The market has tanked since its January peak and volatility continues to remain high. However, the future trend is likely to be rangebound and a bear market will only get confirmed once key support levels are broken.
Unlike 2007, the current year has seen the bears take control. Barring a handful of stocks, a majority have seen the values decline substantially with some losing over 50 per cent since the beginning of the year.
Will the bulls bounce back or will the bears continue their stranglehold going ahead? Three technical experts delve into their charts and study economic cycles to forecast where the markets are headed and the outlook for various sectors. Read on to catch the trends.
BEARS HOLD SWAY
Devangshu Datta
The last six months have seen a classic bear-market and the downwards pressure on Indian equities has been accentuated by global slowdown and US mortgage crisis. Since the all-time peak of Nifty 6,347 was touched on January 10, 2008, the market has retracted 40 per cent to a recent low of 3,790.
What direction will we see in the next six months? That is one big question that everybody would like answered. The best way is to break it up into several smaller questions and try and derive answers to some of those. Just to recap, we’re seeing the following defining characteristics of a major bear market.
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All these things didn’t happen instantaneously, nor did they happen together. Some indicators led, some lagged. In order for a major trend reversal to take place, there will need to be reversals in these indicators.
Those variables won’t reverse instantaneously, nor will they reverse all together. But watch out for the above to start moving out of the red zone. A price movement that is unconfirmed by breadth will not be sustainable and the breadth may quite likely come before the price line confirms reversal.
In pure technical terms, support and resistance are difficult to read because the market has been heavily traded through the range of 3,700-6,000 in the past two years. Still we can say the 200 DMA is a key resistance level. That’s downtrending at the moment and between 4,750-5,100 (depending on how it’s calculated). Any major reversal must clear the 200 DMA. This entire zone between 4,750-5,150 will be intensely contested by bulls and bears.
Uptrend limits
Even above the 200 DMA, there is massive congestion history till 6,000. One level that has been very important is 5,500-5,600 – the market found support and hit resistance here on several previous occasions. That will be a huge resistance and the absolute limit of possible upsides in the next six months.
Even a movement above 4,800 would be an achievement and imply a major trend reversal. The problem is that big bear markets tend to last at least a year, often longer.
This phase started in late January – it comes at the end of a 42-month bull market.
In terms of time, the bear market hasn’t lasted long enough to counter-balance that long expansion where the Nifty climbed 390 per cent from 1,300-levels in May 2004. The retraction has been considerable but short bear markets tend to see bigger retractions.
The last major bear market lasted between February 2000-May 2003, that is 39 months, and made a retraction of 49 per cent from the February 2000 IT boom peak. The biggest retraction ever seen was the 67 per cent of market cap lost in the post-scam bear market from the April 1992 peak to the April 1993 bottom.
A short bear market tends to see more violent falls. In an odd way, one can understand this tendency better with recourse to a simple fundamental argument. Buying comes in at the bottom when valuations are attractive. If there is drastic price reduction, that happens quickly. With gradual price falls, earnings take a while to catch up and boost valuations.
Downtrend limits
If you do a Fibonacci analysis, 38 per cent retraction is one downside expectation. This has been exceeded. The next retraction level is 50 per cent (3,200) and then 62 per cent (2,400).
In terms of timeframes, the bear market has lasted 6 months where the preceding bull-run lasted 42 months. We could have a long while to go in terms of time but it is possible that support at 3,800 will hold. Pure technical analysis and Fibonacci calculations suggest that if, 3,800 is broken, the downside could be till 3,200 levels. Our maximum time expectations on the downside could be many months.
Bear market more likely
Amidst this whirl of possible scenarios, the bearish ones are more probable. I think we will see a bear market over the next six months because the political situation is volatile -here and globally and that has a negative impact.
If we stay in a bear market, 4,750 will be the upper limit and 3,200 the maximum downside though 3,800 is a good support. Our upside could be somewhere between 4,800-5,600 only with a major trend reversal.
Option expectations
We have another way of judging market expectations. Quite a lot of open interest (OI) is lodged in December 2008 options.
There is significant volume in the December 5,000p (premium782) and the December 5,000c (124). The lowest put with significant OI is the December 3,500p (145), while the highest call with significant OI is the December 5,500c (45).
