much longer.

The technical indicators are giving mixed signals. The slow stochastic has entered the overbought zone. The MACD is above the signal line and rising in negative territory. The ROC is positive but showing a bit of negative divergence. The RSI is drifting down after nearly reaching its overbought zone.

Malaysia (KLCI) index chart

KLCI Malaysia_Jun1810

The previous look at the Malaysia KLCI index chart pattern was at the beginning of the year, when the index was looking quite bullish. It had closed at 1273 on Dec 31 '09 and went on to make a top at 1350 on May 4 '10.

The bears attacked shortly afterwards. The index had a sharp fall and closed below the 200 day EMA two days in a row on strong volumes, before sliding lower to 1244 on May 27 '10.

A 'reversal day' pattern (lower low, higher close) encouraged the bulls to start a pullback rally that has retraced 70% of the correction and taken the index above all three EMAs, as well as the psychological 1300 level.

As in the Hang Seng index chart, volume support has been puny. An up move on low volumes doesn't inspire confidence. Both the slow stochastic and RSI have reached their 50% levels. The MACD is above the signal line and rising in negative zone. The ROC is positive but falling - a negative divergence.

Jakarta Composite index chart

Jakarta_Jun1810

The Jakarta Composite index chart pattern shows that the bulls are well and truly back in business. The bears managed to push the index down below the 200 day EMA only for a couple of days.

The pullback has been strong with decent volume support. The 20 day EMA has just edged above the 50 day EMA, and all three EMAs are rising with the index above them. The Jakarta stock market is now a favourite playground of the FIIs.

Today's close of 2930 is just 66 points (2.25%) below the May 4 '10 top of 2996. It won't be surprising if we see a new high before this month ends.

The slow stochastic is well inside the overbought zone. The MACD is above the signal line and has entered positive territory. The ROC is positive but showing negative divergence. The RSI has turned down after nearing its overbought zone but remains above the 50% level.

Bottomline? The chart pattern of the Hang Seng index is still not out of the bear's grip. But the bulls are back in control in both the Malaysia KLCI and the Jakarta Composite indices. Till the previous tops in the chart patterns are crossed, buying should be tempered with caution.

Thursday, June 17, 2010

Is the Sensex poised to touch a new high?

At today's close of 17617, the Sensex is 431 points (less than 2.5%) away from the 52 week high of 18048, touched on Apr 7 '10. The correction from the top to a low of 15960 on May 25 '10 (a drop of 2088 points) consumed 33 trading sessions.

In the subsequent 17 trading sessions since hitting the low, the Sensex has retraced 1657 points, i.e. 79% of the fall in just half the amount of time. A faster retracement of a correction is a sign of bullishness.

Though 100% retracement of the correction hasn't happened yet, technically the Sensex can spend another 15 trading sessions to reach the previous high and still meet the criterion of faster retracement.

The only possible resistance to the Sensex, on the way to test the previous high, is the Jan '10 top of 17790. That is just 173 points (less than 1%) away. With the FIIs resuming their buying with gusto, even substantial selling by the DIIs may not be able to stem the bullish tide.

If I was a gambling man, I would accept even poor odds to wager that the previous high will not only be tested, but may be even broken. Why? Because the transaction volumes have picked up quite a bit of late and the technical indicators are all bullish.

But a conservative long-term investor like me does not gamble with Sensex movements. That is best left to the traders and speculators. The other reason is that I don't invest in the Sensex, but in individual stocks.

There are important technical reasons as well. Traders and investors tend to remember previous highs and lows in the Sensex chart pattern. There is every possibility that the bears will resort to selling as the Sensex approaches 17790 (the Jan '10 top).

Bulls are likely to use the opportunity to book profits and thereby, strengthen the hands of the bears. Guess what happens in such an event? A dreaded topping pattern known as 'head-and-shoulders' can get formed - with the head at 18048, the two shoulders at 17790, and the neckline slanting upwards from 15652 to 15960.

If the bulls manage to breach the likely 17790 barrier, the previous top of 18048 may provide strong resistance. Should the bears resort to selling and the bulls start booking profits as well, another trend reversal pattern may develop at a market top - the 'double-top'.

These two reversal patterns haven't formed yet, and may not form at all. However, the possibility remains open for both, till the Sensex convincingly moves above the 18048 level.

