Nifty and (no) confidence vote

I received an email from a reader last month regarding analysis of Nifty.

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Date: Tue, 17 Jun 2008 11:00:25 -0700 (PDT)
From: ratika dewan
Subject: Re: require help
To: Sundaramurthy Vadivelu

Sir,

Thank you for your reply.

For my thesis I am concentrtaing on the following as of now:

• Since the objective of my thesis is to figure out the direction in which the market is headed, my main focus will be on secondary data (economic indicators - GDP growth, Inflation etc. and the share prices)...
• Ideally have choosen a broadbased index ( NSE Nifty 50 Index) and need to analyze the indicators of volatility and movement for the market...
• Also I have been asked to read up on forecasts for corporate earnings for the coming year as well as indicators of the US economy etc...
• The whole idea is to be able to link up all these parameters and how they would impact the bullish or bearish outlook in the market.

Sir, from your analysis report I hold you in high esteem and find you worthy of helpin me.

It would be nice if you could give me some information about the above points and guide me on what are the other things I could do. Sir could you let me know how could I create some charts based on the above or from where do I get them.

I would appreciate your valuable suggestions and informations.

Thanking You,

Yours faithfully,

Ratika Dewan.

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This is what I wrote as a reply to this mail:

Stock market, like any other market, is governed by the fundamental principle of demand/supply gap. Stock prices will go up when buyers are willing to pay higher or more buyers want a stock. Prices will fall when supply increases or the crowd wants to dispose the stock.

Technical analysts believe that price of a stock on any given period discounts all other socio-economic factors like political situation, inflation, earnings, GDP, P/E etc. A profit making company's stock may remain stagnant while a loss making company's stock may go up on the expectations of takeover, buyback, merger etc.

You may visit some financial web sites like moneycontrol for corporate earnings. Those figures will have no impact on indices or stocks.

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Technical analysts always concentrate on price action rather than other events that are 'likely' to affect the stock market.

In today's The Hindu Business Line, under 'Index Outlook' plenty of importance has been given to the (no) confidence vote on 22nd July.

"Since we are faced with a confidence vote next Tuesday, the stock markets are likely to be volatile in the run-up to and following the motion. A range between 13000 and 14000 is likely before the trust vote is placed before Parliament. A euphoric reaction on the UPA winning the vote will give the upper targets at 14677 or 15330. If the vote results in the dismissal of the Government, a knee-jerk reaction can give the lower target to the index at 12160 or 11800. Needless to add, that long-term investors should use such a plunge to go on a shopping spree."

Everyone is entitled to his or her opinion and so is the newspaper and the author of the article. But what does the technical charts of Nifty suggest? Let's review the short term chart first.

In my previous post "Will the bulls be able to win the battle?" we saw about the "pennant" formation and arrived at a likely bearish target of 3220 for the Nifty. I need to mention here that chart patterns develop over weeks and months and it is not possible to set a specific timeframe for achieving this target. On July 16 the Nifty reached a low of 3790.

The daily chart of Nifty is shown below.



As you can see from the above chart, Nifty has made a lower low of 3790 on July 16 thus breaking its previous low of 3848 achieved on July 2. The MACD (moving average convergence/divergence) on the other hand, has made a higher low, leading to "positive divergence". This means that the short term trend for Nifty has changed from bearish to bullish. It can also be seen that Nifty has managed to break and close above its resistance trendline, which is another important confirmation.

Now that Nifty has become bullish, what are the next possible targets? There are 3 possible scenarios:

1. The current rally may be expected to continue for a while since wave 1 has just started.
2. Nifty may witness a minor correction or sideways movement before further upward movement.
3. Nifty may have an extended rally (only to fall back again to support levels).

The next resistances for Nifty are the previous highs at 4216 and 4325. If Nifty closes above 4325 on a weekly basis one may expect even 4680. However, the bearish target of 3220 estimated previously still holds good due to the following reasons:

• The medium term support at 4002 has been broken for 3 weeks in a row but Nifty has just managed to close above it. The MACD histogram has shown positive divergence in weekly charts but the MACD Line has not. This means that one has to wait for another confirmation in the coming weeks.
• For the first time since April 2003 the Nifty had closed below its 21 period moving average in long term charts last month. This can be considered as a confirmation for the 'end' of the long term bull market.
• Though Nifty has closed above its 200 DMA, both 100 DMA and 50 DMA are well below the 200 DMA.
  

