About trend lines and channels

Here are some extracts from my free eBook on Technical Analysis taken from Chapter 2: Trend Lines and Channels:-

“Stock or commodity prices tend to move in a trend. A bullish (or up) trend occurs when demand for a stock or commodity exceeds supply. In other words, there are more buyers than sellers. A bearish (or down) trend occurs when supply of a stock or commodity exceeds demand. That means there are more sellers than buyers.

Some times, demand from buyers and supply from sellers are almost equally matched. The trend becomes sideways – neither going up nor falling down. At such times, technical analysis doesn’t work too well. At some point, a mismatch between buyers and sellers causes a break out from the area of sideways consolidation.

There are three types of trends. A major trend lasts for a few months or years. This is the trend of greatest interest for buyers and sellers. An intermediate trend moves in a direction opposite to the major trend, and lasts for a few weeks or months. Eventually, the major trend resumes. A minor trend occurs for a few days during major and intermediate trends, and is of very little consequence.

Prices don’t move in one direction in a straight line. An up move of a few days is followed by two or three days of a down move, producing a zigzag pattern on the chart. Trend lines enable investors to identify the major and intermediate trends. These lines are drawn by connecting the progressively higher bottoms touched by prices in an up trend, or the progressively lower tops touched by prices in a down trend.

Some times, prices move within trend channels – a pair of parallel lines can be drawn connecting the tops and bottoms touched by prices during an up or down trend. A trend channel is similar to a sideways consolidation, but with an upward (or downward) bias. Eventually prices break out of the channel.

Drawing trend lines (and channels) is a skill that improves with practice. Despite its name, there is nothing ‘technical’ in technical analysis – other than dealing with graphs and geometrical shapes taught in school to every student. The important thing is to remain flexible about adjusting to changing conditions if chart patterns don’t form exactly as per expectations.”

Why remain satisfied with these extracts? Get the real thing. The eBook is absolutely free. Just send me an email at mobugobu@yahoo.com with your full name and a request for the eBook to receive your copy.

Is OnMobile Global for sale?

A few weeks back, there was a rumour in the market that TCS was looking at the possibility of buying OnMobile Global. That remained a rumour and did not become news. Those who may have bought the stock on the basis of the rumour may be waiting for an opportunity to sell.

That opportunity may not be far away. As per a recent article in Business India magazine, OnMobile Global is on the block and the latest suitor is Idea Cellular (of the Aditya Birla group). Apparently, Idea is ready to buy a 60% stake in the company at a price of Rs 100 – which is 33% higher than today’s closing price of Rs 74.40.

If this rumour turns out to be true, then investors may be able to pocket a neat gain if they enter at the current market price. Acquisition of a 60% stake – or even a lower stake - will trigger an open offer to existing shareholders.

In a post on the telecom sector a couple of months back, it was observed that the OnMobile stock was trying to form a bottom by consolidating within a rectangular band between 54 and 73. It was suggested that the stock could be a contrarian bet, but with a strict stop-loss at 52.

In Jan ‘12, the stock crossed above the rectangular consolidation zone, rose to an intra-day top of 84 on Feb 15 ‘12 and briefly breached its falling 200 day EMA. It has now pulled back to the top of the rectangular band. An upward bounce can be used to add/enter.

What if the rumour about Idea‘s stake buy remains a rumour – like it happened in the case of TCS? The company is fundamentally strong, and its overseas businesses, which contribute nearly half of its total revenues, are supposedly doing well. Domestic business is under pressure. Q3 results showed 12% top line growth but a 11% dip in the bottom line.

With smart phones becoming cheaper by the day and 3G service roll-outs in progress, OnMobile’s expertise in value-added software services should see growing demand. Even if the stake sale doesn’t go through, it may be worth holding on to the stock. A buy-back by the management, with a ceiling at Rs 85, is currently in progress.

Gold and Silver Chart Patterns: consolidating

Gold Chart Pattern

Gold’s chart has been consolidating within a symmetrical triangle pattern (in yellow) for the past 10 weeks or so, and is ripe for a break out of the triangle. In which direction? Knowing the answer can make some one seriously rich! Triangles are quite unreliable and the break out can occur in either direction.

On an upward break out – which should be accompanied by heavy volumes for the break out to be valid – gold’s price can reach 2000. On a downward break, the price can fall to 1450. There is a third possibility. Gold’s price can continue to consolidate and move sideways through the apex of the triangle (at around 1725). In the latter case, the triangle pattern would fail.

Since gold’s price chart is in a bull market – it is trading well above its rising 200 day SMA – an upward break out has greater probability. But technically, the chart is showing some weakness. Note that the recent rally faced resistance from the 1750 level and failed to reach the upper edge of the triangle. That may be a prelude to a break below the triangle.

Await the break out before taking a decision to buy or sell.

Silver Chart Pattern

Ever since the steep drop below the 200 day SMA about 10 weeks back, silver’s price has been in a sideways consolidation between 28 and 36. The 200 day SMA is beginning to flatten out and should start falling – confirming a bear market.

In my previous post, I had mentioned that silver’s price has been trading within a downward-sloping channel (in yellow). The trend is down, and will remain so till the upper end of the channel is convincingly breached. With manufacturing activities contracting in Europe and the emerging markets, there is little likelihood of a boost in silver’s price any time soon.

Stay away till clarity emerges about a resolution of the Eurozone debt problems.

BSE Sensex and NSE Nifty 50 index chart patterns – Oct 21 ‘11

The battle between the bulls and the bears remained inconclusive for the 11th straight week, as both the BSE Sensex and the NSE Nifty 50 index charts consolidated within rectangular trading ranges.

The longer they consolidate, the stronger will be the eventual breakouts. The only problem is that we don’t know the direction of the breakouts. The probability of downward breakouts is greater, because the consolidations have followed prolonged down trends.

BSE Sensex index chart

On Mon. Oct 17 ‘11, the Sensex made a ‘reversal day’ pattern (higher top, lower close) that marked the end of the two weeks long rally from the low of 15745 touched on Oct 4 ‘11. RIL’s unimpressive result and outlook was the likely selling trigger. The good news from the bullish point of view is that the rising 20 day EMA provided good support to the retreating index.