That was the long answer. The short answer is: Yes. The Sensex is poised to touch a new high. Investors need to keep a very close watch on the Sensex levels from tomorrow onwards till the end of the month to avoid falling into a 'bull trap'. The denouement should be clear by then.

Wednesday, June 16, 2010

Stock Chart Pattern - Larsen and Toubro (An Update)

In my prior analysis of the stock chart pattern of Larsen and Toubro, the formation of a consolidation pattern called a 'pennant' (or, a narrow triangle) was observed, after the stock had retraced almost 70% of its bear market fall from 2335 in Nov '07 to 557 in Mar '09.

In technical analysis, a retracement exceeding the Fibonacci level of 61.8% is treated as a trend reversal. So is a rise above the 200 day MA. That means the stock had shaken off the bears successfully and entered a new bull market.

Triangle patterns tend to be unreliable, and though I had expected an upward break out from the 'pennant', possibilities of a down ward break or a sideways consolidation (which would mean a failure of the 'pennant') could not be ruled out. This is the reason why many investors look down upon technical analysis - pattern outcomes can often be unpredictable!

Let us take a look at the 3 years bar chart pattern of Larsen and Toubro:

LnT_Jun1610 

Two long-term support-resistance lines have been drawn at 1300 and 1750. After 4 months of consolidation within the 'pennant', the stock did break out upwards, as expected in a bull market. Why did the 'pennant' fail and the stock start a sideways consolidation within 1300 and 1750?

To answer the question, take a look at the volume bars during the 4 months the stock spent within the pennant. The volumes declined gradually, as they are supposed to do during a consolidation. But an upward break out from any consolidation pattern requires significantly higher volumes. (A downward break does not necessarily need volume support.) The volumes during and after the break out were lower. 

The sideways consolidation within the band of 1300 and 1750 has continued for more than 12 months, much like the Sensex band of 15300-18000. Such prolonged periods, which provide little or no returns, test the true mettle of long-term investors.

The technical indicators are giving mixed signals. The 50 day and 200 day MAs have become entangled. The slow stochastic is in the overbought zone. The RSI has just dipped below its overbought zone. The MACD is slightly positive and above the signal line.

Please don't make the mistake of getting bored and dumping the stock. This is a fundamentally strong and well-managed leader in the infrastructure space, and should find a place in any long-term portfolio.

Bottomline? The stock chart pattern of Larsen and Toubro may continue consolidating in a rectangular band. Existing share holders should stay invested. New entrants should wait for a break out above 1750 on strong volumes, or a break below 1300. As and when the Sensex starts to make new highs above 18000, the stock of Larsen and Toubro will be a leader of the Sensex pack.

Tuesday, June 15, 2010

How to use the Market Cap to Sales (or Price to Sales) ratio to value stocks

Before learning when and how to use the Market Cap to Sales (or Price to Sales) ratio, some definitions may be in order.

Market Capitalisation (Market Cap) = Total number of equity shares x Price per share

If the equity capital of a company is Rs 10 Crores and the face value of each share is Rs 10, then the company has issued 1 Crore shares. If the share price is Rs 50 (on a given day), the Market Cap (on that day) is Rs 50 Crores. As is evident, the Market Cap is a number that changes with the share's price.

Why should we be concerned about this number? It represents the total value of the company in the stock market. In other words, if you had a lot of money and you wanted to buy the entire company (which has to be listed in the stock exchange), then you will have to pay an amount equal to the Market Cap, i.e. Rs 50 Crores.

The Market Cap to Sales ratio, also referred as the Price to Sales ratio (P/S or PSR), is calculated by either dividing the Market Cap by the total sales of the previous 12 months, or by dividing the share price by the per-share sales of the past 12 months.

P/S or PSR = Price per share/Sales per share = Market Cap/Total Sales

If the company in our example had sales of Rs 80 Crores in the previous year, its Market Cap to Sales ratio will be 50/80 = 0.625. A ratio less than 1 is considered a sign of 'under-valuation'. Why? It means that for each Re 1 of sales you will be paying 62.5 paisa if you were buying the entire company.

If another company in the same sector has a similar equity capital, but a share price of Rs 60 and sales of Rs 100 Crores, then its Market Cap to Sales ratio will be 60/100 = 0.6. That means, the higher priced share is actually 'cheaper' valuation-wise.

