Capitulation and Selling Climax Go Hand in Hand

The Nifty today opened flat with no global cues to follow but soon the strong downward momentum started pushing the Nifty down. It did attempt some sort of recovery in the late afternoon session, but failed miserably and closed after making a new low for the day. Today’s close was also the lowest close since 24th August 2007. It finally closed the day at 4191 while the low of the day today was 4156.10, which was again close to the 4157 support that we had mentioned in Sunday’s post.

The market is falling with so much of momentum that all supports are being wiped out. Such kinds of fall ultimately lead to panic like situations and then capitulation. But in such situations it is difficult to predict where the bottom would be. Seen above is the 60 minutes chart of the Nifty. This chart shows the 5 wave pattern that the corrective wave C of the Nifty has been following as has been mentioned in the posts dated June 18, 2008 and June 3, 2008. One of the concepts of Elliott Waves, which was not mentioned in any of the previous posts is that you can find out the wave 3, wave 4 and wave 5 approximate targets if wave 1 and wave 2 have been formed. Now to find out the wave 5 target here, we connect the end of wave 2 and end of wave 4 with a trendline. We then draw a trendline parallel to this line which passes through the end of wave 3. This line should give the approximate target of wave 5. As one can see, the target given by this line is near 4130 and a low of 4156 was already made today. It is possible that the target is achieved early in the morning tomorrow. It is also quite possible that with the strong downward momentum this target is overshot. Only time will tell where the market will stop.

But there is another short term positive visible and that is a bullish divergence between the price and the RSI as has been marked within the circles. The price has gone on to make newer lows while the RSI is still above its previous low. This suggests that even though the price is on the way down, the internal strength in the Nifty is actually increasing which suggests that an end to this downtrend may be near.

But then I just heard the news that the RBI has increased the CRR and repo rates by 50 basis points each. While the repo rate has been increased immediately, the CRR hike is to be implemented in two steps of 25 basis points each. Our newsletter, and many other market participants, were already expecting a rate hike, as was mentioned in yesterday’s post. A story on expressindia says that a meeting tomorrow between the Left and the Government will decide the fate of the nuclear deal and the government. The Left has made it pretty clear that if the Government decides to go ahead with the deal, it will withdraw support. The UPA allies are of the opinion that with inflation at a 13 year high, chances of a re-election in the event of snap polls are bleak and are pressurizing the government to delay the deal. However, there is strong speculation that the Prime Minister, Dr. Manmohan Singh, who has invested a lot of personal reputation in this deal, is unlikely to abandon the deal and may resign in case an agreement is not reached. If this happens, it may well mean that we are looking at a capitulation happening very soon, maybe as soon as tomorrow.

Uma, in her blog post regarding volumes, rightly says that One of the key signs of a market that's bottoming out, is low volumes. But, the huge volumes being traded on NSE show no signs of going down. What she says is perfectly right, except in cases of a selling climax, which usually accompanies capitulation. A selling climax happens when there is a big price fall along with a huge volume expansion. The result is that there are no sellers left post-climax. The aftermath is light volumes and flat prices. This article by Devangshu Datta, a technical analyst, very well explains all about a selling climax.

In my opinion, we are going to see a selling climax and a capitulation tomorrow or the day after. The consequent behaviour of the post-capitulation markets will be, as expected, light volumes and flat prices. But we would have to go through that pain if we want the markets to improve and recover and cross their earlier highs. It may be a very difficult task because a drop of 35% from there has brought us here but to reach the same level we need a rise of 55% and not 35%. But with strong fundamentals and God’s grace even that might be possible. Who knows?

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