SENSEX – Bouncing off the 2006 lows II
The SENSEX is still finding good support at the 2006 post sell-off lows. We could be in the midst of forming a bottoming pattern, possibly a double bottom. It’s vital the supports near the recent lows hold. We are heading into a critical few days/weeks for the SENSEX in technical terms.
Near term technical signals are mixed and you can find a daily update on my website at www.reutersindia.net
On the second longer term chart you can clearly see the support. You can also see on the sub-chart the 10-day close-to-close volatility (see note 1) study is coming off the high very quickly. High volatility coincides with market turning points, note the past price action. Each time there is a peak in volatility the price action turns. Given what is happening now we could be seeing another peak and another turning point.
Now to the correlations the SENSEX has with other markets. The third chart is the SENSEX’s correlation with the Asia MSCI – ex Japan (see note 2) index it is still high as you can see. I’m using the MSCI as proxy but the picture is similar if you use the U.S. S&P 500 or even the Dow Jones vs the SENSEX.
From this chart you can see the last time the SENSEX was moving under its own steam was when the government won the vote of confidence and the correlation dipped to negative (see note 3). Since then, it has simply been pulled around by the influence of overseas markets. Global trends are important to India at the moment, not domestic economic or political factors.
It’s important to watch the INR as the correlation with stocks is very high indeed, as stocks fall the rupee follows and vice-versa. That said, stocks are leading the INR via foreign investment flows. Therefore, this chart is of more use to anyone with an interest in INR rather than stocks.
Note 1 - Volatility - Warn of a potential change in trend. If a market is trending and the volatility is high, a drop in volatility may be a warning that the trend is coming to an end and the market will move into a trading range. If a market is in a trading range with very low volatility, an increase in volatility may be the first warning of a change in market trend from non-trending to trending. Confirmation that the trend has changed will need to come from price action, for example a close above/below an important resistance/support level.
Note 2 - The MSCI AC (All Country) Far East ex Japan Index is a free float-adjusted market capitalization index that is designed to measure equity market performance in the Far East, excluding Japan. As of June 2006 the MSCI AC Far East ex Japan Index consisted of the following 9 developed and emerging market country indices: China, Hong Kong, Indonesia, Korea, Malaysia, Philippines, Singapore Free, Taiwan and Thailand.
Note 3 - Correlation - Determine the predictive ability of an indicator. When comparing the correlation between an indicator and an instrument’s price, a high positive coefficient (e.g., more than +0.70) tells you that a change in the indicator will usually predict a change in the instrument’s price. A high negative correlation (e.g., less than -0.70) tells you that when the indicator changes, the instrument’s price will usually move in the opposite direction. Remember, a low (e.g., close to zero) coefficient indicates that the relationship between the instrument’s price and the indicator is not significant.
Determine the correlation between two securities. Correlation analysis is also valuable in gauging the relationship between two instruments. Often, one instrument’s price “leads” or predicts the price of another instrument. For example, the correlation coefficient of gold versus the dollar shows a strong negative relationship. This means that an increase in the dollar usually predicts a decrease in the price of gold.





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