This is an important point for small investors to note. Many say that they have limited capital and therefore, opt to buy shares that are cheaper in price. They end up buying a small cap or mid cap share. Valuation-wise, a higher priced large cap may be a better buy.

Please remember that different sectors have different operating criteria. Some require heavy capital expenditure, others don't. Some sectors have low sales and high profit margins. Others have large sales but low profit margins. The Market Cap to Sales ratio should be used only for comparing companies within the same sector.

Several other ratios, like Debt to Equity, Interest Coverage and Return on Assets, had been discussed earlier. Do we really need to look at another ratio? The Market Cap to Sales ratio is particularly useful in valuing companies which are incurring losses. Because they have no earnings, the more popular valuing metric P/E can not be used.

As a general thumb rule, small investors should avoid loss-making companies. What if an otherwise fundamentally strong sector or company gets into a temporary difficulty and incurs losses? It happened to Tata Motors and Hindalco. It happened to the export-oriented textile sector. The Market Cap to Sales ratio will help to separate the men from the boys.

Many analysts prefer to use the P/S ratio over the P/E ratio, because it is easier to fudge earnings, whereas sales can be more readily verified. That does not mean a 'creative' company like DLF can't fudge their sales figures!

It is best to check both the P/E and the P/S ratios when selecting a company from a particular sector. If both indicate 'under-valuation', then the stock can be included in a 'buy' list. If the indications are contrary to one another, it is an alarm signal that management is probably doing some fudging.

Debt-burdened companies often trade at low Price to Sales ratios. Their sales may not be affected and may actually be growing, but interest and capital repayments may be causing a drop in margins and cash flows. Investors should avoid such 'value traps' by checking the Debt/Equity and Interest Coverage ratios.

(A short exercise for readers: In the recent stock selection exercise, most readers chose Stock 'N' as the best of the three. However, on the basis of the Market Cap to Sales ratios, Stock 'N' is more expensive with a ratio of 0.79. Stock 'S' and Stock 'I' have ratios of 0.47 and 0.46.

Will readers still choose Stock 'N' over the other two? If yes, why? If no, why not?)

Monday, June 14, 2010

Dow Jones (DJIA) Index Chart Pattern - Jun 11, '10

The chart pattern of the Dow Jones (DJIA) index is showing some technical strength that can lead to a short-term upside though the bears are not ready to give up control yet. In last week's analysis, I had made the following observation:
'None of the technical indicators made new lows - a positive divergence. Bulls may try to clutch at this straw.'
The Dow's trading action on Tue. Jun 8 '10 formed a typical 'reversal day' pattern - an intra-day low of 9726 that was 70 points lower than the previous day's low and a 120 points higher close of 9940 on the highest volumes of the week.
No wonder the bulls pounced on the opportunity to start a short-term rally from Wed. Jun 9 '10, which took the index up to the level of the entangled 20 day and 200 day EMAs. Predictably, the strong resistance of the combined hurdle halted the rally for the week.
Will the bulls be able to continue with their new found enthusiasm or will the bears stop them on their tracks? A close look at the 6 months bar chart pattern of the Dow Jones (DJIA) index may reveal some clues:


Note that the week's low of 9726 was lower than the previous week's low of 9881 and the week's close of 10211 was almost 280 points higher than the previous week's close. That made a 'reversal week' pattern, which should provide a boost to the short-term rally.
The technical indicators are supporting the prognosis. The slow stochastic has moved up sharply from the oversold zone. The MACD is above the signal line and rising in negative territory. The MFI is just below its 50% level. The RSI has edged above its 50% level, and showing clear positive divergence - a higher bottom and a higher top while the Dow made a lower bottom and lower top.
The dire predictions of a fragmentation of the Euro-zone and its currency was overdone. The central banks are implementing austerity measures and providing monetary support to ensure that sovereign debt defaults are avoided. The economies are far away from real recovery but a collapse of the financial system is unlikely.

What came as a positive surprise was the news of China's huge improvement in export earnings. Consumer sentiment seems to be improving - though it remains to be seen whether sentiments lead to actual purchases.