The technical indicators are not bearish, but hinting at a downward move in the coming week. The MACD is above its signal line and positive, but has stopped rising. The RSI has slipped down before touching its overbought zone, but is just above the 50% level. The slow stochastic is still inside overbought territory, but about to drop down. The ROC is still positive, but has quickly changed direction to cross below its 10 day MA.

L&T’s not-so-great Q2 result was as per expectations, but their poor future guidance came as a big shock to the market. The strong selling in the counter dragged the index down on Fri. Oct 21 ‘11. A few more such shocks can break the resolve of the bulls to defend the 15700 level. Till then, more consolidation within the trading range is likely.

NSE Nifty 50 index chart

The weekly bar on the Nifty chart shows a higher top and a lower close – a ‘reversal week’ pattern that signals the end of the two weeks long rally from the low of 4728. The combined resistances from the falling 20 week EMA and the support-resistance level of 5170 seemed to overwhelm the bulls.

The technical indicators don’t look particularly promising. The ROC rose quite sharply, but could not enter the positive zone. The MACD failed to cross above its falling signal line in negative territory. The RSI is moving sideways just above its oversold zone. The slow stochastic failed to make much headway after emerging from its oversold zone, and stayed well below the 50% level.

Inflation has shown no signs of coming down. Another 25 bps rate hike by the RBI has been factored in by the market, though signs of slow down in GDP growth has prompted a few analysts to suggest a pause in the interest rate hike.

The myth behind the growth in exports has been exposed by a group of Kotak researchers. Bogus orders from dubious overseas entities located in tax-havens like the Bahamas, and over-invoicing are being used to funnel back black money into the country. This could be another huge scam that rival the 2G and CWG scams. No wonder the FIIs are in a selling mood.

Bottomline? The BSE Sensex and the Nifty 50 index chart patterns look all set to move down towards the lower edges of their respective trading ranges. More negative surprises from index heavyweights can trigger further selling. A Diwali rally appears unlikely. Stay on the sidelines.

Gold and Silver Chart Patterns: an update

Gold Chart Pattern

Gold’s price had formed a double-top reversal pattern after touching 1900. The double-top was confirmed when the price dropped below the ‘valley’ level 1750 between the two tops. Downward target of 1600 was achieved quickly on gold’s chart, after which gold’s price has been consolidating within an upward-sloping ‘wedge’ pattern.

Most consolidation patterns tend to be continuation patterns. That means, the trend before entering the pattern – down, in this case – would continue once price break out happens. Unlike triangle and rectangle patterns, from which break outs can happen in either direction, the rising wedge is fairly dependable. It forms during bear phases, and the price break out is downwards.

Bulls may feel enthused that gold’s price is trading above the 14 day SMA, and the 200 day SMA is still rising – indicating that the bull market is far from over. But the possibility of a break below the rising wedge pattern, and a test of support from the 200 day SMA should induce caution.

Existing holders can keep a stop-loss at 1540 (the level of the 200 day SMA) and continue to hold. New entrants can wait for a likely upward bounce from the 200 day to accumulate. (Note: At the time of writing this post, gold’s price has dropped sharply to 1630, indicating a break below the rising wedge.)

Silver Chart Pattern

After dropping like a brick below the 200 day SMA, silver’s price has been consolidating within a symmetrical triangle. Though silver’s price is trading above the 14 day SMA – a short-term positive – the longer-term outlook is not bullish.

The 30 day SMA (not shown in chart above) has slipped below the 200 day SMA, and the 60 day SMA is likely to follow suit. The 200 day SMA is flattening and may turn downwards soon. Silver’s price is in a clear down trend, marked by lower tops and lower bottoms. Downside targets are 24 and 20. Wait for the correction to play out.

BSE Sensex and NSE Nifty 50 index chart patterns – Oct 14 ‘11

Both the BSE Sensex and the NSE Nifty 50 indices have consolidated for 10 consecutive weeks within rectangular trading ranges, after breaking down below descending triangle reversal patterns.

As mentioned in last week’s post, such consolidation patterns tend to be continuation patterns. Both indices were in clear down trends before entering rectangular consolidation zones. Which means that the break out from the ranges are likely to be downwards.

However, I’ve mentioned this before and it may bear repetition that technical analysis is not a science. Price patterns don’t always behave as per expectations. Some good news may lead to a bullish price spurt. Likewise, bad news can lead to a sudden sharp drop.

BSE Sensex index chart

Last week’s trading produced a bullish bar on the BSE Sensex chart, with the highest weekly close for the past 10 weeks.  The index faces twin resistances from the falling 20 week EMA and the support-resistance level of 17300.

Even if the Sensex manages to climb back into the descending triangle, it will face stronger resistances from the falling 50 week EMA and the blue down-trend line. But the odds of the bears striking back next week seem to have improved.

Both FIIs and DIIs were net sellers on Fri. Oct 14 ‘11, but the index gained 200 points. That means index stocks were bought and non-index stocks were sold. Reliance was one of the market leaders during the week’s trading, but declared less-than-stellar Q2 results today. Likely profit booking in Reliance will pare Sensex gains.

The technical indicators have improved some what, but they are not really holding out much bullish hopes. The MACD has moved up a bit in negative territory, but is still below its signal line. The ROC has smartly crossed above its 10 week MA, but is in negative zone. Both the RSI and the slow stochastic have emerged from their oversold zones, but are well below their 50% levels. More consolidation within the rectangular trading range can be expected.

NSE Nifty 50 index chart

The old saying: ‘Beauty is in the eyes of the beholder’ may well apply to the state of the NSE Nifty 50 index chart pattern. The bulls may justifiably celebrate the fact that the index closed above its 50 day EMA for the first time in nearly three months.

The bears will be quick to point out that the index is still within its 10 weeks long rectangular trading range, and the highest trading volumes during the week occurred on the two down days (Tue Oct 11 ‘11 and Thu Oct 13 ‘11). A sign of distribution?

The technical indicators are looking bullish, but with some warning signs. The MACD is trying to enter positive territory after crossing above its signal line. The ROC has already entered the positive zone after crossing above its 10 day MA, but has started slipping. The RSI has risen above its 50% level. The slow stochastic has climbed a bit too quickly into its overbought region. A correction may be round the corner.

