Dow Theory, Indian Equity Market and near future possibilities

Dow theory is considered as the father of all modern day technical analysis. According to the theory, if Industrial Average and Transport Average break any crucial support or any crucial resistance then market is expected to show some definite direction. Until and unless both of the averages moving in synergies, no trend is confirmed. But this technique was meant for US equity market and averages under consideration are Dow Jones Industrial Average and Dow Jones Railroad/transport Average.

Other than the technicalities, Dow theory also considers fundamental valuation as mode of trend identification, though Robert Rhea latter lowered the stress on fundamental valuation arguing that average discounts everything.

But in its true form I have hardly seen anybody applying Dow theory in Indian equity market. If we consider the valuation front, then economic health is still intact. GDP growth projection is optimistic; there is no dearth of demand. Only matter of concern is inflation, but that too under control to the large extent. So still there is hardly any economic malfunctioning ahead. But Rhea has said, “ Average discounts everything”. And if we have to follow his advice we can say our economy is going to hit a submerged iceberg, since nifty 50 has broken 3754 and closed below that, the last crucial high attained by it on 10th May’ 2006.

I am not confident on my finding. As I have not applied Dow theory in its original form. Besides that today’s markets are highly globalized, market participants are too emotional and noise is much more than earlier days. But if I am right and Dow theory succeed this time also, then we are just on the threshold of month long bear run. I still believe bullishness is intact at least for Indian market and bear can rule for short to medium term only. Let’s watch the market with fingers crossed.

www.dowtheoryproject.com

The Week Ahead 05/03/2007 to 09/03/2007

Market plunged severely in last half an hour on Friday and SENSEX closed at 12886. we can identify two distinct reason behind such abrupt move. Firstly, part liquidation of the yen carry-trade. Most of the global markets including, India, china, USA lost heavily last week. These declines dried out liquidity partly and generated global concern for some sort of forthcoming recession in US market. Simultaneously global inflation is cutting down real returns from risky asset classes. Despite the fact that yen carry trade is still profitable to the extent of 4% to 6% in Indian case, lowered expected return from risky asset classes encouraged a segment associated with carry trade to liquidate their position. Secondly, legal action against 13 employees of some of the US investment bankers, with the charge of insider trading, created of anxiety in the market. This news might be of lesser importance but played an active role as Morgan Stanley and UBS are active players in India and some of the 13 accused belong to these two houses.

Part liquidation of yen carry-trade is a serious concern. These funds often inject impetus to the over retraced markets. Currently, India is to some extent over sold. December quarter result was encouraging. Strength in economic growth is intact. Inflation is going down steadily. Budget is more inline as it was expected from Finance Minister. Other than some taxes, budget is no way anti-corporate. More over FM reiterates his stress on infrastructure, agriculture and rural economy. So at this moment no serious negative fundamental/economic turning point is visible.

But still there exists some haunting issues. First of all retail investors are not coming in flocks. They are to some extent scared regarding the direction of the market. Their absences do impoverishing Indian equity market from experiencing liquidity. At this point of time, unwinding of carry-trade positions would potentially aggravate the situation. If the story goes on like this, then we can witness SENSEX breaching more and more supports in coming weeks. Better valuation of stocks may attract more “buy and hold” investors, but that would not initiate any firm rally.

After more than 3 years of secular bull-run Indian equity market is now facing a hurdle, in coming 1 or 2 weeks we can see some major decisive moves. And those may confirm market’s intention for the first half of the year.