Index outlook: Spotlight on the RBI

Market participants will once again turn their attention to the Reserve Bank of India and the monetary policy this week. The week could therefore begin on a cautious note with the policy announcement dictating the trend for the rest of the week.

With consumer price inflation continuing to remain elevated, it is highly unlikely that there will be any easing of policy rates this time around. But the Federal Reserve indicating that the taper of its quantitative easing programme will be more “measured” from this point reduces the pressure on our central bank to keep Indian bond yields competitive.

The decline in sovereign bond yields globally also needs to be noted in this context. The Bloomberg Bond Index declined to its lowest since May 2013. Investors’ worry about US economy shrinking more than forecast in the first quarter and the European Central Bank and Bank of Japan leaning towards a more easy monetary policy has caused investors to move into safer fixed income securities, causing a decline in bond yields.

Market will also have to react to the depressing GDP growth of 4.7 per cent for 2013-14 on Monday morning. On a positive note, most economists are projecting a more robust growth — at least 100 basis points higher — this fiscal.

Contrary to its reputation, May has proved to be a wonderful month for investors with the frontline indices delivering 8 per cent return. It is therefore not surprising that investors decided to take some profits off the table last week. While the announcement of the Modi Cabinet dominated discussion, there wasn’t anything to cheer about in the array of ministers. The noises made thus far have also not been out of ordinary. But these are early days and the Government does have the burden of high expectations to deal with.

There was intense intra-day volatility last week as the heavy May series contracts rolled in to expiry. Volumes have improved, especially in the cash segment, reflecting return of the retail investors. FIIs have been selling equity over the past week. But they have net purchased $2.3 billion of equity in May.

Oscillators in the daily chart have gone into a deep decline following last week’s correction. But both the daily ROC and RSI are yet to cross into negative zone. If they manage to reverse from the zero line, it will mean that we are only in a short-term correction with the uptrend set to resume soon.

Weekly oscillators have also registered a mild decline, implying that the correction so far is not strong enough to impact the medium-term uptrend. The bearish engulfing candle in the weekly chart is, however, a worry since it implies that the downtrend can continue.

The Sensex hit the intra-week high of 25,175 before sliding lower last week.

The week ahead: The index reached the key short-term support at 24,200 on Friday. A reversal from this zone will take it higher to 24,920 or 25,375 in the coming sessions.

But the inability to move above 24,650 will mean that there is volatility ahead. The index will then be set for decline to 23,838 and then 23,474 this week.

The medium-term: The medium-term trend in the Sensex is not under threat as yet. But as explained before, the target of the third leg from the 19,963 low occurs at 25,106. Since the index is reversing after achieving this target, some caution is required.

Key level to watch out for from a medium-term perspective is at 23,500. If the index halts above this level in this bout of correction, it can spend some time in the band between 23,500 and 25,500 before moving higher to 26,227.

But decline below 23,500 will mean that the index is heading lower to 22,690 or 22,000.

The Nifty too moved sharply lower from its intra week high forming a bearish engulfing pattern in the weekly chart.

The week ahead: The Nifty recorded the low of 7,118 on Friday before rebounding. Traders can play long as long as the index trades above 7,200. A bounce early in the week can take the index higher to 7,400 or 7,563 in the weeks ahead.

Conversely, the inability to move above 7,287 will be the cue for traders to initiate fresh short positions. Downward targets will then be at 7,100 and 6,990.

The medium term: The medium-term view for the Nifty is positive. But the fact that the Nifty is pausing close to 7,500, which is a key medium term target, implies that traders need to exercise some caution at these levels.

We could be in for a medium-term correction that pulls the index down to 6,943. If the index halts at this level, there can be a sideways move between 6,940 and 7,560 for a few weeks before there is an upward breakout. The medium-term view will turn negative only on a close below 6,940.

Most global indices moved sideways at the top end of their current trading range. The CBOE volatility index too oscillated between 11.5 and 12 before closing on a flat note.

Some of the European markets such as Germany broke out of a medium-term trading range last week. They appear to have begun a new leg of the long-term uptrend. This trend is reflected in the DJ Euro STOXX 50 index as well. Most Asian indices also had a strong week and managed to close at multi-month highs.

Both the Dow and the S&P 500 closed at record highs last week. But we need to see the follow-up action over the next two weeks. If the indices retreat within the range next week, that will signal a false breakout.

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