Few cases for buying

Focus has shifted to descending triangle formation, which is bearish

It's tough to build an accumulation hypothesis when markets are tumbling down. With Nifty down roughly 200 points, about 10 per cent for the week, building up a case for buying needs more than a multitude of sane reasons.

Before I build up a technical list of reasons, let's introspect on the market behaviour since March 1, 2004, when the markets were ruling at 1,852 levels and when we highlighted the trading rut the markets were in.

Nifty closed positive for the week ending March 5, and at 1,890 levels on March 8. This was not only a high level for the market but also a point on the sloping trendline which acted as a tough resistance for the market.

Incidentally, the high created on March 8 witnessed the lowest volumes for the month on index futures at barely 76,000 contracts.

Any upside testing a strong resistance with such low volumes was a half hearted attempt and suggested an impending decline. That's what happened as the market continued to drift down to test the lower levels again.

The market focus suddenly shifted on to the descending triangle formation, which is broadly bearish in nature. Theoretically, the pattern is indicative of a market reversal if it appears on market tops (January 6, 2004, in the case of the Nifty).

However, as market psychology played and anticipated a decisive market breakdown at 1,750 levels, the breakout was ambivalent. The market tested the 1,750 levels for more than three trading days before breaking out of the lower trendline.

Theoretically, the breakout should have been supported with more than average trading volumes, the index futures witnessed average volumes of barely 1,20,000 contracts.

Though, market soothsayers are already forecasting 1,500 levels on the Nifty, I don't know how far down we can go with such low volumes.

And just like the theory of the descending triangle which talks about a descent of 250-odd points on the Nifty from here, there are statistics that prove that there is more than a half chance that the current pattern will fail and that more profit can be made on the 'long' position.

As we move into the expiration week, there are other interesting aspects that one could have observed during the week. Nifty futures open interest (OI) reached an all time high position while OI continued to decline across the board for a host of index components.

A careful look and one can see that the Nifty futures OI has not declined all this while since the market topped on January 6.

Though Nifty near witnessed a month-over-month decline from January to February 2004, suggesting a marginal profit booking, the index futures OI did not suffer any massive square off in the outstanding.

There was no visible sign of panic then; neither there is a visible panic now despite markets having moved below a so called critical (or nondescript) 1,750 level. I see a clear comfort even at these levels.

About the Nifty futures OI that has risen in the last few trading sessions, this seems more like a cautious hedge to me. The very indication that despite the market decline the OI is not coming down suggests the non speculative nature of the same.

I really can't classify the kind of market participant who is cautiously hedging though at the back of my mind I know that FII OI positions have increased in index futures and at a gross basis are ruling at about Rs 1,200 crore.

On rough estimates this seems to be slightly less than a quarter of Rs 4,000 crore net outstanding in Nifty futures.

Indian scenario is a lot different from the global perspectives still. Internationally, though large traders had superior track record, the large hedgers outperformed the large speculators.

Index futures hedging is only a recent phenomenon in India, as the segment has only recently seen a surge in volumes, crossing the 200,000 contracts a day mark, as recent as January 22, 2004.

So, primarily the hedging is marginal and one should concentrate on the speculative build up in Nifty futures OI.

The psychology seems quite straight to me. Retail participants got muddled owing to their IPO fascination. Most offerings are available cheaper now. For funds it's more of financial year-end issues.

And though FII still seem reluctant to leave the market, it's only the large speculators who seem to have a hold on what the market is doing. This is like the grip they had on the market all through the rise since May-December 2003.

So, if it is the large speculator, the message conveyed to the other participants is broadly clear, "believe it or not but the trend is down despite low volumes while we the large speculators continue to accumulate".

Now, the only question which needs to be addressed is what levels are we looking at? Is it over? Or is it Nifty 1,650? Or is it lower? I don't see the markets much below 1,700, though a test of 31 per cent retracement is plausible, which is broadly 1,650 levels. We have already tested 1703 - 50 points more doesn't change the hypothesis much.

One can take it as a possible error band. Stock specific, I feel Tisco, Tata Motors, Reliance and HLL might bounce up during the early part of the week.

And with divergences quite visible in market-wide PCRs and WPCRs for various stocks, a decent comeback in the expiration week cannot be ruled out. I should admit that the large speculators are smart and have an ability to make the simplest of things look so tricky and vice versa.

For example with the Nifty futures OI at historical levels and call OI rising by more than 25 per cent in the last couple of trading days while put OI's remain unchanged, one can logically interpret it as simple accumulation.

But a relook can suggest a carefully executed synthetic put strategy by large speculator. This definitely sends shivers and I assume and hope that the speculators are not machinating yet.

In conclusion, I do agree that January 2004 tops were a global phenomenon. Barring Nikkei which also cooled off a bit last week and Shanghai composite, which has not shown much weakness this year, globally we are witnessing high resistances as we move ahead. Overall, I believe it's the right time to buy into the 'April accumulation' hypothesis.

(The author is derivatives strategist at Edelweiss Capital. The views expressed here are his personal views and not those of Edelweiss Capital.)