Bottomline? The chart pattern of the Dow Jones (DJIA) index is hinting at a short-term reversal of the down trend. This isn't a time to be ultra bullish. Selective buying, topping up of existing portfolios and getting rid of junk during a rally should be on the investors' to-do lists. 




 

Sunday, June 13, 2010

Stock Index Chart Patterns - FTSE 100, CAC 40, DAX - Jun 11, '10

FTSE 100 index chart

FTSE_Jun1110

The FTSE 100 index chart pattern closed 40 points higher on a weekly basis, but once again faced resistance from the falling 20 day EMA. The falling 50 day EMA is still above the 200 day EMA, keeping faint bullish hopes alive.

The index made a higher bottom and started a pullback that may continue next week. The slight up-tick in the volumes and the positive divergences in the technical indicators are suggesting as much.

The slow stochastic is just above the 50% level. Ditto for the RSI. The MFI is moving up and is just below the 50% level. The MACD is above the signal line and rising in negative territory.

DAX index chart

DAX_Jun1110

The chart pattern of the German DAX index never really entered a bear market, spending only 2 days below the 200 day EMA. Contrast that with the FTSE 100 which has already spent 17 straight trading sessions below the 200 day EMA.

The pullback effort by the bulls, after the index made a higher bottom, has once again taken the DAX above all three EMAs. The 20 day EMA is about to move above the 50 day EMA, spending just 15 trading sessions below it and going nowhere near the 200 day EMA.

However, to negate the bearish 'lower top - lower bottom' pattern formed since the DAX touched a high of 6342 in Apr '10, the index needs to close above the May '10 closing high of 6252. That is still 200 points away.

All four technical indicators are showing positive divergences. The MACD is still negative but rising above the signal line. The RSI is above the 50% level. The MFI is touching its mid-point. The slow stochastic is just below the overbought zone.

CAC 40 index chart

CAC_Jun1110

The chart pattern of the French CAC 40 index shows that the bulls have not been left behind in the weakest of the three European indices. The index made a higher bottom and the pullback ensured a 100 points higher close on a weekly basis.

More importantly, the CAC 40 closed above the 20 day EMA for the first time in 7 weeks. That should encourage the bulls to try and loosen the strong bear grip by pushing the index above the 50 day and 200 day EMAs.

The positive divergences in the technical indicators and decent volumes may provide the necessary impetus to the bulls. The slow stochastic and RSI are both above their 50% levels. The MFI is marginally below the 50% level. The MACD is above the signal line and rising in negative territory.

Bottomline? The chart patterns of the European indices are showing some signs of life from the bulls, after spending nearly 2 months in a strong bear grip. The time is not yet ripe to jump in with both feet. Another hint of a sovereign default can send the indices tumbling. Selective buying and topping up of existing portfolios may be a good idea.

Saturday, June 12, 2010

BSE Sensex Index Chart Pattern - Jun 11, '10

Ever since hitting an intra-day low of 15960 on May 25 '10, the BSE Sensex index chart pattern has made a series of higher tops and higher bottoms, indicating a short-term up trend - with another weekly close above the 200 day MA.

However, the index made a lower top and a lower close on a weekly basis, in spite of the FIIs turning net buyers during the last two days of the week. Global indices are also in short-term up trends, and the Sensex seems to be dancing to the global tune of late.

The index continues to consolidate within the broader band of 16000 and 17400, and till it moves out of this range it will remain a trader's market. Let us look at the one year bar chart pattern of the BSE Sensex index to check if there has been much change in the technicals:

SENSEX_Jun1110

In last week's analysis, I had drawn a blue oval on the chart to indicate possible resistance to any up move from the down trend line, the 50 day MA and the 17400 level. On Friday, the index moved above the down trend line, only to face resistance from the falling 50 day MA. The index closed exactly on the down trend line.

Note that the recent pullback has created a bigger triangle pattern of consolidation. There are three possibilities: an upward break out from the triangle to test the resistance at 17400; a downward break out to test support at 16000; the index may continue to consolidate and move sideways through the apex of the triangle. At times like these, technical analysis can be quite a challenge!

The technical indicators have improved slightly in favour of the bulls. The MACD is above the signal line and moving up in negative territory. The RSI is above the 50% level. The slow stochastic has re-entered the overbought zone.

