What the charts foretell

What do technical analysts feel about the market in 2008? Three experts share their views.

Year 2007 was spectacular for equity investors as a majority of stocks, across all classes and representing different sectors, delivered more than healthy returns.

How will 2008 be? To know what the charts indicate, The Smart Investor gets three technical analysts to predict what's in store for the current year. Read on to know more.

Lage raho Munnabhai
Milind Karandikar
Year 2007 really turned out to be "The Year of the Bull" as I had mentioned in my last article on January 8, 2007 in The Smart Investor. I received numerous mails following the article stating that I am trying to fool investors by giving some unrealistic projections of the BSE Sensex (20,000 by December 2007).

But, the Sensex did hit the target and fooled all those who did not trust my Neowave analysis. The stock markets would go where they would like to irrespective of what you and me wish. I am just an interpreter of the patterns they form.

No doubt that my analysis goes wrong on a number of occasions, especially in the short term, but on the longer term charts, the patterns look less confusing and future projections become more reliable.

Right now, the pattern formed is suggesting that another huge bull run is impending. The technical analysis of this pattern has been discussed in the Technical outlook paragraph.

Even though year 2007 closed with a bang with the Sensex closing above the 20,000 mark, it was a rollercoaster ride for the indices over the year. The Sensex survived two major falls of over 2,000 points in February and July 2007 and managed to close near the all-time high.

Fundamental issues like crude oil prices, US sub-prime crisis, kept on producing ripples in global markets. Many analysts were worried about overstretched valuations at 14,000 level of the Sensex and continue to be worried at 20,000 level. Some are afraid of a bubble forming but, the markets are not ready to listen. If a bubble is going to form, you and me cannot stop it.

On the contrary, majority would not agree to the existence of such a bubble. The reason being a bubble is called a bubble only after it bursts. Everyone wants the bull markets to prevail for ever. But, since every bull phase is succeeded by a bear phase, one has to be very alert about exiting the market.

Technical outlook

The weekly chart of the Sensex shows that after a huge consolidation period (1992-2003) we are in a big bull run for almost last five years now. This rally is a large X-wave, which I had mentioned in my earlier articles also. A zigzag (A) "� (B) "� (C) pattern is the first part of this up move followed by a connecting pattern (X-wave).

This connecting wave is in the form of a running triangle that began in May 2006 and ended in August 2007. The presence of such a running triangle indicates tremendous upside potential for the Sensex. The calculations based on Neowave theory (By Glenn Neely) suggest that the breakout from such a triangle should be at least 1.618 times the largest leg of the triangle.

This puts the Sensex target at around 27,000 mark. The breakout could be as big as 2.618 times the largest leg, leading to a mind boggling figure of 39,000. Even if we keep aside this over-optimistic view, the target of 27,000 could be achieved and that too most probably in the first half of 2008.

The daily chart shows one directional wave (A) followed by wave (B), which seems to be a diametric pattern. This pattern has seven legs and has a bow-tie shape.

This pattern seems to be almost over and the next wave (C) has began. I expect this wave to be again a directional move. Right now one cannot predict which pattern will finally evolve in the entire rally from the bottom of August 2007.

Investment perspective

The diametric formation mentioned in the last paragraph has appeared on most of the indices viz. Sensex, Nifty, BSE-500, S&P CNX 500, etc. Structurally, the patterns in broader market indices like BSE-500 suggest much stronger up move. It means that the chances are high for mid caps and small caps to outperform large caps in this rally.

But, one should choose fundamentally sound stocks from these sectors that have not somehow participated in the earlier rallies of the Sensex. There are always a lot of manipulated stocks from these sectors, which attract public attention and become good traps to lose money.

The sectors that are looking good right now are banking, steel and power generation. But, I personally feel that finally it would turn out to be a broad based rally in which most of the sectors would participate.

Finally, those who are investing fresh money have to be very cautious in selecting the stocks. And for those who are already holding good stocks for long time, my advice is Lage Raho Munnabhai!

(The author is a Neowave analyst and may be contacted at: milindkarandikar@mtnl.net.in or karandikar.milind@gmail.com)

Bulls will be in control, unless...
Devangshu Datta
At the end of a 12-month period when the major market indices have returned close to 50 per cent (S&P CNX Nifty 55%, BSE Sensex 47%), and the market is trading at an all-time high, it would take a very brave man to suggest that a bear market is due. On a lot of grounds however, a deep correction or a bear market, call it what you will, is indeed overdue.

On the fundamental level, corporate earnings have seen a slowdown in the second half of 2007-08 and the market is fully-valued or overvalued using standard accounting ratios and growth projections.

At the global level, crude oil is hitting new highs and the US subprime crisis doesn't seem to have played out. There is a US presidential election and closer to home, there's chaos in Pakistan, Sri Lanka and Nepal. There's also a sequence of state assembly elections and a general election on the agenda.

But technical analysts would say that this is mostly known and hence, the bulk is likely to have been discounted already by price movements. This is not quite true "� the fundamental news is indeed predictable and likely to be discounted.

But traders tend to be optimistic by nature and political uncertainty (including election results as well as events like terrorist attacks) is never factored out until it actually happens.

As things stand, a pure technical analysis would however, suggest that the market is more likely to head up rather than down. As the wise traders say "Never buck the trend" and the market is in a strong uptrend. In the past three months, Indian equities have generated more volume than ever before and despite several selloffs, the major indices seem to have made an upside breakout.

The Nifty has good support immediately below its current levels, in the range of 5,600-6,100. It has a target of about 6,600 in the intermediate term of three-four months and the possibility of moving till 7,000 in the longer-term of six-eight months.

