Markets Poised To Head Up

The Dow Jones closed almost 400 points up last night and all Asian markets were up by about 3% this morning. As suggested in yesterday’s newsletter, such drastic movements in global exchanges are likely to have an effect on our markets too. As predicted, we also opened with a 3% gap but, unfortunately, that was not enough to sustain it throughout the day. All through the day the markets kept losing ground and by close they were absolutely flat.

The chart shown above is the daily chart of Nifty and is actually a repeat of an earlier chart because we have done this exercise in an earlier newsletter. We are talking about dojis here and what they signify. To understand a doji, one has to understand a candle first. Let us take the drawing given here. This shows four candles. A candle essentially consists of four prices, namely, the opening price, the high of the day, the low of the day and the closing price. The highest point of the candle is the high of the day and the lowest point in a candle is the low of the day. To determine the opening price and the closing price, one has to see whether the candle is shaded or unshaded, or in other words, filled or unfilled. If the candle is shaded or filled, it means the closing price is lower than the opening price, which means that the price has gone down during the day. Similarly, in unshaded or unfilled candles, the closing is greater than the opening which means that the price has gone up during the day. These two prices are joined together to form a rectangle. This rectangle is called the body of the candle and the lines above and below this body are called the shadows of the candle. Now, let us see what a doji is. When the opening and the closing price of a day is the same (or very close to each other), there is no body formed and that is called a doji. So, in this drawing on the first and the third day the price has come down during the day. On the second day the price has gone up during the day and the last candle is a doji.

One characteristic of a doji that they represent indecision and that is why they are usually found at short term market tops or short term market bottoms. After a doji day, prices are likely to reverse their trend for the next 2 to 3 days. Now looking at the chart of the Nifty above, we have marked all (and almost) dojis with small blue arrows. And you can see that they are, generally, found near short term market tops/bottoms. Let us look at the period in Dec 2007 and Jan 2008 more closely. It can be seen that there are a cluster of dojis at the top during this period. It is important to look at the Relative Strength Index (RSI) also along with the price. While the price, during this period, was making higher highs and higher lows, the RSI was not doing so. This means that even though the price was going up, the strength of the index was coming down. That was a very clear indication that the market could come down. And that it did in January. What was not known was the magnitude of the fall. While a level of 5200 was visible but 4450 was not expected.

Now let us look at the months of February and March. The black lines signify the tops made by the market during this time. This means that the trend is down. The trend will turn to up when we have at least one higher bottom and one higher high. A higher bottom has already been made (hopefully) and a higher top would be made if the price were to go above 4971. Is that possible in the short term? I believe, it is. Why do I say that? Well, look at the chart. We have seen two doji days including today which must signify that a short term bottom has already been made or is close by. Look at the RSI. While the price has gone on to make a lower high, but the RSI during the same period (10th Mar onwards) has made a higher high, which means that the price may be coming down but the strength is actually increasing. This is what we call a bullish or a positive divergence. So, with these indicators one can make out that the price may change its trend soon enough. All we need is a close above 4971 and we will be back in an uptrend. For investors this may be the right time to build up long positions. For short term traders too that level holds significance because that level will confirm the bullish head and shoulders pattern, the target for which is 5400. This may be the right time to buy at the money or out of the money (if you want them cheap) calls. 4800 calls are available at around 140, 5000 calls around 65 and 5200 calls near 30.

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Happy investing!!!

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