The monsoon arrival has been more or less on time - but that was already discounted in the Sensex levels. The IIP numbers came in a little better than expected. The re-entry of Reliance in the telecom sector (in a typical back-door strategy) caused some cheer to the market.

If the FIIs continue to buy, the index may move above the 17400 level to test the previous high of 18048. Note that the Sensex has traded within an even broader range between 15300 and 18000 for almost 10 months. It may continue to do so and test the patience and resolve of investors.

Bottomline? The chart pattern of the BSE Sensex index has been in a sideways consolidation pattern for a prolonged period. But many index front-runners are well below their recent highs. This isn't a time for unbridled optimism, though the underlying economy is improving by the day. Remain stock specific and top up your existing portfolio and get rid of non-performers.

Friday, June 11, 2010

Stock Index Chart Patterns - Shanghai Composite, Korea KOSPI, Hang Seng - Jun 11, '10

Shanghai Composite index chart

ShanghaiComp_Jun1110

The bar chart pattern of the Shanghai Composite index continued to languish below the falling 20 day EMA and the psychological level of 2600 through out the week.

All the three EMAs are falling with the index below them. The bears are firmly in control. But every dark cloud has a silver lining, and the bulls may try to engineer a rally next week, banking on the slight improvement in the technical indicators.

The intra-day low of 2482, touched on May 21 '10, was tested during the week but wasn't breached. The slow stochastic is below the 50% level but bounced off the oversold zone. The MACD is rising in negative territory and is above the signal line. The ROC is negative but trying to move up. The RSI is just above the 50% level.

Hang Seng index chart

HangSeng_Jun1110

The Hang Seng index chart pattern shows that the bulls took advantage of the improving technicals to mount a charge towards the 20000 level. The low volume effort was thwarted twice by the falling 20 day EMA.

A 240 points up move today (Fri. Jun 11 '10), took the index past the 20 day EMA and just short of the 20000 level. But it did manage to close above the 20 day EMA and about 100 points higher on a weekly basis.

Is this the first sign that the 2 months long correction is ending? The low volumes do not suggest that. The technical indicators have improved further, which means the pullback can continue next week.

The slow stochastic and the RSI have edged above their 50% levels. The ROC has turned positive. The MACD is above the signal line and rising in the negative zone.

KOSPI (Korea) index chart

Kospi_Jun1110  

The chart pattern of the KOSPI (Korea) index had received good support from the 200 day EMA when I looked at it a month ago, but faced resistance from the falling 20 day EMA.

The bears attacked with renewed vigour and pushed the index below the 200 day EMA to 1533 on May 25 '10 - slightly lower than the Feb '10 low of 1549. Since the fall was within the 3% whipsaw lee-way, technically a breach of the Feb '10 low wasn't confirmed.

The bulls engineered a strong pullback that faced resistance at the falling 50 day EMA. The 200 day EMA provided support to the next up move and today's close was above the 50 day EMA.

The slow stochastic has almost reached the overbought zone. The ROC is in positive territory. The RSI is at the 50% level. The MACD is above the signal line and rising in negative territory. But the low volumes raise a question mark about the sustainability of the pullback rally.

Bottomline? Both the Chinese index chart patterns are in bear markets, though the Hang Seng bulls are showing some signs of life. The Korea chart pattern has loosened a tight bear hug, but hasn't shaken off the bears yet. Investors can buy selectively where valuations look attractive.

Thursday, June 10, 2010

How to select a stock - an analysis of the exercise for readers

Before I get into a detailed analysis of last week's stock picking exercise, I would like to extend hearty congratulations to all of you who participated.

Regardless of your answer, the willingness to participate in an open forum indicates a desire to learn and share - which are great qualities for success in life (and in investments). As far as I am concerned, you are all winners.

The information given about the companies was brief. But it was adequate to decide which of the three should be added to a list for more detailed analysis. Thousands of stocks trade every day, and it is not possible for small investors to check the fundamentals of even a fraction of the traded stocks.

One uses short-cuts to create a short list. I start with the cash flows from operating activities. Why? Because a listed company is in existence for one reason only - to generate cash. Cash in a manufacturing business is like gasoline to an automobile. Without a regular supply of it from its operations, a business can run for a while but will eventually come to a halt.

