Vijay L. Bhabwani's Ticker: Follow-up buying needed as short covering lifts Nifty, Bank Nifty past resistance

Last week, I wrote that the selling intensity would slow down. The markets did one up on that hypothesis and rallied smartly. Short covering and buying in index heavyweight stocks resulted in a strong upthrust. Remember what I have been advising you for many quarters—banking and financials hold the key to market trends as they have the highest weightage in the Nifty 50 index. The highest gainers were banking and financial stocks, which resulted in a broader rally. Bears are now on the back foot. Should follow up on buying emerge, more short covering can occur. Short-covering rallies are more vicious than regular bull market rallies. Bulls buy out of habit, and bears are covering their shorts in panic. Which means both sides are keen buyers. This is also called dual pressure in technical analysis.

Trader action will likely remain focused on public sector undertakings (PSUs). These had been beaten down in recent months and are showing signs of a technical rebound. The power and energy sector will see above-average action due to the sharp moves in oil and gas. While gas prices fell as expected as winter ended (gas is used for indoor heating in winter), oil prices rose on news of US sanctions on Iran. Energy commodity markets are well supplied, and the price rise is due to temporary factors. This volatility in energy commodities will percolate down to the stock prices of this sector.

Base (industrial) metals can see month-end short-covering, but higher levels are encountering some selling. Metals may rise should the US reach an agreement with China over tariffs. That means stock prices of metal mining companies can see a pullback rally if metal prices rise on the commodity exchanges. Short covering may trigger a sharp upthrust.

Bullion is witnessing some profit taking as the US-China standoff shows signs of easing. A falling US dollar index (DXY) is cushioning declines. This pull-push on prices can trigger higher volatility, possibly with some downward bias. Long-term delivery-based investors can hold on as the underlying reasons for investing in bullion remain in place. Look beyond 2025 or longer. Avoid leveraged buying as it will entail a cost of carry (rollover costs) and the cost of funds (interest on capital invested), and will eat into your trading profits.

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Indian bond yields continue to plummet and are at their lowest since December 2021. Bankers expect further rate cuts in the forthcoming MPC (monetary policy committee) meeting. Since this year's monsoon is expected to be above average, inflation concerns seem to be largely laid to rest. The last word on coupon rates has still not been spoken, and sudden developments cannot be ruled out, though that appears to be a low-probability event. I suggest fixed-income investors keep the powder dry and wait for better prospects.

Being an expiry week, I suggest you continue to trade light and maintain protective tail risk hedges to avoid sudden shocks to your capital.

A tutorial video on tail risk (Hacienda) hedges is here.

Rearview mirror

Let us assess what happened last week to gauge what to expect in the coming week.

The rally was led by banking and financial stocks, as shown by the Bank Nifty’s relatively larger gains compared to the Nifty. The falling US dollar (DXY) triggered further defensive buying in bullion, and volatility is likely to stay elevated in bullion. Oil rose on Iran sanctions, and gas fell on profit-taking.

The rupee gained strongly against the US dollar, boosting sentiments further. Indian 10-year bonds continued to decline, cheering banking stocks. NSE market capitalisation gained smartly, showing that the rally was broad-based. Marketwide position limits (MWPL) rose routinely but remained below the long-term average.

US markets fell across the board and provided headwinds to domestic markets.

Retail risk appetite – I use a simple yet highly accurate yardstick for measuring the conviction levels of retail traders—where are they deploying money. I also measure the percentage of turnover using the lower- and higher-risk instruments.

Their risk appetite is higher if they trade more futures requiring sizable capital. Within the futures space, index futures are less volatile than stock futures. A higher footprint in stock futures shows higher aggression levels. Ditto for stock and index options.

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Last week, this is what their footprint looked like (the numbers are the average of all trading days of the week) –

The turnover contribution in the high-risk, capital-intensive futures segment fell, which indicates a lower risk appetite. A short week may have contributed to this phenomenon.

Index options contributed the most to turnover in the lower-risk, lower capital-intensive options segment, whereas relatively higher-risk stock options turnover eased.

Overall risk appetite in the derivative segment was sharply lower.

