For many traders and long-term investors who track sentiment indicators, the National Stock Exchange's benchmark Nifty is precariously perched.
The benchmark index is just above the 200-day moving average (DMA), a popular technical measure used to analyse long-term trends. Broadly, a fall below 200 DMA is a bearish sign; a rise above this is considered positive.
Analysts said the Nifty's 200-DMA was at 5,624, less than one per cent below on Tuesday's closing of 5,641.60. The index fell below this mark mid-way through the session on Tuesday but recovered towards the trade closing.
Traders and long-term investors watch this level closely because it is a strong support for the market in weak times. Once this support is broken, the market usually falls rapidly, analysts said. "In the past, whenever the 200-DMA has been broken for three days in a row, the correction was swift. The fall is in the six to eight per cent range," said A K Prabhakar, senior vice-president, Anand Rathi Financial Services.
Analysts said traders go short, while long-term investors shuffle their portfolio, when benchmark gauges fall below the 200-DMA. "Many traders will square off their long positions if the level is convincingly broken, which could result in the market drifting lower," said a derivatives head of a foreign broking firm.
The 200-DMA of the Bombay Stock Exchange's benchmark Sensex
is at 18,545, also less than one per cent below on Tuesday's closing level of 18,704.53.
Some analysts are betting on the benchmark indices falling below this crucial support next week. "The 200-DMA might not sustain if we look at the amount of put options accumulated by FIIs (foreign institutional investors)," said Siddharth Bhamre, head-derivatives, Angel Broking. "Also, some of the stocks such as Reliance Industries
, Larsen & Toubro
, and Bharat Heavy Electricals
, which have predominantly been with strong hands, have seen short position build-up," he said.
However, indices or stocks usually do not close below the 200-DMA in a hurry. "The possibility is high that the Nifty will bounce back soon because this could be a strong support," said Prabhakar.
Analysts said the previous occasion the Nifty broke below its 200-DMA was in the first week of May 2012. The benchmark indices fell close to eight per cent over the next two weeks after the breach. What's a moving average?
A simple moving average shows the average value of an asset's price-an index, stock, commodity--over a period. The most widely tracked are the 15, 50, 100 or 200-day moving averages by technical analysts. While 15 and 50 are short-term trend indicators, the 200-DMA is a long-term trend indicator. What is the significance of 200-DMA?
Around 200 trading days exist in a year, after deducting weekends and holidays. If an index or a stock closes below the 200-DMA, it is said to be in a long-term downtrend. This means a new buyer of the index or stock is willing to pay less than the average price paid in the earlier 200 days. When it trades above the 200-DMA, it is in a long-term uptrend. If it closes below, it is said to have entered a bearish phase. The 200-DMA acts a major support in a bull market and as a major resistance in a bear market. How do market participants use the 200-DMA?
It is tracked by knowledgeable investors with long-term stock portfolios. When an index or stock conclusively breaks below or out of its long-term average, investors churn their portfolios to suit the market conditions.