Inflation remains stubbornly high, which means another rate hike by the RBI is almost inevitable. The UPA government is bereft of ideas about what to do to stop the visible slide in economic growth. Good Q2 results from Infosys pepped up the market last week. RIL’s results is likely to stifle the bullish fervour.

Bottomline? The BSE Sensex and the Nifty 50 index chart patterns appear to be stuck in their rectangular trading ranges. A market trend is supposed to remain in force till it gets reversed. Both indices have been in down trends for more than 11 months. As yet, there are no signs of a trend reversal. Stay on the sidelines, but spend your time fruitfully by studying annual reports in detail. 

Gold and Silver Chart Patterns: end of long bull rallies?

Gold Chart Pattern

In an update to gold’s chart pattern two weeks ago, the following conclusion was drawn:

‘The present correction/consolidation – whatever it may turn out to be – should restore the technical health of gold’s chart for the next up move.’

The expected drop to 1600 from the double-top at 1900 happened quickly, and gold’s price has been consolidating in a narrow range of $50 since then. It is beginning to look like the next up move may take a while, and gold’s price may dip further – possibly to the 200 day SMA (at about 1520) - before a sustained rise can begin again.

Note that the 200 day SMA is still rising, with gold’s price trading above the long-term moving average. Technically, gold is still in a bull market. But extreme caution is advised about entering at this stage – since the yellow metal is trading below its 14 day, 30 day and 60 day SMAs. All three are likely to act as resistances on any up moves. Not to forget the valley level of 1750 (between the two tops at 1900), which should provide strong resistance to a price rally.

A fall below the 200 day SMA will also mean a 20% drop from its peak, and a likely trend reversal from bull to bear. If you are still holding and in profit, maintain a strict stop-loss at 1520.

Silver Chart Pattern

There are no doubts about the state of silver’s price chart pattern – it is in a bear market. It has dropped more than 20% from its peak and is trading below the 200 day SMA. The 14 day SMA has slipped below the long-term moving average. The 30 day and the 60 day SMAs have turned down and may cross below the 200 day SMA in the near future.

Why is silver faring worse than gold? The answer probably lies in the fact that silver is not something you just buy and lock up in a bank vault. It has several industrial uses as well. With global manufacturing in clear de-growth, industrial demand for silver is declining. (The fall in copper prices are also due to this same reason.)

If you are still holding, use any price rise to exit. On the down side, the next supports are at 24 and 20.

Gold and Silver Chart Patterns: an update

Gold Chart Pattern

On a closing basis, gold’s chart appears to be forming a bearish ‘double-top’ reversal pattern, with two tops at 1900. The ‘double-top’ will get confirmed only on a drop below the ‘valley’ between the two tops. That means a drop below 1750. At the time of writing this post, gold’s price is at 1780.

In case of a convincing drop below 1750, gold’s price can move down to 1600. There is also the likelihood of a bounce up from the 1750 level, in which case the ‘double-top’ will be negated and instead, a rectangular consolidation pattern will get formed.

Gold’s price is still trading way above its 200 day moving average (not shown on chart), which means the bull market is very much intact. The present correction/consolidation – whatever it may turn out to be – should restore the technical health of gold’s chart for the next up move.

Silver Chart Pattern

Silver’s price chart hasn’t made much headway since my previous post two weeks back. A slightly lower top at 43.50 has been followed by a steady slide below the 40 mark. Looks like the price is headed down towards the support level of 38.

That level coincides with that of the 60 day MA (not shown in chart), so silver’s price is likely to bounce up and provide an entry opportunity. A break below 38 should find good support from the rising 200 day moving average - currently at 35.

Stock Chart Pattern – SpiceJet (An Update)

What a difference a year can make! In the previous update to the analysis of the stock chart pattern of SpiceJet, I had mentioned about some fundamental changes in the company. The two most important ones were the replacement of financier Wilbur Ross by Kalanithi Maran of Sun TV fame (or, should I say notoriety?), and the departure of senior management personnel including CEO Sanjay Aggarwal.

Technically, the chart pattern was in a bull market – a long consolidation within a rectangle was followed by high volume break out to a new high of 79 – with a 100% gain in less than a year. A correction had ensued, but I had expected the stock price to recover and test its Jan ‘08 peak of 105. The analysis was concluded with the following notes of caution:

”Keep a trailing stop-loss and ride the bull. But remember that experienced airline hands have left the organisation. The new owners have political clout, which is great for wheeling and dealing but not so great for success in a complex and competitive industry which requires constant capital infusion, and globally doesn’t make much money.”

A look at the one year bar chart pattern of SpiceJet should convince readers that my warning was appropriate:

The stock couldn’t cross the 100 mark, reaching a top of 97.45 on Nov 8 ‘10 – which turned out to be a high volume ‘distribution day’ (a higher high but a close near the day’s low opening price). The subsequent correction took the stock price below the 50 day EMA, followed by a good recovery to a lower top of 92.70 on Dec 6 ‘10 – which turned out to be another high volume ‘distribution day’. That was the signal for bulls to exit.

A quick drop to the rising 200 day EMA was followed by a milder upward bounce and then a drift down to the 200 day EMA where the stock spent several trading sessions. The decisive break below the 200 day EMA on Jan 27 ‘11 led to increasing volumes as the stock dropped to the support level of 49 (the lower edge of the rectangular consolidation zone between Dec ‘09 and Jul ‘10).

Note the huge spike in volume as the stock breached the support of the 49 level (marked by the blue arrow) on Feb 7 ‘11. The high volume was a signal that the breached support would become a strong resistance. Shortly thereafter, the 50 day EMA crossed below the 200 day EMA (marked by the light blue oval) – the ‘death cross’ formally confirming a bear market. A pull back to the 49 level culminated with an intra-day breach on Feb 17 ‘11 – which was a ‘reversal day’ that provided another opportunity to sell.

