Technical updates – Bharat Bijlee and Carborundum Universal

Modi-led NDA’s election victory seems to be bringing in good news. Consumer inflation (CPI) moderated a bit. More importantly, the IIP number showed an up-tick. Neither of these had anything to do with NDA’s victory, but occurred due to a gradual improvement in the economy.

The stock market is supposed to discount good (and bad) news in advance. Nowhere is this more evident than on the chart patterns of ‘infrastructure’ stocks. After prolonged slumber in bear markets, these stocks have not only woken up but are trying to make up for lost time in a hurry.

The stocks of Bharat Bijlee and Carborundum Universal are no exceptions. Both stocks touched their lows in Aug ‘13 and rose sharply to touch 2 year highs in 10 months. Have the fundamentals of both companies suddenly improved? Unlikely. These look like technical price spurts, which are unlikely to sustain. Be careful if and when you enter.

Bharat Bijlee

The stock of Bharat Bijlee touched a low of 274 in Aug ‘13, but made a ‘V’ shaped recovery followed by an accumulation period that lasted 7 months. The 200 day EMA provided strong resistance during Dec ‘13 and Jan ‘14. The stock price dropped below all three EMAs to touch a higher bottom of 326 in Feb ‘14. That was the signal that the bulls were waiting for.

A sharp price spurt above all three EMAs on strong volumes in Mar ‘14 propelled the stock into a bull market that was technically confirmed by the ‘golden cross’ of the 50 day EMA above the 200 day EMA.

The stock price rose to touch a 2 years high of 730 on Jun 9 ‘14 – gaining more than 150% from its Aug ‘13 low. Note that the bullish enthusiasm was not shared by the technical indicators, which showed negative divergences by touching lower tops. A price correction has set in. The stock price may drop to test support from the 600-620 zone.

Carborundum Universal

 

The stock price of Carborundum Universal went through a gradual bottoming process, touching multiple lows around the 100 level during Aug ‘13. The sharp rise above all three EMAs on a volume surge took the stock to a high of 152 in Jan ‘14 – a quick 50% gain in 5 months.

Negative divergences in the technical indicators was followed by a correction that successfully tested support from its rising 200 day EMA. The subsequent rally ended with the stock price touching a 2 years high of 190 on Jun 9 ‘14.

Note that the stock price touched a higher top, but ROC and RSI touched lower tops while MACD and Slow stochastic formed ‘double-top’ reversal patterns that warned of a correction. There is a long-term support zone between 150-162, which the stock may test on the way down.

A look at Cap Goods and Infra sectors – a guest post

After rallying from their Dec ‘11 lows to their Jan ‘13 tops, both Sensex and Nifty indices have been undergoing corrective moves. While both indices are within 10% of their Jan ‘13 tops, some sectors have done much worse than the indices.

In this month’s guest post, Nishit takes a look at two such beaten down sectors – Capital Goods and Infrastructure, and builds a case for investing in stocks from these sectors with a long-term point of view.

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The Markets are going down every day and several sectors are being beaten out of shape. Capital Goods and Infrastructure are two such sectors. Fresh orders have dried up and stocks from these sectors are at multi-year lows. Let us try and examine these sectors.

Capital Goods and Infrastructure are the heart of any country’s economy. If infrastructure is not built well, no country can expect to do well. These sectors typically work in about 8 year cycles. They see a boom phase for a long time and then an equally long downturn as well.

The last cycle of investments stopped around 2008-2010 period. Hardly any new orders are being booked by most of the companies. The expansion of industry has also halted, and hence the Capital Goods sector is doing horribly.

Now, there will be two factors at play here. First, the existing infrastructure - specially the power plants and manufacturing industry - is getting old. This will lead to replacement demand. Second, as India grows there will be demand for additional power plants and machinery. More interior areas will get developed and become urbanised. This will lead to a lot of work for the Infrastructure companies.

There have been several companies both in the Capital Goods and the Infrastructure space which have been around for decades and have seen several business cycles and have returned stronger. Siemens, L&T, Bharat Bijlee, HCC to name a few.