All three companies have positive cash flows from operations and negligible debt. But sales are low and so are the NPMs - an indication that the sector is a profitable one but has low volume and low margin. That is why, it is a bit surprising that all three have outperformed the Sensex by moving above their Jan '08 prices.

The fact that all three have been around for at least 30 years means that the business models are sustainable. The low P/E is an indication that the market is not enthused by the low growth of the sector.

As small investors, we don't have huge capital at our disposal. To make sure our limited resources are not frittered away in chasing multibaggers, the prudent option is to look for companies where internal accruals are sufficient to pay for expansion and investments.

Debt is not bad per se - if it can generate more cash than the debt repayments. But when debt is incurred merely for rapid growth - disaster happens. The sorry state of the high fliers in retail and real estate is a clear example.

So we have three companies - all with good fundamentals in a sector with low risk and low growth. How do we choose one over the other?

Most of you chose Stock 'N' and there were several reasons for doing so. Highest sales, highest EPS, best RoE, strongest technicals. The clinching reason - not mentioned by any one - is that its sales are more than the combined sales of the other two! Even in a low growth sector, one company is growing faster than its two closest and older competitors.

Though it is trading at a much higher price, Stock 'N' is available at a Market Cap to Sales ratio of less than 1. Some of you have mentioned about this ratio (without explaining why it may be relevant). Others haven't. Next Tuesday's post will explain the importance of the Market Cap/Sales ratio.

The exercise was an effort to demonstrate what kinds of stocks can be added to a 'watch list' for more detailed analysis. A 'buy' decision can only be taken after a more thorough look at past performance and business outlook.

Now for the awards announcements.

VJ gets the nod (and applause) for the most logical explanation covering all the important points. Just follow your investment plan, and you will retire a rich man!

sreyO gets an "A" for effort. Though his explanation wasn't brief, he pointed out that a comparison is possible only if all three stocks have the same face value. Pretty impressive for some one who hasn't started investing yet.

A big 'THANK YOU' to the rest of you for taking part in the exercise.

Wednesday, June 9, 2010

Stock Chart Pattern - OnMobile Global (An Update)

My previous analysis of the stock chart pattern of OnMobile Global nearly 10 months back was after the stock rose spectacularly from a low of 185 to a high 682, retracing nearly 89% of the bear market fall from 745 to 185.

Technically, a retracement of more than the Fibonacci level of 61.8% means that a new bull market has commenced. The stock was undergoing a correction - not surprising after such a huge rise in a short period of 5 months.

I had expected the levels of 500 and 400 to provide support. Those two levels were previous tops and coincided with the 50 day and 200 day MAs. But the technical analysis went haywire - one more reason why taking buy/sell decisions on the basis of technical analysis alone can be injurious to your wealth.

Let us find out what happened to the stock chart pattern of OnMobile Global from Sep '09 till date:

OnMobile_Jun0910

The chart shows four long-term support-resistance lines at 500, 400, 350 and 257, and I will try to explain their significance below:

  1. The stock made a double-top at 500 in May and Jun '09, and corrected down to its previous tops at 400 made in Oct '08 and Apr '09.
  2. After taking support at 400 and the 50 day MA, the stock price spurted to the high of 682 in Jul '09.
  3. Another correction started. The stock tested support 3 times within a month from the 500 level. On the 4th attempt, the stock broke through the support of 500.
  4. In a waterfall-like drop below the 20 day MA the stock fell to 350 in Oct '09.

What happened? Why did the strong support expected from the 400 level and the 200 day MA fail? This is another example of why a combination of technical and fundamental analysis works to the advantage of investors.

What went wrong fundamentally? Multinationals with deep pockets, like Virgin and DoCoMo, entered the Indian telecom sector and introduced per-second billing rates to an industry already reeling from lower ARPUs.

I had written a post in early Oct '09, when OnMobile Global was trading above the 450 level, suggesting that the stock was still expensive and investors should switch out of the telecom sector. In different investment groups, brickbats were hurled at my bearish outlook.

The stock tested the support at 350 in Nov-Dec '09 before spurting to 543 in Jan '10. But the bears attacked immediately and the stock fell to the support of 350 once again. The lower top and flat bottom at 350 formed a bearish descending triangle, from which a downward break in early May '10 took the stock to a low of 257.