Two more attempts at a pull back to the 49 level in Apr ‘11 were thwarted by the falling 50 day EMA. The stock has been dropping deeper into a bear market, touching a 2 year low of 19.30 on Aug 19 ‘11 that was an 80% correction from its Nov ‘10 peak of 97.45. The technical indicators are showing bullish signs, but it is a bear market rally that may attract more selling.

There is a well-known joke about the airline industry: If you want to become a millionaire in the airline business, you should start with a billion. Vijay Mallya’s Kingfisher Airlines is a classic example. SpiceJet is no exception – except for the brief period when the Ross-Aggarwal team was at the helm. The number of air-passengers are increasing day-by-day. That doesn’t mean that the business is a profitable one.

Bottomline? The stock chart pattern of SpiceJet is deep within a bear market, and in danger of becoming a penny stock. The DMK’s loss in the recent state assembly elections in Tamil Nadu has negated the considerable political clout of the Marans. Their only hope will be the appearance of a white knight who can bail them out. But don’t count on it. Get out if you are still holding.

Gold and Silver Chart Patterns: divergent directions

In my previous update of gold and silver chart patterns, both precious metals had bullish upward breakouts. Gold broke out from a rectangular consolidation pattern to touch the 1600 mark. Silver broke out from a symmetrical triangle pattern to reach the 40 level. However prices have taken divergent routes in the past three weeks.

Gold Chart Pattern

Gold’s price had risen almost vertically to the 1600 level, and I had expected a pullback to 1550 (the top of the rectangular pattern). The price did dip, but only to 1580, before resuming its rally. It has once again climbed almost vertically past its 14 day, 30 day, 60 day and 200 day SMAs to 1717 and is looking overbought.

The debt ceiling wrangle followed by S&P’s downgrade of US credit rating has caused a flight of safety to the yellow metal. According to data from the Commodity Futures Trading Commission, gold purchases leaped to more than 18 million ounces over the past month - from 8.4 million for the entire year up to July. Is it too late for investors to enter now?

Yes and no. No, if you believe the US and Eurozone economies will take a long time to recover, and the US dollar will continue to lose its value. Yes, if you think stock prices have come down to reasonable valuations can provide better percentage returns in the long-term.

If you are paralysed by fear because of the sudden, sharp fall in global equity markets, hold on to your cash. You are not in the correct mental frame to take rational buy/sell decisions. If gold forms only 5-10% of your portfolio allocation, past three week’s rise in price coupled with the fall in equities has probably pushed your gold allocation above the limit. Book part profits. If you are a new entrant enticed by the prolonged bull rally, wait for a dip below the 14 day SMA to buy.

Silver Chart Pattern

Silver’s sharp price rise was followed by a sideways consolidation during which it touched a high of 42 but slipped below the 14 day SMA to a low of 39. It is struggling to cross above the 14 day SMA, and may correct some more.

The dip may be used to buy. Conservative investors can wait for a convincing cross above the 42 level. The rising 200 day SMA indicates that the bull market is intact.

Stock Index Chart Patterns – S&P 500 and FTSE 100 – May 20, ‘11

S&P 500 Index Chart

The S&P 500 index chart consolidated for another week, as was expected from the weakening technical indicators. After touching a new intra-day high of 1371 on May 2 ‘11, which pierced the top edge of the Bollinger Band, the index has been trading within a downward sloping channel for three weeks.

The sharp drop below the 50 day EMA on Tue. May 17 ‘11 touched the lower edge of the Bollinger Band, but recovered quickly – just as it had done after dropping to an intra-day low of 1295 on Apr 18 ‘11. However, the rally fizzled out by Thu. May 19 ‘11 as the index approached the top of the downward-sloping channel. The S&P 500 index managed to close the week almost flat and above the 50 day EMA.

The technical indicators are not holding out much bullish hopes. The MACD is still positive, but falling below its signal line. The slow stochastic bounced up from its oversold zone, but is below the 50% level. The RSI is also below the 50% level. A test of the Apr ‘11 low of 1295 is likely.

Initial jobless claims were lower by 29000, but still remains above the 400000 mark. Housing permits and starts declined. So did existing home sales. People neither have the confidence, nor the buying power, to avail of the fire sale in the housing market. Sliding sales at Walmart stores is another sign of waning consumer confidence.

FTSE 100 Index Chart

The FTSE 100 index chart has been trading within a downward sloping channel for three weeks, after reaching an intra-day high of 6104 on May 3 ‘11. A sharp intra-day spurt to 6018, riding on the highest volumes of the week on Fri. May 20 ‘11, failed to break the down trend. The index closed 20 odd points higher on a weekly basis – almost exactly at the level of its 50 day EMA.

The technical indicators are suggesting that the corrective move isn’t over yet. The MACD is negative and below its signal line. The slow stochastic bounced up from its oversold zone but remains below the 50% level. The RSI is also below its 50% level.

The UK Business Secretary, Vince Cable, candidly admitted in a recent interview that the UK economy is in worse shape than what the politicians are making it out to be.

Bottomline? The chart patterns of the S&P 500 and FTSE 100 indices have been trading within downward-sloping channels for the past three weeks. Both indices are above their rising 200 day EMAs. That means the bull markets are intact. But there are dark clouds on the horizon. Time to use the ‘umbrella’ of partial profit booking.

Stock Index Chart Patterns – S&P 500 and FTSE 100 – May 13, ‘11

S&P 500 Index Chart

It was a week of consolidation for the S&P 500 index chart. It traded within a range of 28 points – between 1332 and 1360 – before closing flat for the week, just below the 1340 level. But the index managed to stay above the rising 50 day EMA.

The technical indicators have weakened some more. The MACD is positive, but falling below the signal line. The slow stochastic has dived below the 50% level and is headed towards the oversold zone. The RSI has dropped to the 50% level. More consolidation is on the cards.

The economic news is slowly getting better. Retail sales grew 7.6% during the past 12 months – thanks mainly to rising food and fuel costs. Producer Price Index (PPI) for finished goods rose 0.8% in April, after rising 0.7% in March and 1.6% in Feb ‘11. Initial unemployment claims declined 44000 from the earlier week, but continued claims rose by 5000. Exports are increasing and commodity prices are falling. No wonder University of Michigan’s Consumer Sentiment Index for May was higher at 72.4 against April’s 69.8.