We do not know how long the current downturn will last. It may well go on for a couple of years more. A smart way of playing this is by doing Systematic Investment in these companies. Most of them are at around 40-50 % from their peak valuations. Investments may be divided into 4 lot sizes. Add one lot now and then add another lot at about 15% higher or lower than the current valuation.

Metals is another sector where valuations have been beaten down. Remember no country can ever expect to grow without Steel being produced. Tata Steel and SAIL have been beaten badly out of shape and these companies have been around for several decades now. They certainly merit a look.

The downturn can go on for some time to come and all investments in such sectors need to be done with a time horizon of at least 3 – 5 years. It is a tough task for most of us but only by investing on such larger time frames can real money be made in the equity markets. The Benchmark Nifty may be down only around 10–12% from its peak in January ‘13 but Steel, Capital Goods and Infra stocks are down almost 40-50%. In every fresh leg of down move, different sectors get beaten down. Banks are currently facing the music. Information Technology Sector could be the next one.

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(Nishit Vadhavkar is a Quality Manager working at an IT MNC. Deciphering economics, equity markets and piercing the jargon to make it understandable to all is his passion. "We work hard for our money, our money should work even harder for us" is his motto.

Nishit blogs at Money Manthan.)

Stock Chart Pattern - Bharat Bijlee (An Update)

Like most companies in the capital goods sector, Bharat Bijlee, a small-cap electrical transformer and motors manufacturer, has been facing turbulent times. It is a credit to the financial prudence of its management that the balance sheet hasn’t deteriorated too much. However, cracks are clearly visible.

Top line remained almost flat for year ending Mar ‘12 but profit at the operating and net level fell by 38% and 22% respectively, thanks mainly to a large increase in manufacturing costs. Cash flow from operations turned negative for the first time in 5 years. Consequently, debt/equity ratio almost doubled – though it remains well within manageable limits.

The bears have pulverized the stock, as will be evident from the one year daily bar chart pattern of Bharat Bijlee:

In the previous update more than a year back, a “hold with a strict stop-loss of 880” was recommended. The stock broke down decisively below 880 in Jul ‘11 and continued its downward trajectory till it found some support at 695 in Aug ‘11.

For the next two months, the stock price tried to cling on to the 695 level but failed. The downward journey resumed in Nov ‘11 and the stock finally formed a small ‘double-bottom’ reversal pattern at 511 in Dec ‘11. Such small reversal patterns deep within a bear market usually don’t reverse the trend.

The rally in the stock during Jan and Feb ‘12 coincided with the rally in the broader market, and the stock price managed to climb above all three EMAs to an intra-day high of 767 on Feb 17 ‘12 – an impressive 50% gain from its Dec ‘11 low. 

But the stock formed a ‘reversal day’ pattern, which marked an intermediate top. Note that three of the four technical indicators touched lower tops as the stock rose higher (marked by blue arrows). Negative divergences in three out of the four indicators warned of an end to the rally.

A huge volume surge on Apr 18 ‘12 couldn’t propel the stock price above the Feb 17 ‘12 high of 767, and the stock fell back in a bear market. At today’s closing price of 600.55, the stock is still 85% below its Jan ‘08 peak of 3950.

Is it a good idea to enter the stock now? Two of the technical indicators – RSI and ROC – are showing positive divergences by touching higher bottoms as the stock price dropped lower. But that isn’t clinching evidence of a turnaround. Though the ROC has crossed above its 10 day MA into positive territory, MACD is negative and both RSI and slow stochastic are still below their 50% levels.

The stock price needs to move above 767 (Feb ‘12 top) to form a bullish pattern of higher tops and higher bottoms. Even if it achieves that, it may have a tough time crossing the 880 level.