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Matryoshka Analysis

Let us peel layer after layer of statistical data to arrive at the core message of the markets.

The first chart I share is the NSE advance-decline ratio. After the price itself, this indicator is the fastest (leading) indicator of which way the winds are blowing. This simple yet accurate indicator computes the ratio of rising to falling stocks. Bulls are dominant as long as the gaining stocks outnumber the losers. This metric gauges the risk appetite of one marshmallow traders. These are pure intraday traders.

The weekly average advance-decline ratio jumped to a new multi-quarter high at 3.69 (prior week 2.56), which means there were 369 gainers for every 100 losers. That shows intraday traders were gung-ho and bought with zeal. Statistically speaking, this ratio at current levels will be tough to maintain. However, if this ratio remains above 1.0, bulls will enjoy an upper hand.

Watch your trading terminal keenly.

A tutorial video on the Marshmallow theory in trading is here.

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The second chart I share is the market-wide position limits (MWPL). This measures the amount of exposure utilized by traders in the derivatives (F&O) space as a component of the total exposure allowed by the regulator. This metric gauges the risk appetite of two marshmallow traders. These are deep-pocketed, high-conviction traders who roll over their trades to the next session.

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While the Nifty logged strong gains, the MWPL was relatively sluggish. At 34.09%, its peak is noticeably lower than in previous months. Since it is an expiry week, the MWPL can only fall on Thursday. We need to monitor where the post-expiry MWPL settles. As long as it is above 26%, retail interest remains intact.

A dedicated tutorial video on how to interpret MWPL data in more ways than one is available here.

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The third chart I share is my in-house indicator ‘impetus.’ It measures the force in any price move.

Last week both indices logged strong gains. However the Nifty’s impetus reading remains sluggish. That tells me the rise in the Nifty was not on forceful momentum based buying. The divergence between the indices is not healthy. In the past I have compared both these indices with two wheels of a bicycle. Unless both wheels move in the same direction and velocity, the bicycle can tumble.

A rally in the Bank Nifty alone raises doubts as the sector is the heaviest weighted in the Nifty. Which raises the probability of concerted deliberate buying. For a sustained retail rally, both indices should display equal strength.

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The final chart I share is my in-house indicator ‘LWTD.’ It computes lift, weight, thrust and drag encountered by any security. These are four forces that any powered aircraft faces during flight, so applying it to traded securities helps a trader estimate prevalent sentiments.

While the Nifty logged strong gains, the LWTD reading fell to -0.65 (prior week 0.05). That tells me follow-up buying may be sluggish. That is a small red flag. Giving a benefit of the doubt to bulls due to a very short week, let us watch this indicator keenly this week. Ideally, the price and this indicator must rise in tandem to confirm a sustainable upthrust.

A tutorial video on interpreting the LWTD indicator is here.

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Nifty’s verdict

Last week, I advocated that bulls must defend the 21,750 level on the Nifty spot and push the Nifty above 23,200, which was a primary resistance area. The bigger hurdle was the 23,800 level, which, too, was overcome.

The price has closed above the 25-week average, which is the six-month average cost of a retail investor. That shows that the medium-term outlook has improved for now. Staying above this average is critical, and bulls must defend the 23,300 level in case of any decline. Trading sustainably above the 23,850 level puts the bulls in the driver's seat.

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Your call to action – Watch the 23,300-level as a near-term support. Staying above this level strengthens bulls.

Last week, I estimated ranges between 52,450 – 49,550 and 23,500 – 22,150 on the Bank Nifty and Nifty. Both indices rose above specified resistance levels due to a gap-up opening before closing for the week.

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This week, I estimate ranges between 55,900 – 52,675 and 24,575 – 23,150 on the Bank Nifty and Nifty.

Trade light with strict stop losses. Avoid trading counters with spreads wider than 8 ticks.

Trade light with strict stop losses. Avoid trading counters with spreads wider than 6 ticks.

 

Have a profitable week.

Vijay L. Bhambwani

Vijay is the CEO of www.Bsplindia.com, a proprietary trading firm. He tweets at @vijaybhambwani