FTSE 100 Index Chart

Last week, the weakening technical indicators of the FTSE 100 index chart had suggested a period of consolidation. The index oscillated about the 50 day EMA before closing 50 points lower on a weekly basis.

The technical indicators are turning bearish. The MACD is below the signal line, and on the verge of entering negative territory. The slow stochastic is headed downwards below its 50% level. The RSI is resting at its 50% level. Should the FTSE 100 index drop below the May 6 ‘11 low of 5872, a bearish pattern of lower tops and lower bottoms will be formed.

Manufacturing growth is flagging. GDP growth is almost nil. The austerity measures by the government seem to be stalling hopes of a quick economic recovery. 

Bottomline? The chart patterns of the S&P 500 and FTSE 100 indices are consolidating after the previous week’s correction. Stay invested but remain watchful about a deeper correction. Risk averse investors can take some profits home.

Stock Chart Pattern - Larsen and Toubro (An Update)

When I updated my analysis 10 months back, the stock chart pattern of Larsen and Toubro had been consolidating within a rectangular band between 1300 and 1750 for a year. I had advised readers to stay invested even though the stock seemed to be going nowhere. The very next day after my post on Jun 16 ‘10, the stock broke out above the year-long trading range on a smart rise in volumes (marked by blue oval).

The timing was fortuitous. Rectangular consolidation patterns are usually continuation patterns. The trend (in this case, up) before entering the pattern tends to resume after the break out. Let us check out the 2 years bar chart pattern of Larsen and Toubro to identify some classic technical signals:

The volume spiked up during the upward break out – which it should, otherwise the break out may be a ‘false’ one. The stock price pulled back to the upper edge of the rectangle – as often happens after a break out – and then quickly rallied 200 points. It touched a high of 1949 on Jul 26 ‘10, which turned out to be a ‘reversal day’ (higher high, lower close).

A sharp correction dropped the stock below its rising 50 day EMA, but the stock stopped short of testing support from the upper edge of the rectangle. The next leg of the rally reached a new high of 2117 on Oct 4 ‘10. Another ‘reversal day’ pattern led to a quick correction down to the 50 day EMA. A final bullish spurt took the stock price to a new two-year high of 2212 on Nov 4 ‘11. But the stock failed to test its previous bull market high of 2335 touched in Nov ‘07.

Note that as the stock price rose towards its 2 year high, three of the four technical indicators made ‘lower’ tops and one made a flat top (marked by blue arrows). The combined negative divergences was an advance warning of a likely correction. But the severity of the correction caught many investors by surprise.

The stock first fell below the 200 day EMA in Jan ‘11 and after a brief hesitation, dropped back into the rectangular consolidation zone. On Feb 10 ‘11, Larsen and Toubro’s stock fell to a low of 1463 – a 34% correction from its peak of 2212, underperforming the Sensex which corrected only 18%. Fortunately, the stock formed a ‘reversal day’ (lower low, higher close) pattern and climbed up quickly – only to face strong resistance from the support/resistance level of 1750.

Another sharp correction reached a slightly higher bottom of 1481 on Feb 25 ‘11, followed by an intra-day high of 1933 on Mar 7 ‘11 – but the stock closed down inside the rectangle and slid down to a slightly higher low of 1503 on Mar 21 ‘11. The subsequent month-long rally has several bullish signs:

The stock is trading above both its 20 day and 50 day EMAs; both EMAs are rising and the 20 day EMA has crossed above the 50 day EMA; the down trend line connecting the Nov ‘10 and Jan ‘11 tops has been broken; the support/resistance level of 1750 and the falling 200 day EMA were breached on intra-day basis twice; the bullish pattern of higher tops and higher bottoms continue from the low of Feb ‘11.

All these bullish signs are negated by the fact that Larsen and Toubro’s stock price is yet to close above the 1750 level or the 200 day EMA since it fell below both in Jan ‘11. Unless the stock closes convincingly above both (i.e. by more than 3%), the bears will dominate.

The technical indicators are showing weakness. The MACD is positive and above its signal line, but has stopped rising. The ROC is still positive, but is below its falling 10 day MA. The RSI and slow stochastic are above their 50% levels, but both have dropped from their overbought zones. The stock may consolidate within the rectangle for a bit longer.

Bottomline? The stock chart pattern of Larsen and Toubro seems to have found a bottom and is gathering strength to return to a bull market. The sale of its electrical products division to Eaton will bring in a massive amount of cash to the company. If Q4 results disappoint, the stock may dip further. That will be a good opportunity to enter/add. Risk averse investors should wait for a clear break out above 1750 to buy.

Stock Chart Pattern - Exide Industries (An Update)

Back in Jun 2010, the stock chart pattern of Exide Industries had outperformed the Sensex by going past its Jan ‘08 bull market high of 91, and was consolidating in a rectangular range between 105 and 128. Consolidation patterns tend to be continuation patterns. That means, the direction in which the stock price was moving prior to entering the consolidation range is resumed after the break out from the range.

Just to make things a little confusing, some times consolidation patterns can be reversal patterns as well, and there is no way of knowing what will happen beforehand. Those who can take some extra risk can trade such ranges. For investors, it is always better to wait for the break out before taking a buy/sell decision.

Let us have a look at the one year bar chart pattern of Exide Industries:

The stock dropped below its rising 50 day EMA and touched its 52 week low of 109 on May 25 ‘10, but stopped short of its rising 200 day EMA. A strong rally, backed by good volumes, quickly moved above the 50 day EMA and cleared the resistance level of 128. The stock went up to touch a high of 137 on Jun 29 ‘10, but it turned out to be a ‘reversal day’ pattern (higher high, lower close).

A pullback below the 128 level found support from the rising 50 day EMA, and the rally resumed with good volume support during July ‘10. Volumes receded during Aug ‘10 as the stock price consolidated within a ‘flag’ pattern (blue parallel lines), but picked up again as the stock embarked on the final leg of the rally.

However, as the stock reached new highs in Sep and Oct ‘10, three of the four technical indicators touched lower tops (marked by blue arrows) - negative divergences that warned of a correction. The stock reached a high of 180 on Oct 12 ‘10 – a 65% gain from the 52 week low of 109 in less than 5 months – but it formed a ‘reversal day’ pattern.