Beyond 7,000 and beyond that six-eight month timeframe, it's difficult to make concrete projections. If there are corrections, and there are bound to be, the major market index should bottom out somewhere at the lower end of the 5,600-6,100 range.

The Sensex will behave similarly, but if the pattern of the past year holds, it will register less width in its moves. The current Nifty basket covers the entire Sensex basket with the substitution of Unitech (Nifty) for DLF (Sensex). The correlation is close to 1 and the extra 20 stocks in the Nifty should lend it more upwards momentum.

Breadth has been a feature of this bull market so far. If we look at indices, the CNX Midcap (78%) and BSE Smallcap (87%) have both done better than the main indices. So has the CNX Nifty Junior (74%), which shows that the market has deepened.

Most of the sector indices have done well, underlining the breadth of the rally. The Bank Nifty has lifted 63 per cent and the BSE Oil & Gas index has delivered an astounding 115 per cent on the back of a great performance by Reliance Industries, Reliance Petroleum, Reliance Natural Resources and Essar Oil. It's an open question whether this is sustainable since all these counters look over-extended.

The one major loser has been IT "� the CNX IT is down 11 per cent and this can be explained by the outperformance of the S&P CNX Defty (72%), which has beaten its rupee twin, the Nifty handily. The strength of the rupee versus the US dollar could continue to affect all exports, not just IT, over this coming year.

Summing up, the first eight months of 2008 should be positive, and there's no technical signals suggesting that the market is due for a major correction. Intermediate corrections should find support and peter out around 5,600 levels. Breadth looks good and relatively smaller stocks could outperform.

Danger signals would be 1) a drastic dip in volumes 2) narrowing in terms of size or breadth "� smaller stocks start underperforming and so do most sectoral indices 3) a correction that drives the Nifty below 5,500 for a period of a several weeks. If none of these occurs, the big bull market will be sustainable.

Relative shift
Mukul Pal
Just like 2007, we will see the sectors shift in and out of relative strength. And, as the Sensex keeps growing, its sectoral representation will increase or decrease based on how well the sectors perform. New sector leaders will get in the Sensex and the underperformers will get out.

While a high and higher Sensex might seem good for the economy, it will never convey the real picture early enough to make the most of high performing sector growth or early warning systems to get out of stagnating sectors.

This is what we tried addressing last year when we said that energy and materials sector should lead the Sensex higher after the first quarter of 2007. On the energy front, we also mentioned that we do not see oil falling substantially below $50 and after oil hits base, the respective sectors should assume leadership.

I also mentioned about auto and IT underperformance, which happened. There was another aspect I got right, I anticipated a negative trend till March 2007 and a positive year turn around after that. About the things I got wrong...I was off the mark on the banking sector. The BSE Bankex moved up 66% in 2007. The banking sector indeed pushed us off our Sensex targets, which I did not foresee above 18,000.

So as you see, the answer to Indian stock market outlook is trickier than the famously quoted "Sensex 40,000" in five years. I am not saying that it does not challenge us to get the target on Sensex right by two decimals (Elliotticians have done it before), but market forecasting is extremely dynamic and to stick out for a potential turn level in 12 months is not an easy accuracy to deliver.

However, the Sensex targets can be built around sectoral and intermarket dynamics. The late economic cycle stage, which I discussed last time, is followed by topping and slowdown. After Sensex 20,000, the market expectations are for 30,000, but I don't see the Sensex extending beyond 24,000 this year with the benchmark making a decade high this year.

Like I saw the auto, pharma, FMCG and IT stagnating for more than 15 months on average, while the Sensex soared, it's wishful thinking that capital goods and banking will continue to outperform and will not pause if not exhaust.

The Sensex underperformed the capital goods, banking and energy sectors in 2007. And, these are the sectors, which will finally validate our case. Credit cycles are behind the economic boom and even if India is sitting on a huge industrial and construction boom linked with the capital goods sector, credit and real estate are interwoven in the sector.

Prices can't rush ahead of themselves and a rise of energy and material prices will only make it tougher for the capital goods sector to keep delivering, as costs go up.

This year, the BSE Capital Goods index should move its last leg up to complete the cycle trend the sector started in 2002. The index should complete the last leg up from current 20,000 levels to 25,000. This should be the first leading indicator after which, identifying a Primary (multi year) top for Sensex should be easy.

And a move on oil above $100 to potential $125 might look interesting to the energy speculators. But, it will subdue the enterprising efforts that some of India's underperforming auto sector majors are making to bring in luxury cars by pitching to buy them from the other struggling global auto majors.

Not to forget to mention the other ill-effects of rising energy prices. So, after the damage will be done by high energy prices in 2008, the BSE Oil index will also head into major resistances accompanied by primary (multi-year) top on oil prices.

The banking sector is also an early starter in an economic cycle. The Sensex started moving up in 2001, four years after the uptrend in banking majors. So, if the Sensex has to form a primary top this year, banking should lead.

We are not looking above 15,000 on BSE Bankex index (up 25% from current levels). Bad timing as you may call it, with capital goods and banking under pressure, energy topping late 2008 or early 2009, we will be ready for the proverbial bust heading into 2010 and 2011 Benner cycle lows.

Selling in strength isn't easy. I advise to reduce capital goods sector allocations and look at pharma and FMCG majors, which I consider defensive plays and emerging outperformers. About IT, I don't see a reprieve yet, the negative surprises might keep coming.

Utilities and integrated metals and materials companies should continue to fare well. From an Elliott count perspective, the 3 primary of the Impulse from 2001 has witnessed a double retracement. And, the best case scenario expects at least a 3 Primary (multi year) top this year, as the sectors witness the relative shift once again.

(The writer is CEO, Orpheus Capitals, a global alternative research company)

Additional reporting with Devangshu Datta and Mukul Pal