Market Rout: Smallcaps Hammered, Nifty At Inflection Point

We left off last week with an expectation of a decline till 23200 and a time goal of 18th Feb. It appears that the price action was on an overdrive and the expected support finally broke during the week and NF reached down to touch 22846 by the end of the week. Bank Nifty also broke the strong support near 49000 marginally, hitting a low at 48908. The two main indices were down by about 2.6% or so for the week.

Now this has left everyone nervous, especially as the mid and Smallcap indices took yet another knock. And, this time around, the knock was severe – ranging from 7 to 10%- in these spaces (where most retail trade is invested) and that really hurt.

It probably hurt so much that even those not needing to clear any debits to the brokers sold off their shares! One can understand that those that play a leverage game would be under the pressure of clearing growing debits from price declines. So, when the F&O area takes a bath, so does the small and mid-area, as those stocks (acquired during the good times with the profits made during earlier times) are now sold to finance the losses occurring now. This is a cycle we see every single time.

But when normal investors get frustrated with the declines, then it does point to a sentiment excess. We may be at that point now.

On the charts, lets see what has happened through the last week, one that destroyed sentiments even further. See chart 1.

We see that the prices remained below previous week CPR (which was almost coincident with the Monthly Cpr) and that laid the foundation of more declines. Now, that area (23600) has become a solid resistance for the future. We can see that the prices are already beneath the projected next week resistance. That makes 23250 the first of the levels that bulls need to attempt to recover above. Bears just need to keep them from moving past 23100 area where pitchfork resistance is also visible. The median line of the pitchfork shows support existing along till the previous swing lows of Jan 27 can still hold. So, if by 18th Feb the median line breaks and is not swiftly recovered, then the bears have the vote.

My bull case ahead is caveated on the Jan lows not being broken. If that happens then we will have a deeper cut in price and that is also going to take a lot more time to form a bottom- perhaps that may travel all the way to mid-year and will probably inflict a lot more pain. So, we are near a very big inflection point right now.

Now, no one really wants inflection points to get dragged out. But that is not in our hands. Right now, alongside the panic, there is also an expectation that ‘ek rally to banti hai’ – this is logical thinking extended out. Not entirely wrong in the sense that the social media today is almost completely flooded with videos entitled ‘How much more’? Of course, everyone has their answers. But are they answers for you? That is the more important point.

Question yourself here as to why you need a bottom to form here? Is it because you are long and want to avoid the pain of your current long holdings are bleeding and would wish for it to stop? Or are you sitting on cash and prices having pulled back, now seem to offer what looks like a good opportunity? Or perhaps you are sitting on long futures position from much higher levels and tired of paying the M2M bills? Or maybe you are a broker/service provider and in general, business is always better in bull markets compared to bear ones?

If it is any of the above, then they are all likely to be wrong.

An unwillingness to bear the pain of holding investments in a falling market could probably mean that these were not really investments but just trades that you held for longer. But now the highs you used to get watching your portfolio value go up almost every day are no longer there, you are suffering withdrawal symptoms and slipping into a depression. You have now reached a point where you don’t want to take this pressure anymore. Selling without a reason (fundamental or technical or financial) is a mistake at any point of time. So, it is best to avoid this.

Looking at prices and deciding that they are “cheap” is often a failure strategy because it is using a ‘gut feel’ rather than some a well-defined process. Gut feels look like they work but those are random coincidences, most times. If you really want to get it right, then better create a good process that is reliable thru back testing. Cheap often turns out to be very expensive.

If M2M bills are piling up relentlessly, selling stocks is not the solution. The problem is more to do with not reading the market’s signals. You are, perhaps, not willing to admit that you have goofed up. You have the wrong stock or wrong sector and you are not recognising this. Either you don’t know how to or you are deliberately not doing so because you cant face reality. Till you remove the cause, the solution wont be found.

Hoping for better times in business cycle is a common trait. Nothing wrong with it so long as it does not impinge on your ability to read the market. Hope is never a good strategy. But what is rendering that hope is a divergence on Rsi that is seen forming on the chart shown above. And that this much length and extent of decline “is enough”! As though you get t decide!

Markets turn when it decides what and how much is ‘enough’. All we can do is make estimates. But eventually, we have to do what the market dictates. Like, we all thought 24500 was ‘enough’. Then it became, progressively, 24000 and then 23300 and now 22800. The problem is, there are always many turn points in the market. Once it happens, then we all turn around and say, ’it happened there and these are the reasons why’. No help is needed to look at the past to know that it happened back then. When it doesn’t, we offer more ‘reasons’ as the why it did not happen! This is nothing but fooling ourselves. Or pacifying ourselves. It, however, doesn’t help us make money.

What does is to make those forecasts in advance and be ready. Like the recent set of “bottoms” and “tops” were defined in this letter. In advance. That is the only way to be prepared to act. Else we can just engage in rear-view mirror driving and that is recipe for disaster! We do need a rear-view mirror.

while driving. As also sideview mirrors. These are so that we can keep control of the vehicle while we look ahead thru the windshield and drive.

Chart 2 shows my expectations ahead-the windshield view. Take a look.

The technical tools are our rear and sideview mirrors. The Time element is our windshield. We combine all of them to produce a destination point(s). And play for that.

In this chart, the most important elements are the prior support level (22830, Jan low) and the time projection (18/19th Feb). Then the next price zone (@22400) that is a cluster using several swing length measures projected ahead. In the chart only one is shown but there are, in the 22200-400 area about four different sets of projections.

At least now I have a working thesis of when to get off this bear train. And then board a bull train if it shows up. Please read that last line again. It says ‘if it shows up’. So you see, everything is left to the market and not to our (often jumbled) thinking.

This may be correct or completely wrong. I don’t care either way. All I need to know is what to do based on the scenario that emerges.

Something completely different can also happen. But at least, since I got a scenario or two mapped, I will know soon enough that something different is happening. That means I need to step aside to take another look to check what I missed along the way. Because, for sure, if something else happens, I missed something along the way!

Through the years I have found that it is the only way to think about the market. Nothing deterministic and Everything probabilistic.

There is much to be said about the other plethora of factors surrounding the market. But the important thing to look for in the week ahead is to see whether the market follows the scenario that I have for it. Once that get decided either way, we will have enough time to analyse how the upcoming scenario fits into the longer-term trends and all other factors. We will leave if for the weeks ahead.

So, you can either play for the mapped scenario. Or you can choose to play after the scenario gets decided around the price and time nexus coming up. Or you can wait to see if something entirely new happens. All have about the same odds for success right now. Take your pick.