Note that the 257 level coincides with multiple tops during Oct '08 to Mar '09 - when the Sensex was also consolidating in a sideways band. Can 257 provide support to the stock?

The technical indicators are not conducive. All the three MAs are falling and the stock is below them. The RSI is below the 50% level. The slow stochastic has re-entered the oversold zone. The MACD is negative, but above the signal line.

The RSI, slow stochastic and MACD are exhibiting positive divergence - they didn't fall to their recent lows while the stock tested the low of 257. A pullback may happen.

Can the stock fall even further? At its recent low of 257, it retraced 85.5% of the rise from 185 to 682. So, the downside appears limited. If 257 does not hold, the stock may fall to 240. At its Mar '10 EPS of 9, the stock is trading at a P/E of 29. Not cheap by any means. Sales of Rs 364 Crores fell short of their target of Rs 400 Crores by Mar '10.

The real benefit of the overseas tie-ups with Vodafone and Telefonica will accrue over the next couple of years. By 2012, OnMobile expects to more than double its sales. If they can maintain current NPM of 20%, then EPS could treble and make the stock a value buy on a 2 years forward basis.

Bottomline? The stock chart pattern of OnMobile Global is showing the effects of investor apathy for anything related to telecom. The company is fundamentally strong, and can provide significant capital appreciation if they can execute on their overseas orders. A small exposure for patient long-term investors is recommended. Risk-averse investors should stay away.

Tuesday, June 8, 2010

Gold chart pattern - onward and upward?

In last month's analysis, I had observed that the 1 year gold chart pattern had made a new high at 1237.50 after breaking out of a bullish rounding-bottom pattern. But the break out was not valid technically.

Why? This is what I had mentioned as the reason:

'The gold chart pattern saw a sharp rise past the previous high of 1212. A 3% whipsaw lee-way means the gold chart needs to close above 1250 for the breakout to be technically valid. That seems just a matter of time.'

It has been almost four weeks, but 1250 has not been touched yet. A look at the 1 year gold chart pattern will reveal that every one's favourite yellow metal was catching its breath after reaching a higher altitude:

Gold_Jun2010

The gold chart pattern has spent the past four weeks in a symmetrical triangle consolidation pattern - which has already made two tops (the second lower than the first) and two bottoms (the second higher than the first). That is a sign that it is ready for a break out any time.

Triangles are continuation patterns but not very reliable, so the break out can happen either way. It so happens that at the time of writing this post, gold is trading above 1247. An upward break out has taken the gold chart to a new high, and within hand shaking distance of the 1250 mark.

Above 1250, the gold price will be in uncharted territory. The smoothly rising 200 day MA is indicating that no hurdles are in sight. Then why am I not feeling bullish? Two reasons.

First, it is better to be cautious near 52 week highs. Years of investing has taught me that to make money, one needs to be optimistic near 52 week lows and pessimistic near 52 week highs.

Second, the attitude of the young lady at the bank where I had gone to renew a FD account. On earlier occasions, she had tried to persuade me to invest in the bank's mutual funds and ULIPs. This time around, she tried to sell attractively packaged gold coins - one heart shaped, another with an embossed face of Lord Ganesha, and a 100 grams gold 'biscuit'.

The price? Even after a 4% discount on the coins and an 8% special discount on the 'biscuit' the rate was almost 10% higher than the market rate! The reason? It was 99.999% pure Swiss gold. That is why it was more expensive than 'local' gold!

Signs of a market top?

Monday, June 7, 2010

Dow Jones (DJIA) Index Chart Pattern - Jun 04, '10

In last week's analysis of the Dow Jones (DJIA) index chart pattern, the technical indicators had hinted that the bulls may launch another pullback after the long Memorial Day weekend.

The bears have been pressing sales at every rise of late - a sign of a bear market - which led me to comment:

'In case the Dow manages to move above the 200 day EMA, resistance can be expected from the falling 20 day and 50 day EMAs.'

After failing to get past the 200 day EMA on the first two days of a holiday-shortened week, the Dow moved up smartly on Thursday, Jun 3 '10 and reached the falling 20 day EMA on an intra-day basis. Strong resistance by the bears saw the index drop down to the 200 day EMA.

