BSE Sensex and NSE Nifty 50 index chart patterns – Nov 11 ‘11

In last week’s analysis, I had explained why both the bearish descending triangle patterns and the bullish island reversal patterns that seemed to form on the Sensex and Nifty charts needed to be discarded.

The ruling patterns on both charts have now been redrawn as downward sloping channels, which have followed ‘diamond’ reversal patterns that marked the transition from a bull market to a bear market a year ago.

BSE Sensex index chart

On the Sensex chart above, Gap1 had formed when the index broke down below the descending triangle. Instead of continuing the downward move to reach the triangle's target of 14000, the index started to consolidate in a rectangular band between 15700 and 17300. Such consolidations often follow when an index (or stock) breaks out of a previous pattern.

Since the overall trend of the market was down, it was expected that the Sensex would eventually resume its down move from the rectangular consolidation (a period when bulls and bears are equally matched). The index did just the opposite, by forming Gap2 and climbing back inside the descending triangle. This price action negated the bearish descending triangle, and raised the possibility of a bullish ‘island reversal’ pattern – the entire consolidation within the rectangular band forming an ‘island’ of trading separated by the two gaps.

Once again, the Sensex surprised by doing the exact opposite of technical expectations. It failed to rise convincingly above the falling 200 day EMA; could not test resistance from the upper edge of the downward-sloping channel; and, more importantly, filled the gap area on the chart. The filling of the gaps ruled out the bullish ‘island reversal’ pattern, and strengthened the case for the downward sloping channel.

Despite its name, technical analysis is more art than science because it tries to make sense of the combined fear and greed of market participants. Unlike scientific analysis, conclusions can’t be firmly drawn based on strict rules. The observation of different chart patterns at different times enable the technical analyst to form an opinion at best. Treating chart patterns as predictive tools and buying or selling only on the basis of such predictions is what causes losses.

The technical indicators are turning bearish, and signalling the possibility of a further correction. The ROC oscillated about its 10 day MA for a while, but has dropped below it into negative territory. The MACD is positive, but has crossed below its signal line. Both the RSI and the slow stochastic have dropped from their overbought zones, and are about to fall below their 50% levels.

The Sensex is technically in a bear market, and the downward sloping channel will continue to dominate the chart till the index can break out convincingly above the channel. That doesn’t appear likely in the near future. 

NSE Nifty 50 index chart

In a trading week shortened by two holidays, bulls were reluctant to increase their commitments. Bears took the opportunity to reassert their domination of the past 12 months. The weekly chart pattern of the Nifty clearly shows that the rally during Oct ‘11 failed to cross the 50 week EMA convincingly.

The change in bullish momentum is visible on the technical indicators. The ROC reached a higher top than the one in Jul ‘11, but has dropped off sharply towards the negative territory and its 10 week MA. The MACD is above its signal line, but has stopped rising in negative zone. The RSI stopped short of its 50% level. The slow stochastic has risen above the 50% level, and is the only indicator that is looking bullish. Any up moves may provide another selling opportunity to the bears.

The change of guard in Greece and Italy, acceptance of austerity measures, and the determination shown by the Eurozone leaders to tackle the debt problems are likely to provide some welcome respite to global stock markets. But our market doesn’t have much to cheer about. Inflation remains high. IIP numbers clearly show growth deceleration. Q2 results are a stark example of how high interest rates affect corporate bottom lines. It may take another two or three quarters before the economy can get back on the growth track.

Bottomline? The BSE Sensex and the Nifty 50 index chart patterns have been trading within downward-sloping channels for the past 12 months. Unless inflation and interest rates begin to moderate, there is no point in feeling bullish. Capital preservation and very selective value buying should be the strategy for the next couple of quarters.