Therefore, we may conclude that Nifty has turned bullish for the short term however the uptrend may not be good enough to test the previous peak at 6357.

Select bullish stocks for the week:

• Agro Tech Foods Limited (123.05) : This stock has shown a positive divergence in daily charts. Targets of 140 and 160 may be anticipated.
• BPCL (284.40) : The stock is bullish and it formed a bullish three inside up pattern on July 17. Though it managed to break the resistance at 281 on July 18 volume was subdued. Watch out for volumes on July 21!
• Development Credit Bank (50.95) : This stock formed a bullish engulfing pattern on July 18 and next resistance is at 58.50. Breakout above this level may target 67.70.
• Power Finance Corporation (123.45) : It formed a bullish three inside up candlestick pattern on July 17. Close above 130.50 with volumes may take the stock upto 154.45.
• Voltas (126.25) : A bullish harami cross pattern has been formed on July 18. Close above 141.85 is likely to take the stock upto 151.50.

Public Sector Enterprises: Long term outlook

During the bull market that started in April 2003, many public sector companies’ stock prices have skyrocketed. Bharat Earth Movers Limited, which was trading around 56 in 2003 had touched 1850 recently. Investors who bought PSE stocks seven or eight years ago have been benefitted tremendously.

Now, is it wise to invest or continue to remain invested in some of the PSE stocks? Let us analyze from a long term perspective.

1 As on 31.12.04

The scrips mentioned above constitute the CNX PSE Index of National Stock Exchange. BHEL and SAIL top the list while MTNL and HPCL stand last as far as appreciation is concerned. Let us now discuss the long term outlook for these stocks.

Bharat Earth Movers:

This stock has formed a ‘double top’ in the monthly chart; it also failed to close above its previous high at 1788 on a monthly basis. Volumes have been subdued during the rally between July 2006 and December 2007. A doji was formed during December 2007 indicating indecision among traders. The double top formation along with negative divergence confirms a long term trend reversal.

Bharat Electronics/ Bharat Petroleum Corporation/Chennai Petroleum Corporation/ Indian Oil Corporation/ Mahanagar Telephone Nigam/ Mangalore Refinery & Petrochemicals/National Thermal Power Corporation/ Neyveli Lignite Corporation/ Oil & Natural Gas Corporation/Shipping Corporation of India/Steel Authority of India:

A bearish engulfing pattern was formed last month. A red candle with lower close at the end of this month will confirm the trend reversal.

Bharat Heavy Electricals:

A doji was formed in the monthly chart during November last year. This was followed by a red candle in December (bearish engulfing pattern) and another red candle in January this year. The 'three outside down' pattern thus formed is the indication of a long term trend reversal. ‘Exit on every rise’ is probably the best approach for the investors.

Container Corporation:

A bearish three outside down pattern was formed during October 2007. The support trendline was also been broken during November 2007. The long term trend has turned bearish.

Engineers India:

It has failed to close above the long term resistance at 1020 on monthly chart. It also broke the support trendline during March 2007. Lot of upper side volatility was observed last month, indicating that smart money has probably exited the stock.

Gas Authority of India:

No reversal signs have appeared in the long term charts. 341 should act as a strong support; if the stock closes below the support and doesn’t bounce back one may think of exiting at higher levels.

Hindustan Machine Tools:

The trendline support was broken during last October. Though the stock had closed above the long term resistance at 111.20 it was followed by a sell off, forming a bearish engulfing pattern. Also, a negative divergence in the long term charts indicates trend reversal.

Hindustan Petroleum Corporation:

The stock broke its resistance at 337.55 during December 2007 with volume. Even during the last month’s sell off the support at 198.20 was not broken. 416 and 543 will be the resistances for the stock when it resumes the uptrend.

National Alumnium Company:

A bearish harami pattern was formed last month. A red candle with lower close below 375 at the end of this month will confirm trend reversal.

Rashtriya Chemicals & Fertilizers:

A bearish dark cloud cover pattern was formed during last month. If the stock closes below 76.85 at the end of this month, it will confirm the trend reversal.

It can be seen from the above discussion that apart from Hindustan Petroleum Corporation other stocks have either turned bearish or in the process of becoming bearish.