BSE Sensex and NSE Nifty 50 Index Chart Patterns – Jun 17, ‘11

The bears were determined to drive home their advantage from the previous week. Even though the repo rate hike of 25 bps by RBI was widely expected, I had mentioned the possibility of more selling in last week's post. Why? Because both the BSE Sensex and NSE Nifty 50 indices are technically in bear markets. Repeated interest rate hikes do not help the bullish cause.

BSE Sensex Index Chart

The only good news for the bulls was that the index tested but didn't break the support level of 17780. It may only be a temporary reprieve. All the technical indications are bearish.


The blue down trend line is under no threat of being breached. All three EMAs have turned downwards, and the Sensex is trading below them. Note how the falling 20 day EMA resisted all efforts at an up move during the week.

The MACD is negative and has slipped below its signal line. The ROC is also negative and below its falling 10 day MA. The RSI has dropped below the 50% level. The slow stochastic has entered the oversold zone. A fall below the Feb '11 low of 17300 can lead to a deeper correction.
 
Nifty 50 Index Chart

The level to watch in the Nifty chart is the Feb '11 low of 5180. There is a good chance that the Nifty will fall lower because there are no positive triggers for the market, and the FIIs have been net sellers.

Retail investors are almost out of the market, so the FII selling is being absorbed mainly by the DIIs. The question is: when will the FIIs resume buying? The US and European markets are sliding. So are the Asian markets. Commodity prices have already been bid up to high levels. The time-wise correction in the index is almost over. Valuations are no longer expensive.

There seems to be maximum pessimism around. Retail investors are fearful of a big fall. Good time to play contrarian, but one has to pick stocks carefully. 

Bottomline? The BSE Sensex and NSE Nifty 50 chart patterns are poised near important support levels. Things aren't looking good for the bulls. Both indices can lose another 2-3% from current levels easily. Stay out if you are a conservative investor. Any buying should be done with a 2-3 years time frame. 

RBI raises repo and reverse repo rates - again

Most economists and stock market analysts were expecting RBI to raise the repo and reverse repo rates by 25 basis points (i.e. 0.25%). So, the markets should have already 'discounted' the interest rate hike. Then why did the Sensex drop nearly 150 points to slip below the psychological level of 18000?

Before I attempt to answer that question, a little digression.

Many Indian working/earning men have different types of addictions. Some are addicted to tobacco. Some like to go to the races. Others like to hit the bottle. All such addictions cost money. And that money comes off from the top - i.e. before the monthly expenses are incurred.

In other words, to feed the addiction, needed monthly expenses have to be curtailed. Which doesn't make sense to any one - except the addicted person. Month in and month out, he blows money up in smoke (or in torn race tickets, or in drunken stupors), while bills remain unpaid. And then, money has to be borrowed to pay the bills - making a bad situation worse.

The RBI is facing a similar predicament. Time and again, they have raised the repo and reverse repo rates in a graduated bid to curtail inflation without hampering growth. Without much success. In fact, inflation rate has started climbing again. Why? 

The global downturn followed by the massive money printing (better known as Quantitative Easing - Part 1 & 2) 'exported' inflation to the developing countries like India, by buying up stocks in better performing markets. The Indian government has continued with wasteful expenditure - better known as 'subsidies' - which inevitably doesn't benefit ordinary citizens. 
 
Vote bank politics ensured that required financial reforms and tough fiscal policies were avoided (or at best, not pushed through). Prices of diesel and kerosene have not been increased with the excuse that inflation will climb even higher. Nor have the punitive taxes on petroleum products been reduced, which could have partly mitigated the price hike.

Lot  of sound bytes have been issued about curbing black money generation and bringing perpetrators to book. The fact of the matter is that the few arrests in the various scams have only come about due to prodding by the Supreme Court. The government departments and the ruling party remain the biggest sources of black money generation. 

No concrete improvements will happen in transparency and governance till the elected leaders reform themselves. All the talk about identifying account holders in Swiss banks has led to some of the black money getting re-routed through 'hawala' channels back into the country - further stoking the fires of inflation - and into real estate deals. Probably the reason why debt-burdened real estate companies are refusing to lower the prices of apartments and buildings.

And food inflation? That can be eliminated in one simple step - by allowing FDI in food retailing. All the apparent concern about 'kirana' stores going out of business is nothing but crocodile tears. There are too many middlemen with close ties to the one in Power (pun intended). The humongous wastage will be eliminated through modern refrigerated storage and transportation facilities. Removal of middlemen will be a win-win for farmers and consumers.

Sorry about that long rant. The point is, without appropriate fiscal and policy measures to support the RBI's monetary tightening, inflation is not going to come down any time soon. That is what came out of the RBI's statement today. Which means more tightening and further increase in repo and reverse repo rates in future, while the governments 'addiction' remains uncured.

That is why the Sensex dropped. 

How to Short Strangle a sideways market – a guest post

In last month’s guest post, Nishit explained how options can be used to hedge your stock portfolio against potential losses. It can be a useful tool, provided you learn how to use it properly. The added advantage is that you need not sell off your holdings, if you are properly hedged.

What happens when a stock market is not going anywhere? Taking two steps forward and three steps back? Nishit presents a neat strategy that can make money in a sideways market. If you like what you read, or have a question, please leave a comment for Nishit.

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The markets are trading sideways for the past several days. How do Option Writers benefit from this?

As explained last month, Options are perishable commodities. They are a factor of price value and time value. For example, if Nifty is at 5550 and 5500 Call Option is trading at 110 rupees, 50 rupees is the intrinsic value and 60 rupees is the time value. Time value is value of time left till expiry when the Option will be squared off at the market price. The extra premium is with the expectation that the price will move up by at least 60 rupees till expiry.

Introduction on Options as below:

http://money-manthan.blogspot.com/2010/12/introduction-to-options-part-1.html

Options are bought by people and those people who sell Options are known as Option Writers. Why would people write options? Option Writers always make the maximum money and they are often big institutions.

In a sideways market, one can have a Short Strangle. What does this mean? The Nifty is now near 5400 and trading in a band between 5350 and 5600. The days to expiry are 2 weeks. One can write the 5300 put at say 60 rupees and 5600 call at 50 rupees. By writing these 2 Options we can get 110 rupees as premium.

Can we make a loss?

If the Nifty goes below 5300 or above 5600 we start making losses, in the sense that we will have to pay out money at expiry. We had received 110 rupees as premium so theoretically we are safe between 5190 to 5710. At the most we will make no loss and no profit.

Also, once the direction becomes clear we can either short Nifty or buy Nifty to cover the direction whether we are making a loss. Thus one side we take in the entire amount as profit.

Writing of Options should be done keeping the technical levels in mind and not in isolation.

One more way of deploying cash balance is at the end of the month. About 4 - 5 days from expiry, write Calls about 200 points above current market price. The price of each Call would be about 10 rupees after removing the brokerage.

Now, a margin of 1 lakh will allow you to write 4 lots which will bring in about 2000 rupees. Doing it every month for 12 months, will bring you 24000 or about 24% return on capital deployed.

The Caveat Emptor here is that one should keep technicals in mind and not blindly write calls. Also, calls are much safer to write than puts as sharp rise in price is never sudden as against a sharp fall due to news events.

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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.)