The correction down to the 50 day EMA was swift, but the bulls managed to avert a deeper correction for almost three months by using support from the 50 day EMA. The inevitable happened in Jan ‘11. Selling pressure led to a sharp correction below the 200 day EMA, followed by a strong upward bounce that was resisted by the falling 50 day EMA. This time, the stock fell below the 128 level to an intra-day low of 112 on Jan 31 ‘11 – a big fall of 38% from the Oct ‘10 top. It still remained well above its Jan ‘08 bull market top of 91.

By the time the 50 day EMA fell below the 200 day EMA (‘death cross’ - signalling a bear market) on Feb 16 ‘11, the recovery was well on its way. The stock moved above the 128 level, breached the 200 day EMA intra-day on Mar 4 ‘11, pulled back towards the support/resistance level of 128 and then rose smartly above both the 50 day and 200 day EMAs, back into bull territory.

Today’s (Apr 6 ‘11) intra-day peak of 154 was the exact 61.8% Fibonacci retracement of the fall from 180 (Oct 12 ‘10) to 112 (Jan 31 ‘11). One can expect the bears to put up a fight here. The technical indicators are hinting at that possibility. The MACD is positive and rising above its signal line – but it is a ‘lagging’ indicator. The ROC is positive and well above its 10 day MA, but is turning back. The RSI briefly entered its overbought zone, but has made a lower top. The slow stochastic also entered its overbought zone, touched a lower top, and is reversing. A correction down to the 200 day EMA or 50 day EMA is likely.

Bottomline? The stock chart pattern of Exide Industries has recovered very well after 5 months of correction. It is currently facing technical headwinds, but remains fundamentally strong. Good topline growth, positive cash flows from operations, low debt/equity ratio, regular dividend payments and ample reserves makes this stock an ideal portfolio selection for small investors. The company is a market leader in the auto-ancilliary space, and is a possible bonus candidate. Valuations are not cheap, plus margins are under pressure. Use dips to add.

BSE Sensex and NSE Nifty 50 Index Chart Patterns – Mar 18, ‘11

Despite concerns over inflation, oil prices and the catastrophe in Japan, Indian stock indices had remained quite resilient till mid-week. The inflation number came in higher than expected, and the RBI had no choice but to increase the repo and reverse repo rates by another 25 bps (0.25%).

Many market players were hoping that the RBI won’t increase rates because there were signs that the economy was beginning to slow down. Readers of this blog had been warned: ‘If the RBI hikes interest rates next week, the bears may use that as a trigger to sell.’

BSE Sensex Index Chart

Oil prices rose above the $100 mark again, which compounded the problem of the interest rate hike. India’s weightage in the MSCI index was reduced, and FIIs – not surprisingly – turned net sellers. The 18050 level, which had supported the Sensex for the previous 12 trading sessions, was decisively broken on Fri. Mar 18 ‘11.

Both the 50 day and 200 day EMAs have fallen within the consolidation zone between 17300 and 18700, and they are ensuring that the upside remains capped. A test of support from 17300 is almost inevitable. Whether the support will hold or not is the bigger worry for bulls. A break below could take the Sensex down to 16000.

The technical indicators are bearish. The MACD is negative, and has drifted down to touch its signal line. The ROC has dropped below its 10 day MA into the negative zone. The RSI is slipping down towards its 50% level. The slow stochastic is just below its 50% level.

The Sensex correction is in its fifth month with no sign of a trend change yet. Still I am getting requests about which stocks to buy. The Sensex is technically in a bear market, and you make money in a bear market by selling short. That is not a strategy recommended for small investors. Better wait for the trend to turn bullish.

Nifty 50 Index Chart

Many analysts and TV experts were convinced that 5400 was a ‘strong support’. One such expert mentioned the huge open interest at 5400; another went on record that the support was strong because it had been tested a few times. Supports (and resistances) don’t become stronger if they are tested in quick succession. They become weaker.

The other thing to note is that 5400 is the mid-point in the consolidation range between 5200 and 5600, and can be used as a ‘line of control’ by short-term traders. Sell when the Nifty moves above 5400 and buy when it falls below.

5200 is a stronger support because it has been tested only once about a month back. That is no guarantee that the support will hold the next time it is tested. A break below 5200 could see the Nifty testing 4800.

Global indices have been correcting due to the twin effects of high oil prices and likely supply-chain disruptions due to factory closures and port destructions in Japan. The barely visible economic growth rates in Europe and USA are facing headwinds again. Gold price has started to rise as appetite for risky assets gets reduced.

Bottomline? The chart patterns of the BSE Sensex and Nifty 50 indices continue to consolidate within trading ranges. Short-term traders can make some money by trading the range. Long-term investors should use such periods to learn patience, and read books about fundamental and technical analysis (links on the right panel of this blog).

BSE Sensex and NSE Nifty 50 Index Chart Patterns – Mar 11, ‘11

Last week, I had mentioned that the post-budget relief rally had helped the bulls to keep the ‘death cross’ at bay. But the inevitable happened. High oil prices and inflation concerns led to FII selling, and the 50 day EMA slipped below the 200 day EMA on the Sensex and Nifty charts. The devastating earthquake and tsunami in Japan added to the selling pressure in an already weak market.

BSE Sensex Index Chart

What is heartening from a bullish point of view is that despite negative news flows and bearish investor sentiments, the Sensex hasn’t really cracked. It completed six weeks within the consolidation range between 17300 and 18700, and is likely to spend some more time within the range. Will the support from the 17300 level hold?

As per the theory of consolidation patterns, the answer is ‘No’. Consolidation patterns tend to be continuation patterns. In other words, the previous trend – which was down - will continue after the consolidation is over. Note that last week’s brief up move found resistance from the falling 50 day EMA. Both the 50 day and 200 day EMAs have dropped within the trading range and may thwart any up moves.

The technical indicators are still giving mixed signals. The MACD is above the signal line, but remains in negative territory and has stopped rising. The ROC has moved above its 10 day MA into the positive zone. The RSI has dropped to its 50% level. The slow stochastic has started retreating after reaching its overbought region.