Breakeven would therefore come at the outer limits of 3,350 (for the “most optimistic” put holders) and 5,550 (most optimistic call-holders). The consensus breakeven expectation (on high volume 5,000c and 5,000p) is between 4,200-5,125. These levels gel with the mini-max technical expectations.
Key sectors bearish
The key sectors to watch are IT and banking, which means the BankNifty and CNXIT need to be tracked with care. IT is a proxy for exports and banking is a proxy for the entire economy.
Both sectors have underperformed in 2008 and both look vulnerable technically. This also does not augur well for the chances of a bull market developing in the near-term.
Conclusions
You can make a case for a market that ranges between 3,200-4,800 if it stays bearish. It is quite possible that the market will continue to find support above 3,800 and range-trade through 3,800-4,800. If there is trend reversal that triggers a new bull market, we could see an upside till a maximum level of 5,600. A continuing bear market or a period of range-trading seems most likely in the next six months.
DOWN, BUT NOT OUT
Vijay L Bhambwani
The rally that began in May 2003 has seen tremendous wealth creation for some and wealth destruction for many. The reasons for this anomaly have been many. Latecomers have naturally missed out on the early momentum and those who participated early have added exposure exponentially on advances – thereby taking on higher and higher risks.
The moot question is how far will the markets decline before they go up again and more importantly, when? Fortunately for us, technical analysis through tools of time and price analysis help us forecast the market future on a time price continuum with a fair degree of accuracy. It may be noted however that these are guesstimates and cannot be treated as mathematical postulates.
The rally started on the Nifty spot from the 930 levels in May 2003 and terminated in January 2008 at 6,357, thereby gaining 5,427 points in 56 months. A study of basic Fibonacci retracements is an eye opener here – we have yet to even test the 50 per cent retracement of the entire upmove of 56 months, which is at the 3,643 levels.
Even if the rally was to correct by 50 per cent, it is by no means “dead”, because the 61.8 per cent retracement is still to be tested (which is at the 3,000 levels). Which is why, I have been of the opinion that the long-term bull market is alive and kicking. We should start feeling mildly worried only below the 3,640 levels and call it a structural bear market only below the 3,000 levels.
Till then, we are in a justified, routine and expected corrective phase of the 5-wave upmove between May 03 - January 08. You may choose to call it a cyclical bear market, but the structural bearishness is yet to descend upon us.
In terms of time frames, we touch upon two systems of forecasting – R N Elliot and J M Hurst. Elliot believed that the corrective phase after a 5 wave impulse was generally something that the bulls were not prepared for and would get hit hard (we know that by now!). The tenure of the correction would be the time frame of decline spanned by wave 2 or wave 4 whichever is longer. That gives us wave 2 between January 2004 - June 2004 or 6 months. Should this time frame be exceeded by an ongoing correction, the maximum possible timeframe for the correction is 0.618 times of the 5 wave upmove of 56 months – implying 34 months. It does not mean that the current decline must last for 34 months, we have merely outlined the maximum possible tenure of the decline. As per the Elliot theory, the 3,790 low made on July 16, 2008 becomes a level to watch. Should this level not be revisited, expect the markets to nudge higher. If violated, expect the correction to deepen and last longer (not necessarily 34 months though).
As per J M Hurst (the originator of the technical cycles theory), the markets move in waves which can be used on an empirical basis to project forward and estimate the next market bottom. Hurst preferred estimating bottoms rather than tops all parameters tend to come to “rest” at the troughs and begin again.
As per the Hurst theory, the next inflection point for a market bottom is toward the end of October 2008. Superimposing the two and taking into account various ancillary inputs from technical studies, I would bet my money on a decline lasting no more than October 2008 and a fall not exceeding the 3,600 – 3,650 band on the Nifty spot in that time period.
Going by the maxims of long-term investing even by technical parameters, one should start bargain hunting for stocks at these levels. As far as stock selection is concerned, be very stringent where you put your money to work – choose only those stocks which have appreciated 50 per cent and more compared to the Nifty’s gains in the last five years. That will automatically ensure that your money goes to work for you in market out-performers.
