02 January 2010

Nifty : Extended Wave Curse?

Happy New Year to all. While 2009 ended with the expiry of December series all talk was about how great this year was and in many cases the decade, for Indian economy as well as stock markets. No doubt if we look back we see fabulous returns all the way. While Sensex boomed from lows of 7500 to 17500 this year, it has multiplied 7 times from 2003 lows! Surely a great reward for investors who had the patience to hold on or courage to buy India during the Oct 2008- Mar 2009 gloom. As for the Market Gurus who bought stocks during 2003 collapse, all I can do is salute them!

Lets try to gauge what can be expected from 2010. The chart above is a 7 year Nifty chart showing the lows of 2003 which turned out to be a major bottom! I have labelled the subsequent upmove as the 5 wave bull market structure as per Elliot Wave Theory (EWT). We can see the parabolic move which ended in Jan 2008 and then came a collapse of catastrophic in nature. Parabolic moves always end this way. Look at Crude in 2008. Another interesting feature that cannot be overlooked is that when things go parabolic it violates the basic principles of EWT, which says 3rd wave should be the longest, as it is the 5th wave becomes the largest. Research showed that 5th wave extensions are mostly found in leveraged products and instruments which become playground for speculators. A ETF in that name is a quick check to see if this happening! There is obviously value in the product concerned here but as usual it is recognized way too late by the general public, mostly at the end of 3rd wave where it catches attention due to its soaring move. Some correction mostly of time follows as there are hardly sellers for it. Desperate buyers throw in their towels to get hold of it and it starts moving again.. Our fund managers then realize they waited too long and they too join the party. Some opportunist fund starts an ETF for it to let the retail have a taste of it, the price in the meantime has soared enough to make newspaper headlines and every "paanwala" is talking about it. Then comes the collapse, with all the smart money moving out of the party in a flash leaving the retailers to see their hard earned money first immediately half and then erode day after day.

Enough of describing extended 5th waves, lets see what can be expected from the current wave B and the expected wave C. EWT says that wave B can be as large as 78% of wave A if its a "zig-zag" ABC correction and can be at the most 138% of wave A if it belongs to a "flat" ABC correction. There are hardly any instances, or to be exact none, of flat ABC correction after and extended 5th wave, in the limited cases that I went through before posting this. But same is the case with a 78% retracement. Would definitely keep looking for patterns which may resemble what Nifty is following. But as we know the current situation of our economy and government policy is vastly different from any other period in past, any chance of finding something would be feeble. But what remains constant is how people react to a given condition, how much they fear a crash and how much they get desperate to make easy money.

As Nifty it is still below 5450 which is roughly the 78% target currently and hence the ideal extended 5th wave target of wave C is still valid. Which "hopelessly" states that it can bottom where wave A bottomed (2250 Nifty) or in the wave 2 region (1200-2000 Nifty), it can also erase the entire impulsive wave (below 900 Nifty) !
One can already see the impact of extended 5th waves within the extended 5th wave from May 2006 lows to Jan 2008 highs, where 5th wave of minor degree labelled as (v) was the longest and did the trick by making the next wave bottom below the level from where it started to rise (labelled as 4).
If Nifty crosses 5500 on the way up, chances of touching the 6350 highs increase more than ever. It can also keep going beyond it, till 138% retracement condition is intact and a revisit of 2250 lows highly possible.

If you look at the MACD, TRIX and RSI oscillators I doubt hardly any chartist will vouch for a big rally from now on. Every aspect of the rise from March lows looks more of an oversold bounce than a genuine rally based on strong fundamentals of expanding economy. Be it strong liquidity injection into the system in form of stimulus or be it a knee jerk reaction from oversold levels of RSI of 25. Generally a long term bull market rally (new 5 wave structure) is preceded by long painful period of consolidation, where market can move for years in a range, needed to build energy for the upmove. Nothing of that sort has been seen recently.

So if, we are yet to see the wave C, the first question that comes to mind is what will cause it? Some sort of crisis again, some extreme economic phenomena hyperinflation or deflation, some kind of geopolitical risk or something very specific to India. Naturally only time will tell, what happens in 2010, but chances of a big UP year after a big UP year is very low historically. There are high chances that if the market do not correct significantly there can be a "meltup" and we can see another 25-30% rally in very quick time. Lets see if the market can surprise us this time.


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