Bottomline? The stock chart pattern of Bharat Bijlee is in a bear market, and there is a possibility that the Dec ‘11 low of 511 will be tested and broken. Wait for a clear sign of trend reversal and check Q1 results next month before taking a decision to enter. The main problem with small-cap stocks is that they trade in small volumes which make entry/exit difficult. However, a revival in the power sector and lower commodity prices can change the fortunes of the company dramatically. A good stock to keep on your ‘watch list’.

Stock Chart Pattern - Bharat Bijlee (An Update)

The stock chart pattern of Bharat Bijlee is an example of why technical analysis should never be relied upon completely. It is not a science. Price targets are fixed on the basis that previous chart patterns will get repeated. While this happens often, many times the outcomes are contrary to expectations.

Pattern failures happen when there isn’t appropriate volume support. One of the reasons why even fundamentally strong small-cap stocks are risky bets is because they tend to trade in miniscule volumes. That makes buying and selling a difficult proposition. Low volumes also renders technical analysis ineffective.

The bar chart pattern of Bharat Bijlee reveals the deficiencies in technically analysing small-cap stocks:

  

In the previous update back in May ‘10, I had observed a bearish descending triangle pattern being formed after the stock touched a high of 1170 in Jan ‘10. I had expected the stock to fall below the support level of 880 to a low of 700. Accordingly, I had recommended the following course of action to investors:

‘Existing holders should get out now, or at best, hold with a strict stop-loss at 880. New entrants should avoid the stock.’

Triangles are consolidation patterns that are generally unreliable. That means that the stock price can break out of a triangle in either direction. But ascending triangles (flat top, rising bottoms) and descending triangles (lower tops, flat bottom) tend to be more reliable. Price usually breaks above a flat top or below a flat bottom.

Note that the bearish descending triangle price pattern formed between Jan – Jun ‘10 turned out to be a failure. A burst of buying from the third week of Jun ‘10 propelled the stock price to a high of 1284 on Jul 2 ‘10. After a brief dip, a second burst of buying saw the stock reach 1316 on Jul 22 ‘10.

The fun and games of the bulls finally ran out of steam. While the stock reached a higher top, all four technical indicators made lower tops (marked by blue arrows). The combined negative divergences started a correction within another descending triangle pattern that has lasted almost 8 months.

Through Aug ‘10 and most of Sep ‘10, the stock price was supported by the 50 day EMA as a bearish pattern of lower tops and lower bottoms got formed. The stock found resistance from the downward sloping trend line of the descending triangle pattern on Oct 7 ‘10, and quickly dropped to the 200 day EMA. For the next 3 weeks, the stock traded between the 50 day and 200 day EMAs before decisively breaching the support from the long-term moving average on Nov 15 ‘10.

The ‘death cross’ signalling a bear market (marked by blue oval) happened on Dec 8 ‘10. On the next day, the stock plunged to the support level of 880 on a volume spike. A ‘reversal day’ pattern (lower low, higher close) on Dec 10 ‘10 marked the end of the fall. But the meagre volume suggested that the rally was unlikely to be a strong one. A 3 months long sideways consolidation has ensued, with up moves finding resistance from the 200 day EMA. If the support level of 880 doesn’t get breached soon, the second descending triangle pattern may also turn out to be a failure.

The technical indicators are not showing any clear direction – typical of consolidation periods. The MACD is entangled with the signal line, and both are barely in the positive zone. The ROC has fallen below its 10 day MA into negative territory. The RSI has moved down to its 50% level. The slow stochastic is about to drop to the 50% mark.

Bottomline? The stock chart pattern of Bharat Bijlee is almost back where it was 10 months ago. One can hold with a strict stop-loss at 880, and add only on a high volume break out above the descending triangle. At today’s closing price of 974.25, the stock is trading at less than 25% of its Jan ‘08 bull market peak price of 3950. Fundamentally, the company is financially sound and continues to perform well. But margins are under pressure.

Stock Chart Pattern - Bharat Bijlee (An Update)

My previous look at the stock chart pattern of Bharat Bijlee was an example of what can happen to fundamentally strong small-cap stocks during a bear market.

