Sensex Chart Pattern - Week ending Apr 17, '09

While discussing last week's chart pattern, I had mentioned that the Sensex had come to an interesting fork on the road. Unlike a more decisive Yogi Berra, the Sensex took three steps forward and a long step back on another holiday-curtailed week.

Let us take a look at the 6 months bar chart pattern to find out what happened on the 4 days of trading:-

(Please right-click on the image above and open it in a new tab or window for a better view.)

On Apr 13, '09, the Sensex moved up to pierce through the upper level of 10945 of the rectangular consolidation pattern of the past 6 months and closed 22 points above it - but failed to touch the 200 day EMA. After the holiday on Apr 14, the Sensex charged up with renewed vigour above the long-term average on Apr 15, '09 and managed to close above it.

On Apr 16, '09 the Sensex opened higher than the previous day's high but profit booking on heavy volumes caused a drop below the 200 day EMA, with the close below the previous day's close and almost at the upper level of the rectangular consolidation pattern. This higher-high-lower-close on high volumes is a typical 'reversal day' pattern often seen at the end of a longish upmove.

On Fri. April 17, '09, the index opened below the 200 day EMA, soon crossed it without any problems but then faced heavy headwinds and closed below it, 75 points above the previous day's close.

So three days in a row, the Sensex crossed the 200 day EMA, but closed above it only on one day. That still leaves us at the fork on the road, with the Sensex unable to decide whether to take the high road or the low.

What do the technical indicators say? The slow stochastics continues in the overbought zone, though the %K has just dipped below the %D line. The MACD has stopped rising. But both the ROC and the RSI have turned down from overbought zones. Friday's higher close was on lower volumes. The Sensex seems to be hesitating, much like the Hang Seng, after reaching the 200 day EMA .

What do the experts say? Anthony Bolton, the respected fund manager at Fidelity, recently gave a call that this is not a bear market rally but the start of a new multi-year bull market. Nouriel Roubini, Professor of Economics at NYU who had correctly predicted the economic downturn way back in 2006, has mentioned in an article that this is nothing but a bear market rally and the light at the end of the tunnel that many optimists are able to see is actually very faint.

A quick look at indices around the globe reveals that Bovespa (Brazil), Venezuela and Chile in South America and Shanghai, TSEC (Taiwan) and Kospi (Korea) in Asia are the only six that have closed above their 200 day EMA, but the upward rally is slowing. All the other world indices are below their 200 day EMAs.

Bottomline? Wait and watch till the Sensex makes up its mind. My hunch is that we are still in a bear market rally, which the 'reversal day' on Apr 16, '09 may bring to a halt. But the possibility of a trend change remains. When the 20 day EMA and the 50 day EMA both rise above the 200 day EMA a new bull market will be confirmed.

Hang Seng Chart Pattern - Apr 17, 2009

It has been three weeks since I looked at the Hang Seng chart pattern on Mar 27, '09. What had I concluded then?

The index has penetrated both the 20 day EMA and the 50 day EMA from below, indicating bullishness. But it is still way below the 200 day EMA, which means it is still in a long term bear market. The double top above the 15000 level is likely to provide strong resistance.

Let us have a look at the current 6 months bar chart pattern of the Hang Seng to see what transpired:-

(Please right-click on the image above and open it in a new tab or window for a better view.)

The index continued its upward rally along with the global markets, with the 20 day EMA crossing the 50 day EMA and both averages moving up with the Hang Seng - showing continued bullishness.

The slow stochastics, which had entered the overbought zone in the middle of Mar '09, happily stayed there while the MACD and ROC moved up. The RSI remained flat as the index went higher - a 'divergence' - but has turned up of late. Looks like it is 'all systems go' for the rally to continue.

But wait a minute. Please look at the chart pattern again. Find some thing interesting? See where the Hang Seng has halted - even if temporarily? Around the 15600 level - which defines the top of the rectangular sideways consolidation pattern of the past 6 months. This level was earlier touched by the index in Oct '08, Dec '08 and Jan '09.

It is also the level where the 200 day EMA is currently poised. This combination of resistance at previous tops plus resistance at the long-term 200 day EMA may prove a tough hurdle to cross.  The other thing to note is the volume. It increased in the second half of Mar '09 but has flattened off in Apr '09.