The five year benchmark performance requirement will ensure that you are insulated from short term vagaries of the markets. The sum and substance of the technical findings I arrived at was – equities are not dead!
The author can be reached at Vijay@BSPLindia.com
THE LATE ECONOMIC CYCLE
Mukul Pal
Our India 2007 outlook published 20 months back mentioned the word ‘late expansion’ eight times. The January 2008 outlook was a bit different. It used the word ‘top’ six times.
Well, you can say we should have tried harder to convince you to sell and reduce. We tried. We even used the words ‘reduce’ and ‘sell’ and mentioned, “reduce (holdings) in capital goods sector and look at pharma and FMCG majors” and “selling in strength is not easy”. There were a host of other indications given in October 2007 when we said, “the importance of cash before the crash cycle can never be overstated”.
But then, nothing is perfect. Stock market forecasting is no magic and selling in strength no joke. We managed to get a mix of rights and wrongs till now. So what did we get right? Banking and capital exhaustion leading to the market top was one. We mentioned about the $125 move on crude oil. Utilities, pharma and FMCG sectors were highlighted as outperformers. What we got wrong? Our projections on Sensex were off the mark by 13 per cent. We definitely could have bettered this. But then catching a euphoric top is an illusion. And above those tops are extremely volatile. It is like oil spurting more than $13 in the week of July 13 this year. This compared to the less than the $12 yearly move on crude oil for more than seven years (1991-1998) proves how insane markets can get at the tops. If a commodity like oil, the recession commodity, can bounce 10 per cent in a week, a 13 per cent error on Sensex suggests that tops are trickier than we think and that we did survive another one.
| HOW SENSEX STOCKS FARED | |||
| Companies | Current Price (Rs) | Change over (%) | |
| 12 months | 1-Jan-08 | ||
| ACC | 576.50 | (40.31) | (43.73) |
| Bharti Airtel | 819.00 | (5.09) | (17.65) |
| BHEL | 1756.50 | 5.61 | (32.03) |
| DLF | 520.15 | (11.02) | (51.56) |
| Grasim Ind | 1836.10 | (35.54) | (49.72) |
| HDFC | 2402.19 | 23.79 | (16.37) |
| HDFC Bank | 1107.30 | (4.69) | (35.91) |
| Hindalco | 140.75 | (11.56) | (34.49) |
| Hindustan Unilever | 235.15 | 16.58 | 9.93 |
| ICICI Bank | 642.10 | (27.96) | (47.90) |
| Infosys Technologies | 1640.10 | (15) | (7.26) |
| ITC | 187.70 | 12.33 | (10.75) |
| Jaiprakash Associates | 170.45 | 7.1 | (59.99) |
| Larsen & Toubro | 2692.40 | 8.34 | (35.46) |
| Mahindra & Mahindra | 523.70 | (24.5) | (39.16) |
| Maruti Suzuki | 560.50 | (31.73) | (43.39) |
| NTPC | 176.70 | 10.09 | (29.33) |
| ONGC | 996.85 | 12.72 | (19.38) |
| Ranbaxy Labs | 509.75 | 38.59 | 19.67 |
| Reliance Communications | 436.80 | (17.68) | (41.49) |
| Reliance Ind | 2299.75 | 27.91 | (20.18) |
| Reliance Infrastructure | 1010.60 | 37.07 | (52.66) |
| Satyam Computer | 391.15 | (16.72) | (12.91) |
| SBI | 1500.30 | 2.63 | (32.98) |
| Sterlite Ind | 632.65 | 1.71 | (38.86) |
| Tata Motors | 398.60 | (40.25) | (46.29) |
| Tata Power | 1116.50 | 59.28 | (24.10) |
| Tata Steel | 680.65 | 23.5 | (27.19) |
| TCS | 839.25 | (24.78) | (22.53) |
| Wipro | 432.60 | (9.06) | (17.69) |
| Current price: Adjusted closing price | |||
The late economic cycle (LE), as we have mentioned before has clearly defined characteristics. It consists of materials, staples, energy, utilities and pharma. In this stage, all credit related and early economic (finance, banking and discretionary) and mid economic (industrials) growth takes a hit.