The stock got hammered down from a high of 3950 (Jan '08) to a low of 301 (Mar '09) - a huge fall of 92%. Small or mid-cap stocks have a tough time recovering from such massive falls. The stock rose sharply by almost 240% to 1015 in Jun '09, but managed to retrace less than 20% of its fall.

Thereafter, the stock went into a correction mode and had reached 785 after dropping to a low of 680 (a 47% retracement of the rise from the bottom of 301 - close to the 50% Fibonacci retracement level).

I had expected the correction to last a while longer based on the technical indicators and had suggested an entry for patient investors with a possible upward target of 1500 in one year. (The reason for that target? It is a 33% retracement of the bear market fall. Goes to show that arithmetic alone does not ensure stock market success!)

The stock moved down to 733 in Aug '09, forming a bullish ascending triangle pattern. An upward break out on decent volumes seemed to get the up move back on track.

Let us take a look at the 1 year bar chart pattern of Bharat Bijlee to check how the stock has fared in the past 10 months and what is the likelihood of its hitting the price target any time soon:

After reaching 1090 in Oct '09, the stock fell back to the support level at 880 and moved sideways for 2 months. A huge volume spurt (a block deal?) in early Jan '10 pushed the stock up to its high of 1170 - which retraced about 24% of its entire bear market fall.

Looks like end-of-story for the bull rally in the stock, as it has started to make lower tops with a flat bottom at 880. That has formed a bearish descending triangle pattern, from which the stock is expected to break downward to at least the 700 level, if not more.

The technical indicators are not holding out much hope for the bulls. The MACD is below the signal line and about to enter negative territory. The RSI is hesitating at the edge of the oversold zone, waiting for a push to go in. The slow stochastic is already inside the oversold zone.

Bottomline? The stock chart pattern of Bharat Bijlee shows that the bulls are on the mat and about to be counted out. Existing holders should get out now, or at best, hold with a strict stop-loss at 880. New entrants should avoid the stock.

Stock Chart Pattern - Bharat Bijlee

The stock chart pattern of Bharat Bijlee has an important lesson for small investors who are interested in mid-cap and small-cap stocks. While such stocks can give whopping returns during the later stages of a bull market, they can fall off a cliff when the bears take control.

Bharat Bijlee is not one of many fly-by-night, chameleon-like operations that dot the mid-cap field. It has been around for quite a while. Its supposedly mundane business of manufacturing electrical motors and distribution transformers, with sales to a number of State Electricity Boards with long payment cycles, has still thrown off decent positive cash flows from operations.

This has enabled the company to finance its expansion and growth through internal accruals and debt, leaving the small equity capital of Rs 5.65 Crores intact for the past several years. Last year, both the top line and bottom line were hit by the economic downturn and the increased prices of raw materials.

The 2 year closing chart pattern of Bharat Bijlee shows how badly the bears have mauled this profitable, dividend paying, well-managed small-cap company:

After hitting a high of 3950 in Jan '08, the stock had a one way fall to a low of 301 on Mar 13, '09 - dropping more than 90% from its peak. Such a huge fall is technically very negative, as it may take the stock a long time to retrace even 50% of the fall.

A 'V' shaped recovery, accompanied by heavy volumes, took the stock up to 1015 on June 4, '09 - a rise of about 235% in less than 2 months. After a brief sojourn above the 200 day EMA, the stock has been consolidating in a downward sloping trend channel and has slipped below both the 20 day and 50 day EMAs.

Notice how the 20 day EMA moved down after touching the 200 day EMA. Unless the short-term and mid-term moving averages go above the 200 day EMA, the bull market will remain elusive for Bharat Bijlee.

The RSI, MFI and slow stochastic have bounced off oversold regions. The MACD is negative. Looks like the consolidation in the downward channel may last a while longer.

Bottomline? At today's closing price of 785, the stock is available at a P/E ratio of 9.2. The stock chart pattern of Bharat Bijlee may be providing an entry point for really patient investors. With the current emphasis on building the power infrastructure in India, the stock can hit 1500 in a year's time.