Bottomline? Investors should closely watch the chart pattern of Hang Seng next week. Crossing the 200 day EMA and staying above it for a few days may confirm a change of trend from bear market to bull market. But a reversal from the longer-term average would mean reverting to the sideways consolidation pattern for some more time.

How to pick Stocks for Investment - Part II

In the first part of this short series of articles on stock picking, I had given some general guidelines about stock selection for investment. Today's discussion will center around the top-down method of stock selection.

Imagine a timber merchant who wants to lease several hundred acres of forested land. A land broker takes him to a nearby hill, from where he looks down at a forest in the valley below. What would he look for?

Is there a large enough density of trees that will take several years to get depleted? Is the soil conducive to adequate growth of saplings? Is there plentiful source of water nearby? Is the forest reasonably close to a highway system that will aid quick movement of logs? Is there a sufficient variety of trees to enable him to cater to a wider market?

If answers to such questions are in the affirmative, the timber merchant may decide to lease the forest tract. He looked at the 'big picture' from the top of the hill before deciding to invest his money. He will look at the nitty-gritty of exploiting the forest resources later.

Like the timber merchant, you are also a potential investor - but in the stock market. What is the 'big picture' you should see?

What is the state of the economy? Which stage of its up or down cycle is it in now? How is the domestic industry faring? Is the export industry meeting its targets? What is the balance of payments situation? Inflation? Liquidity? Is the Sensex in a bull or a bear phase?

I can almost anticipate your objections: "I'm a software engineer/lawyer/sales executive; this is all about macro-economics. How do you expect me to understand it? There must be an easier way!"

Well, if you wish to make the stock market a long-term source of additional income, you definitely need to learn the rudiments of economics.

At the very least, the concepts of supply and demand, cost and pricing, inflation and its relation to the interest rate scenario, basic accounting principles have to be grasped to have any chance of long-term success in the stock market.

You may have a friend who did nothing but happily follow tips from other friends and now owns a flat in Bandra (or Banjara Hills) and drives a BMW. Don't fall for that trap. He may have just got lucky. Check with your other friends. Most are not rich. Not from the stock market anyway.

So you look at the current 'big picture' and think that the economic and stock market cycles are in sufficiently conducive stages for you to invest some money. How will you decide? You can always take the help of a couple of my earlier blog posts: 'Market cycles and Sectors' and 'Which sectors should you invest in?'

In the first article, I've identified the sectors that come into prominence at different stages of the economic and stock market cycles. You don't have to invest in all those sectors. Choose three or four sectors about which you already have some knowledge (or you may know someone from those sectors who can help you with information). It is of utmost importance that you only invest in sectors about which you can gather adequate knowledge.

If you are still unable to decide on your sector choices, please read the second article mentioned above. I have outlined four sectors and the reasons why I like them for investment purposes.

Are we done yet? Not quite. After identifying three or four sectors (you need solid reasons to like them - not something vague like 'alternative energy is the next high growth area in India'), select three or four of the best known stocks in each sector.

You now have a list of 12-16 stocks from some of your favourite sectors. These need to be analysed in detail to arrive at the final list of 8-10 stocks for your core investment portfolio. (In Part III, I will discuss about the bottom-up method of stock selection.)

Stock Chart Pattern - Infosys Ltd.

For this week's stock chart pattern discussion, I could not think of a more appropriate stock than Infosys. A bellwether of the Indian stock market and a perennial favourite of foreign and domestic investors for the longest time, Infosys seemed to have lost its pride of place of late.

A quick look at the 6 months closing chart may allay some investor doubts:-

(Please right-click on the image above and open it in a new tab or window for a better view.)

Well before the global rally started in Mar '09, Infosys moved up above its 20 day and 50 day EMA in Jan '09 - though it remained well below the 200 day EMA. After a small dip, it again moved up and remained above its short and mid-term EMAs till the middle of Feb '09.

After a 3 weeks period of sideways consolidation during which the stock made a higher bottom than the one made in late Dec '09, it started to move up again along with the global rally.

After initial resistance in late Mar '09, Infosys pierced through the 200 day EMA in the beginning of April '09, but then lost its upward momentum and consolidated sideways just above the 200 day EMA - probably due to uncertainty about the forthcoming results.