Banks, insurance, brokerage and realty sectors slowdown. This result in lower discretionary spending, IT, telecom and respective sub sectors also suffer. Look at the worst BSE 500 performers year to date.
The prominent names that appear in more than 60 per cent decay screens are Ansal, Unitech from realty, Motilal Oswal, Edelweiss Cap from financial services, Moser Baer and CMC from technology and Network 18 and Adlabs from media and entertainment.
Auto and auto ancillary may not figure prominently in the sub-60 per cent list, but the stocks are there when you raise the filter a bit higher to 50 per cent. Tata Motors is the second worst loser of the BSE 30 at a negative 42 per cent.
During LE, while a section of the market is under extreme supply pressure as markets punish the early (EE) and mid economic cycle (ME) leaders, food, beverage, utilities and pharma sectors hold ground as cash attempts to conserve. These consumer stocks hold relatively steady in good and bad economic times. Their perceived value only gets noticed in downturn cycles.
Ranbaxy and HLL at positive 17 per cent and 12 per cent are the only two positives in Sensex for this year. And for the last 12 months, power companies, Reliance Infrastructure, Tata Power, and NTPC make to the positive list. As market slows down, utility companies’ low-margin earnings seem to shine on the otherwise murky broad earnings outlook. This utility outperformance was also highlighted by us, a year back in ‘Utilities remains useful’.
A three-way classification between EE, ME and LE filters out 12 Sensex stocks for the LE sector. 9 out of these 12 stocks are positive for the last 12-month period. And the top Sensex performer is Tata Power. The stock delivered 100 per cent relative gain over the worst Sensex component ACC which clocked a negative 45 per cent. Energy also falls in the late economic cycle and witnesses a continued rise in oil and energy costs. From a sectoral angle, BSE oil and gas is only one among the four other sectors that are positive over the last 12 months, up 20 per cent. The other three are the healthcare, metals and FMCG with gains of around 10 per cent.
What happened over the last eight months was the classic relative shift we mentioned in January 2008. Where do we go from here can also be explained from this intermarket perspective. What is happening in India is not an aberration. A similar LE outperformance is taking place simultaneously in American markets as food, beverage, and health care shine. Equity economic cycles run parallel around the world, the degree, however, is different.
But unlike tops, which can be sharp and more panic driven, recoveries are slow and painful. So a fast 13 per cent week-on-week gain is out. Coming from an alternative research and alternative asset background, we would definitely look at a partial diversification out of equity into agro commodities and alternative energy assets. But then even in big slowdowns, sector rotation works and good stock picking can do wonders. And what best time to chose your picks but 60 per cent lower.
From a sectoral perspective, barring the oil and gas sector, we would still stick to the LE sector stocks and even between them would stick to sector outperformers. This means that we filter out our portfolio components twice. First based on the economic cycle and second within the sector and if you want to still be sure, you can attempt Nikkei indexing (compare stocks with Nikkei which moves up when other markets such as the US are down to identify outperformers), we discussed last time (Japan and the global economy, July 21).
Though a lot of early economic and mid economic stocks look attractive, we would still abstain from the respective sectors for investing (trading is another thing).
The current extreme oversold levels with broad markets nearing multi-year supports suggest that markets might have a few weeks of upside, possibly extending for the whole of Q3. And a multi week to a few months of oil downtrend might assist this short-term reprieve. But to expect any bounce back through to the first quarter of 2009 seems a low probability scenario. A Sensex bounce back till 18,000 seems to be best case scenario.
Markets might be labeled as strange beings, but it’s we the masses that are stranger. Though markets are expressing cycles as they should in terms of sector and intermarket rotations, mass psychology cannot handle slowdowns efficiently.
The psychology shifts to a depressive mood and starts to look to transfer blame and look for external causes to explain the market collapse. Politicians are normal scapegoats, so are analysts and geopolitical events such as the subprime crisis and rising oil prices.
People also become insecure and look for reprieve through real or virtual anger (blogging) and violence is a clear signal that all hope is lost, a classic late economic cycle characteristic.
The author is CEO, Orpheus CAPITALS, a global alternative research firm