The bottom fell out on Friday after a spate of bad news. The possibility of a sovereign default in Hungary sent the euro on a dive against the dollar. The employment data revealed that the bulk of new jobs were for temporary census workers. With 7 million people unemployed for more than 6 months, the economic recovery will be slow and painful.

Private sector job additions were way below consensus estimates and April's encouraging figure. A New York Times article about a 43 year old engineer in Chicago accepting a temporary census worker's job after several months of unemployment highlighted the woeful state of the economy.

The 3 months closing chart pattern of the Dow Jones (DJIA) index leaves little doubt that the US stock market is sliding into bear country:

Dow_Jun0410 

Friday's close of 9932 was just above the Feb 8 '10 close of 9908. But the difference is that the Feb '10 low was above the 200 day EMA. Any hope of a quick recovery by the bulls - like they managed to engineer in Feb '10 - will be stifled by the bears.

The slow stochastic and the RSI are both below their 50% levels. The MACD moved up in negative territory and is touching the signal line. The ROC remains negative and is dropping. None of the technical indicators made new lows - a positive divergence. Bulls may try to clutch at this straw.

Technically, the confirmation of the bear market has to wait till the 20 day and 50 day EMAs drop below the 200 day EMA. It seems like a question of 'when' and not 'if'. The longer the Dow spends below the 200 day EMA, the less the chance of a revival of the bull market.

Bottomline? The chart pattern of the Dow Jones (DJIA) index shows the formidable resistance from the 200 day EMA to all attempts at  pullbacks. Looks like it will be a summer of discontent for the bulls. The fundamentals are too weak for robust economic growth. Patient investors will be rewarded with lower stock prices.

Sunday, June 6, 2010

Stock Index Chart Patterns - FTSE 100, CAC 40, DAX - Jun 04, '10

FTSE 100 index chart

FTSE_Jun0410

The bulls kept the FTSE 100 index chart pattern above the 5100 level on a closing basis right through the holiday shortened week. But they failed to take the index past the dual hurdle of the merged 20 day and 200 day EMAs, though they managed to do so on an intra-day basis on Thursday and Friday.

The sudden news of the likely sovereign default announced by the new Hungarian government encouraged the bears, who were looking for some excuse to sell. The FTSE 100 closed 62 points (1.2%) lower on a weekly basis.

The technical analysis indicators are signalling more weakness ahead. The 20 day EMA has slipped below the 200 day EMA. The final technical confirmation of a bear market - if it is still required - will happen when the falling 50 day EMA drops below the 200 day EMA.

The slow stochastic, RSI and MFI have turned down after reaching their 50% levels. The MACD remains in negative territory, but is above the signal line. The bulls haven't been routed yet, but the future looks bleak.

DAX index chart

DAX_Jun0410

In last week's analysis of the DAX index chart pattern, I had mentioned that the technical indicators were pointing to short-term bullishness. The bulls made a spirited effort to take the index above the 6000 level and the 50 day EMA.

The Hungarian news put paid to their hopes. A 'reversal day' pattern (higher high and lower low) was formed on Friday with volumes touching the week's high. The index slipped below both the 20 day and 50 day EMAs.

Unlike the FTSE 100, the DAX index is above the rising 200 day EMA. But bullish hopes should be tempered by the fact that the index has continued to make lower tops. That means the down trend continues.

The technical indicators show decreasing strength. The slow stochastic is at the 50% level, but has stopped rising. The RSI and MFI are just below their 50% levels. The MACD has moved above the signal line but remains in negative territory.

CAC 40 index chart

CAC_Jun0410

The CAC 40 index chart pattern shows that it is all over bar the shouting for the bulls. Their feeble effort at a rally faced resistance from the falling 20 day EMA. All three EMAs are moving down with the index below them. This is a time for short-selling and not buying.

The RSI made an unsuccessful effort to get up to the 50% level. Likewise for the slow stochastic. The MFI is going sideways below the 50% level. The MACD is above the signal line but in negative territory.

Bottomline? The chart patterns of the European indices show different degrees of bear domination. The DAX is in a clear down trend though technically still in a bull market. The FTSE 100 is a hop-step away from entering a bear market. The CAC 40 is in a confirmed bear market. Sell the rises. Better buying opportunities may come soon - so keep those 'buy lists' ready.