The above chart is updated up to Apr 13, '09 (the previous day of trading). The Q4 '09 result, declared earlier today (Apr 15, '09) was disappointing but not really disastrous. The  challenging outlook for the near future spooked the market and the stock crashed more than 5% from its previous close.

There are a couple of interesting indications on the chart. Both the ROC and the slow stochastics had started turning down from the beginning of April '09, while the MACD was making new highs and the RSI had flattened just below the overbought zone.

This 'divergence' was partly responsible for the profit booking that happened today, due to which the stock has dipped below its 200 day EMA. However, the 20 day EMA and 50 day EMA are both rising and the 200 day EMA is flattening out.

From early Nov '08, Infosys has made a 'saucer-like' chart pattern which is quite clearly identifiable from the 50 day EMA. This 'rounding bottom' pattern is considered bullish. A strong breakout upwards should be on higher volumes. Volumes have not been significantly higher during Apr '09.

Bottomline? Wait for the selling pressure to subside before entering the stock on the dip. Be prepared for a longish wait for  profits in front-line information technology stocks. There may be other stocks that can provide better returns. Please remember that, like HDFC, Infosys has impeccable management and is a FII favourite. This one is for patient, long term investors.

Dow Jones Chart Pattern - Apr 10, 2009

Compared to the week before, the Dow Jones chart pattern for the holiday-shortened week ending on Apr 10, '09 is showing signs of tiredness, in spite of Thursday's 250 point spurt on higher volumes.

A look at the 6 months bar chart of the Dow will reveal why:-

(Please right-click on the image above and open it in a new tab or window for a better view.)

The upward momentum has definitely slowed and the index seems to be treading water around the 8000 level. The 20 day EMA has turned up and merged with the 50 day EMA, which has been almost flat for the past several trading sessions.

The Dow is still well below the 200 day EMA, and is not behaving like it wants to cross it any time soon. The MACD is positive and the signal line is rising. But have a look at the other indicators.

The slow stochastics, ROC and RSI are all making lower highs as the Dow is trying to reach higher. This 'divergence' - noticeable in other world indices as well - is indicating a correction in the offing.

Compare the Dow chart pattern with the Taiwan (TSEC) and Sensex chart patterns discussed over the weekend. While the TSEC has pierced through the 200 day EMA and the Sensex is just short of doing so, the Dow is mirroring the weakness of the US economy by remaining well below the 200 day EMA.

Bottomline? Investors who are not risk averse (don't know if they exist any more!) can move some money out of US funds and start to deploy in Asia funds.

Taiwan (TSEC) Chart Pattern - Apr 10, 2009

When I  discussed about the Taiwan (TSEC) chart pattern on Friday, Apr 3, '09 I had made the following observation:-

In the Mar '09 rally - in tandem with global markets - it has not only pulled out of the consolidation phase, but has made a clear 'rounding bottom' chart pattern on significantly higher volumes.

The TSEC has moved above the 20 day EMA and the 50 day EMA - both of which are moving up. This is a clear bullish sign. It is tantalisingly poised below the trend deciding 200 day EMA. My guess is that the 200 day EMA won't be able to stop the up move.

Let us take a look at the 6 months closing chart pattern of the TSEC to see what happened last week:-

(Please right-click on the image above and open it in a new tab or window for a better view.)

Guess what? After getting resisted initially, the index pierced through the 200 day EMA - just as I had expected. What was my expectation based on? Firstly, the higher volumes. More importantly, the 'rounding bottom' pattern of the TSEC - which may not be discernible to the untrained eye, but is clear as daylight when you look at both the 20 day EMA and 50 day EMAs.

See how the shorter and mid-term EMAs have made saucer-like patterns on their climb upwards, along with the index on higher volumes? Classic technical stuff!

What next? Is a new bull market confirmed? Almost, but not quite yet.  The 200 day EMA is beginning to flatten out but the 20 day and 50 day EMAs are still below it. That may change soon.

There are a few other hurdles visible as well. Both the ROC and RSI have made lower tops while the index is making higher ones. This is a 'divergence'. The MACD is above its signal line and both are in the positive zone, but have stopped rising. The slow stochastics has been in the overbought zone for a month now, and may be due for a correction. Finally, the TSEC is only 200 points below the 6000 level where it is likely to face resistance.

