There are trending and non-trending phases in every market. It is relatively easy to make money during trending phases and very difficult to make money during non-trending, range-trading phases. This is so even in a strictly fundamental style of investing, relying on the logic that sound businesses should witness a long-term trend of capital appreciation.
Trends are especially friendly to traders. During a trending phase, most of the tools of technical analysis work pretty well. It is not necessary to get in right at the start of a trend and to exit right before it ends. Even if you identify a trend late using conservative trend-following tools, you can ride it for some distance. Even if you identify a trend reversal late, you can lock in some profits.
The August settlement has seen a superb intermediate trend. There was a downside breakout from a range, followed by volume expansion and heightened price volatility. Successive downward projections were hit, almost on the nail. When technical corrections occurred, the corrections also retraced till expected resistances, and then halted like clockwork. Anyone who maintained a bearish perspective and took short positions should have made huge profits.
Will September continue to see the same intermediate downtrend in operation? If it holds to the classic pattern, yes. There is ample time for the downtrend to continue through the entire month of September. If this happens, there will be a retracement or rally till the 5,100-5,200 zone, followed by a further downside, which will maintain the pattern of lower lows. A trend-following trading system will not however, set targets or try to second guess where and when the intermediate trend reversal could occur. Such a trading system will rely on an exit signal or a set of exit signals and use some combination as a stop loss.
A possible technical exit signal could be an adverse moving average crossover. Another is a simple mechanical trailing stop loss. The trading strategy could be something like 1) Sell the September Nifty future 2) Set a mechanical trailing stop loss 3) Or rely on a technical signal such as a new 10-session high or a buy signal from a 10 day-moving average (DMA) as a stop loss. A trailing stop loss, it could be something set mechanically like for example as the current price plus 150-points. This obviously shifts down if the price moves down. If the price moves up, it is hit and you close the trade.
A stop loss could also be some naturally variable technical signal like a new 10-session high. The 10-session high is at 5,123, at the moment. If the market continues to fall, this signal will also continue to drop, making it a natural trailing stop loss. Another method is to use a signal such as the Nifty crossing above the value of the 10DMA – this is between 5,020 and 5,050, depending on method of calculation. What exact system is used as the stop loss doesn’t matter – or rather, it’s an individual; decision. Just make sure that it’s consistently tracked and that you act upon it in disciplined fashion if it’s hit. And, until it is hit, continue to hold a short position.
The author is a technical and equity analyst