Nothing is sacrosanct in technical analysis. So watch the 17300 level closely. A high volume upward bounce may just get the buying support to break above the consolidation range. A more likely outcome is a break below 17300 and a test of the May ‘10 low of 16000. If the RBI hikes interest rates next week, the bears may use that as a trigger to sell.

NSE Nifty 50 Index Chart

The Nifty traded within the range of 5200 and 5600 for the sixth week in a row. Note that volumes have begun to recede, and that means the index is likely to drift down towards the lower edge of the trading range. The technical indicators are not providing any clear direction, so the consolidation within the trading range may continue.

Industrial production figures were an improvement. Inflation has also started to moderate, thanks to the base effect. But such ‘good’ news is being ignored by the market, which is a bearish sign. The rising cost of oil imports with no increase in retail prices of petrol, diesel or kerosene means an additional subsidy burden. By postponing the FPOs of ONGC, SAIL and others in the pipeline, the government is worsening a bad situation.

The release of the biggest Income Tax defaulter and money launderer on bail is ridiculous. It points to his high level connections that may have been revealed if he was kept behind bars and interrogated. India is becoming a laughing stock in front of the international community, and tomtomming our GDP growth isn’t going to bring in FDI and FII money that we badly need to build our infrastructure and sustain growth.

Bottomline? The chart patterns of the BSE Sensex and Nifty 50 indices are still consolidating within a trading range. Investor patience gets sorely tested by such periods of consolidation. The medium and long-term trends are down, and the ‘death cross’ has confirmed a bear market. Long-term investors should maintain a strict stop-loss at the lower edge of the trading range. Short-term players can trade the range.

How much longer will the Sensex trade within a range?

That may be the question on the mind of many investors, as the Sensex has been trading between 17300 and 18700 for the past 5 weeks. The short answer is: I have no idea. It could be six weeks or six months. Buyers and sellers seem evenly matched. The post-budget rally appears to have come to an end.

What could be the triggers for the Sensex to move up?

1. The RBI may not increase interest rates on Mar 17. Since inflation remains a concern, another 25 basis points rate hike is being expected by market players. Ms K Morparia of JP Morgan said in a recent TV interview that she won’t be surprised by three more rate hikes of 25 basis points each. Not increasing the interest rate will be taken as a positive by the market.

2. Q4 results will hit the market in another 5 weeks or so. With higher commodity prices and higher interest rates, profitability of India Inc. is widely expected to take a hit. If results are flat, even if not better on a QoQ basis, markets may interpret that as a positive.

3. India is still dependent on good monsoons. Agricultural production gets a boost. That helps the rural economy to grow, and has a cascading effect on the economy as a whole. Signs of a good monsoon may shake the market out of its current gloomy sentiment.

What could be the triggers for the Sensex to go down?

1. Despite several rounds of interest rate hikes by the RBI, inflation continues be in double digits. Government spokespersons have run out of excuses. More rate hikes could bring the growth momentum to a screeching halt.

2. The unrest in North Africa and the Middle East has sent oil prices shooting up into three figures. Economic growth and high oil prices are a disastrous combination for stock markets. If oil prices remain high, India’s fiscal deficit and inflation may spin beyond control. As it is, artificially depressed kerosene and diesel prices is causing havoc to the finances of the oil companies. The real inflation rate is much higher than the published figure.

3. The FIIs have pulled out about $2 Billion from the Indian markets in 2011. This amount is less than 10% of what they invested in 2010. Still the Sensex lost 18% from its Nov ‘10 peak. The relative valuations of the US and Europe markets are cheaper. If the FIIs continue with their selling and pull out another $2 Billion, the Sensex could test its May ‘10 low of 16000.

Looks like the sideways consolidation in the Sensex may continue for a while longer. As I have mentioned several times before, investors should not get too bogged down by Sensex movements. When the market is unexciting and boring, it may be a good time to take a vacation and catch up on your reading. If you have already read books by Graham, Lynch, Fisher, Pring – read them again. You will understand many things that you missed when you read those authors for the first time.

Stock Index Chart Patterns – S&P 500 and FTSE 100 – Mar 04, ‘11

S&P 500 Index Chart

The S&P 500 index consolidated within a 30 point range last week, before closing almost flat on a weekly basis. The index went down towards the lower edge of the Bollinger Band on Wed. Mar 2 ‘11 before recovering a bit. The band has narrowed, which could lead to an up move this week.

The technical indicators are giving mixed signals, which is often the case during consolidation periods. The MACD is still positive, but remains below its falling signal line. The RSI has dipped below the 50% level, after a failed effort to move above it. The slow stochastic has risen above the 50% level. The 50 day and 200 day EMAs are both rising with the index above them. The bull market is alive and well.

The jobs report was mixed. Unemployment rate has dropped below 9%, but there seems to be very little growth in private sector jobs. Retail figures aren’t too encouraging. Most worrying is the rise in oil prices due to the unrest in North Africa and the Middle East. As per a recent article, the most dangerous periods for equity markets are typically periods of strong economic activity combined with rapidly rising oil prices. Emerging markets are already facing the music. Will the S&P 500 follow suit?

FTSE 100 Index Chart

As expected in last week’s analysis, the FTSE 100 continued its sideways consolidation as it oscillated about its 50 day EMA. The lower edge of the Bollinger Band was pierced by the intra-day low on Wed. Mar 2 ‘11. The index may try to move up this week.

The technical indicators are not favouring the bulls. The MACD is negative, and below its falling signal line. The RSI is below the 50% level. The slow stochastic has moved up from the edge of its oversold zone, but remains below the 50% level. The 200 day EMA is still rising, so the long-term trend is bullish. Remain invested; watch for a break out of the trading range between 5800 – 6100 before deciding on the next course of action.

Bottomline? The chart patterns of the S&P 500 and FTSE 100 indices are trying to recover from a correction induced by the oil price shock. The bull rallies have lasted for two years. It may be prudent to be cautious and book some profits. Maintain stop-losses to preserve profits.

