Why Indian investors should look at Emerging Market ETF charts

Indian investors have been worried about why the FIIs are pulling out of emerging markets and redeploying in developed markets. Some say that the relative valuation difference between emerging markets and developed markets is the real cause. Others are of the opinion that this is not a flight of capital but routine profit booking. There is another school of thought: the turmoil in North Africa and the Middle East has pushed up oil prices and made emerging markets riskier.

There is no doubt that FII selling in emerging markets has affected the Indian stock market indices. The series of scams – be it the inflated costs for the Commonwealth Games, or the telecom 2G spectrum allocation, or the various scams involving real estate development – seems to have shaken the confidence of the FIIs. The rising inflation rate, leading to a steady rise in interest rates, has increased the cost of doing business.

When and how will this situation get turned around? Politicians, government officials and the real estate mafia are not going to turn into honest and law abiding citizens overnight. Nor can inflation be curtailed by pressing a button. Who knows where the Middle East turmoil will be heading? In other words, the uncertainty overhang can not be wished away. And stock markets hate uncertainty.

Is the current fall in the Sensex and Nifty 50 a good buying opportunity? Will prices become even more attractive if one waits? How can an ordinary small investor decide what to do in uncertain circumstances? When fundamental analysis can’t provide clear answers, one has to look elsewhere.

Given below are the one year closing charts (in blue) of two Emerging Market ETFs traded in the US market – the iShares MSCI Emerging Index ETF (EEM) and the Vanguard MSCI Emerging Markets ETF (VWO). Superimposed on the two charts are the BSE Sensex chart (in green) and the S&P 500 chart (in red):

Since both the EEM and VWO ETFs track the MSCI index, their chart patterns are similar. The BSE Sensex was the clear outperformer during the period Jun – Nov ‘10. EEM and VWO ETFs caught up and outperformed the Sensex during Jan – Feb ‘11, even as they corrected down. Percentage profit booking in the Indian indices exceeded the selling in the MSCI emerging markets index.

During Feb ‘11, the S&P 500 has been the outperformer, but the gaps between the S&P 500 and the two emerging market ETFs are reducing. It is interesting to observe that the recent rallies in EEM, VWO and the Sensex have coincided with profit booking in the S&P 500.

Indian investors would do well to track the EEM and VWO ETFs for signs of FII investments returning back to emerging markets. Without FII buying support, the Indian markets are not going to move up any time soon.

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.

Why is the stock market so excited about an unexciting budget?

These are the irreverent views of a non-economist. Take them with a pinch of salt.

It isn’t bad, so it must be good

There was a lot of uncertainty surrounding the budget this year. Rising inflation was not contained even after several interest rate hikes by the RBI. Higher interest rates were beginning to slow down Indian Inc’s growth momentum. Some tough tax measures were expected from the Finance Minister (FM). None came. The markets heaved a collective sigh of relief.

Shorts got trapped

The four months long correction in the stock markets had turned sentiments negative. All attempts at pullback rallies were getting sold into. The FIIs were selling heavily and redeploying in their home markets. Several experienced players were shorting the market. The unexpected surge in the indices on Budget Day was mainly due to short covering.

Auto sector gets an indirect boost 

A 2% excise duty cut was offered to auto makers a couple of years back as part of the economic stimulus. A roll back was discounted by the market. The FM left the excise duty unchanged. Feb ‘11 auto sales numbers have shown decent growth. Auto stocks soared on this twin good news.

Smart move from ITC

An increase in excise duty for cigarettes and other tobacco-related products was widely expected. In anticipation, ITC had increased the prices of some of its most popular brands prior to the budget. No such increase was announced by the FM. Don’t expect your pack of smokes to get cheaper. ITC’s bottom line will be a direct beneficiary.

Not so great for Mukesh Ambani

By transferring his shareholding in Reliance to a clutch of Limited Liability Partnership (LLP) companies, Mukesh Ambani ‘legally’ avoided paying income and other taxes (such as dividend distribution tax). LLPs have been brought under the purview of 18.5% MAT. Bad luck for big brother – he has to now pay taxes like a mere mortal! If only he had known earlier, he may not have built the ostentatious eyesore he calls home.

Reduced surcharge on corporate taxes

This would reduce cash outflows, and is a definite positive. Hopefully, the extra cash will get channeled into expansion activities and help to increase GDP growth. Investors may get rewarded with higher dividends.

Tax benefits for senior citizens

By reducing the qualifying age for a senior citizen from 65 to 60, several lakh tax payers will be able to avail higher tax exemptions. Some of the extra tax savings are likely to find their way into MFs and equity.

Does all this justify a 600 point rise in the Sensex today? Is the correction over? Should investors start buying again? Answers to these questions will become clearer over the next few days – now that the uncertainty about budget proposals are behind us.

Don’t let relief cloud reality. There has been little change in the global or local situations. Uprisings continue in the Middle East. Higher oil prices will further stoke the fire of inflation. Get set for another interest rate hike. FIIs were net sellers on Budget Day. The Sensex and Nifty are near strong resistance zones.

Stick to your asset allocation, and don’t get swayed by short-term index moves.