Bottomline? The Taiwan (TSEC) chart pattern is looking the most promising among all the indices discussed so far and may well be signalling a new bull market. But there could be a correction to the up move in the near term.

Sensex Chart Pattern - Week ending Apr 10, 2009

Before discussing the Sensex chart pattern for this week, I seek the indulgence of this blog's readers in a little trumpet-blowing. A leading Indian pink-sheet quoted some of the comments I made in last week's Sensex chart pattern discussion in a recent article. Interested readers may want to click on the link below:-

http://economictimes.indiatimes.com/Markets/Analysis/Market-bull-run-Technicals-indicate-otherwise/articleshow/4380215.cms

I emailed my friends, assuring them that now that I'm 'famous', I promise never to forget them. While most of them sent congratulatory messages, one had a question: "You may have fame, but do you have fortune?"

Not realising that this was an outswinger pitched outside the off-stump and should be left well alone, I poked at it and asked him what he meant. Pat came a pithy comment: "There are two kinds of people in this world - those who think fortune follows fame, and those who know fame can be bought with fortune."

Ouch!! I was out - caught first ball. Guess my two minutes of 'fame' wasn't even worth the paper it was printed on! Since fortune is supposed to favour the brave, I will bravely move on to discuss the 6 months bar chart pattern of the Sensex.

(Please right-click on the image above and open it in a new tab or window for a better view.)

In a truncated week with only 3 days of trading, the Sensex continued its relentless upward rally that began a month ago, and hit 10929 in intraday trade on Apr 9, '09. A whopping 36% rise from the Mar 6, '09 intraday low of 8047.

The slow stochastics is firmly in the overbought zone. MACD and ROC are both positive. The RSI is also positive and just about entering the overbought zone. The Jan '09 high was crossed in style. As per a few US market analysts, a 20% plus rise from a recent bottom is supposed to indicate a bull market.

Some how, in spite of all the positives, I'm still not convinced that this rally is the first leg of a new bull market. I may be in a minority of one, but a few technical and fundamental hurdles remain on the way.

1. The volumes are nothing worth writing home about. Barely higher in Mar '09 over Feb '09, and marginally higher in April '09 so far. A new bull market should have significantly higher volumes.

2. The 20 day EMA is above the 50 day EMA and both have started to rise. This is a bullish sign. The Sensex is above both these EMAs. Also bullish. But so far, all three have remained below the 200 day EMA, so technically we remain in a long term bear market.

3. The past one month's rally has not seen any significant correction, except the big fall on Monday, Mar 30, '09. This is an anomaly. An index can't go on rising without proper correction from time to time - unless some one is manipulating it. Who? The insurance companies, more particularly, LIC. Why? Probably under the dictats of the wily Finance Minister, to give voters a feel good factor before the impending general elections.

4. The corporate results for the financial year Apr '08 to Mar '09 will start hitting the markets from next week. They are not expected to be good. Anecdotal evidence suggests that the results for the next two quarters aren't going to be great either. Weak fundamentals can't prop up the market for long.

Now we come to an interesting fork on the road. (As the New York Yankees baseball coach Yogi Berra had famously said: "When you come to a fork on the road, take it!") This is what makes technical analysis so much fun.

The intraday high of 10929 is nearly the same as the intraday high of 10945 made on Nov 5, '08. After touching it, the Sensex dropped down more than 125 points on Apr 9, '09.

Please remember that the level of 10945 has defined the upper limit of the sideways rectangular Sensex chart pattern formed over more than 5 months. Since the Sensex is also tantalisingly below the 200 day EMA, bears may try to take control. That means the Sensex will remain within the rectangular chart pattern and the long term bear market will continue.

However, if the buying momentum continues for a few more days, and the possible resistances at 10945 and the 200 day EMA at 11200 are overcome, the Sensex may go all the way up to the 12000-12500 long term resistance zone. That may be a tough resistance to cross.

Bottomline? Keep your eyes glued to the Sensex chart over the next couple of weeks. If the bears take control and there is a sharp sell-off, one can start buying in small quantities again. If the Sensex goes up above 11500, start getting rid of some of the second and third rung stocks remaining in your portfolio.