BSE Sensex and NSE Nifty 50 Index Chart Patterns – Mar 04, ‘11

In last week’s post, the possibility of a post-budget rally was mentioned. It was more of a relief rally, since the budget didn’t turn out to be either negative or positive. The FIIs were net buyers for a few days. Short-covering added fuel to the rally. Is it time for the bears to retreat? Far from it.

BSE Sensex Index Chart

Bulls will be happy that the Sensex managed to close above the 20 day EMA, and breached the entangled 50 day and 200 day EMAs on intra-day basis on Fri. Mar 4 ‘11. It also reached a slightly higher top. The rally managed to keep the ‘death cross’ (50 day EMA dropping below the 200 day EMA) at bay.

Bears will point out that the upper edge of the Bollinger Band had been touched, Friday’s bearish ‘reversal day’ pattern (higher high, lower close), resistance from the 50 day and 200 day EMAs and failure to close above the support zone.

The Sensex has been trading within a range of 17300 and 18700 for 5 weeks, and is poised at an interesting cross road. Technically, the resistance from the 18500 level and the 200 day EMA has not yet been broken. Further consolidation within the trading range is likely. Watch for support from the lower edge of the Bollinger Band and the bottom of the trading range at 17300.

The technical indicators are giving mixed signals – not unusual during consolidations. The MACD is above its signal line and rising, but is still in negative territory. The ROC failed to move above its 10 day MA, reached a lower top and has slipped back into negative zone. The RSI turned down before it could reach the overbought zone. The slow stochastic is at the edge of its overbought zone.

NSE Nifty 50 Index Chart

The trading range of the Nifty 50 for the past 5 weeks has been between 5200 and 5600. The index faced strong resistance from the upper end of the trading range and the combined 50 day and 200 day EMAs, before closing just below the 5550 level. The technical indicators are giving mixed signals, which means that the consolidation within the trading range may last a while longer.

The budget uncertainty is out of the way. That was the probable cause of the relief rally. Whether the fiscal deficit can be kept below the 5% level is a moot point. The UPA government doesn’t seem to be trying too hard to curtail expenditure. The one-time cash inflows from the 3G auction won’t be repeated. The unrest in North Africa and the Middle East has sent oil prices soaring, and that certainly isn’t good news for the deficit.

Inflation is still high and the RBI may have little choice but to raise interest rates again. Already higher interest rates have increased the cost of doing business and begun to affect the profitability of India Inc. Till the fixed deposit rates in banks start going down, the stock markets may remain in a range. The short-term hedge fund types have started pulling out of India. The long-term FIIs and pension fund types have kept faith in India’s growth story.

Bottomline? The chart patterns of the BSE Sensex and Nifty 50 indices are consolidating within trading ranges. If the unrest in the Middle East doesn’t get resolved soon, high oil prices will stall India’s growth, and there is likely to be another leg downwards for both indices. The long-term and medium-term trend is down, but technically this is still a bull market correction. Stay invested.

Stock Chart Pattern - Dhanalakshmi Bank (An Update)

The stock chart pattern of Dhanalakshmi Bank had been consolidating sideways for 6 months within a rectangular band between 123 and 155 back in Apr ‘10, after making a bearish double-top at 178. The target of the double-top was met when the stock price fell to 130. By falling to 123, the stock retraced 39% of its spectacular rally from the low of 37 in Mar ‘09 to the high of 178.

The retracement was less than the Fibonacci level of 50%. The stock also found support from the rising 200 day EMA during the sideways consolidation. That led me to conclude that the bull market was intact, and the likely break out from the rectangular consolidation would be upwards. I had advised investors to buy only on a high-volume break out above 155.

Time to take another look at the bar chart pattern of Dhanalakshmi Bank. It is a text-book example of different technical chart patterns – consolidation, break out, divergence, support/resistance levels.

The sideways consolidation continued till early Jun ‘10 – the stock using support from the rising 50 day EMA, and testing the 155 level a few times. The inevitable happened on Jun 4 ‘10 – the stock broke above 155 on a volume spike, pulled back, consolidated sideways for a few days, and rose above its previous top of 178 on another volume spike on Jun 22 ‘10.

For the next 4 months, the stock made a series of higher tops and higher bottoms till it reached a new high of 212.50 on Oct 28 ‘10. Unfortunately for the bulls, it formed a bearish ‘reversal day’ pattern (higher top, lower close). Note that the MACD, ROC and RSI reached lower tops and the slow stochastic made a flat top while the stock touched a new high (marked by blue arrows).

The combined negative divergences hinted at a correction, which took the stock below its 200 day EMA to the 155 level in Nov ‘10. The pullback found resistance from the 200 day EMA, and the stock dropped like a stone to the 123 level in Dec ‘10. It is quite interesting how long-term support-resistance levels come into play in stock charts.

The ‘death cross’ (marked by blue oval) on Dec 16 ‘10 confirmed the bear market. On Jan 7 ‘11, the stock price broke below the support level of 123 and dropped to a low of 94 on Jan 31 ‘11. The correction from the peak of 212.50 was a huge 56% – and, in 3 months, retraced more than 67% of the entire bull rally of 20 months from 37 to 212.50. If the 94 level, which is another long-term support/resistance level, is broken the stock can drop to 74 or even lower.

The technical indicators have been making higher tops and bottoms of late. The MACD is above its signal line, but is still in negative territory. The ROC is below its 10 day MA and just inside the negative zone. The RSI touched its overbought zone, and dropped back but is above the 50% level. The slow stochastic briefly entered the overbought zone, but has dropped below the 50% level.

The bulls are attempting a revival. But things are not looking very bright. Even if resistance from the falling 50 day EMA can be overcome, the consolidation zone between 123 and 155 is likely to provide formidable resistance. The new management tried to expand too fast and finances and performance have been stretched.

The stock chart shows why investing in small-cap stocks is so risky, and why it is always a good idea to maintain a trailing stop-loss to protect profits. Ability to read technical signals provide adequate opportunities for entry and exit.

Bottomline? The stock chart pattern of Dhanalakshmi Bank is in the firm grip of bears. If you are still holding, sell on the next rise. This is not the time to be contrarian. Enter only after studying Q4 results. Yes Bank remains my preferred choice in the small-cap private bank space.