Chart 1: KLCI chart as at 26/01/2011.
As shown on chart 1, the FBM KLCI fell below the T1 uptrend line, as profit taking pushes the KLCI lower. Therefore, the mid term uptrend has been violated. However, it does not mean that the KLCI would immediately reverse to a downtrend movement. Actually, up to now, the KLCI has not shown any sign of a downtrend formation. Meanwhile, as indicated by A, the KLCI on Wednesday, had falling sharply in the morning, but it gradually recovered most of its early losses (-21.07 points), to close with a long lower shadow line. This is an early sign suggesting that the KLCI is supported by the 1500 psychological support level.
Scenario 1: KLCI fall below the 1500 mark, and down trend begins.
Chart 2: KLCI forms lower-high, breaking below 1480~1500.
As shown on chart 2, if the KLCI should form a downtrend, the first important characteristic would be a lower-high formation. In other words, the KLCI would first rebound, but it would not return to its previous peak, but rather starting to reverse at a lower peak. As the KLCI starts to fall again after the rebound, the next level to watch out for is the 1480~1500 support. If the KLCI should break below this level, it would be a new low, by then, the risk of a downtrend would be higher.
Based on the behavior of the KLCI movement, the time required for the KLCI to form a lower-high, (starting from the beginning of its correction from 1576), until it breaks below 1480~1500 level, should be around 1 month to 2 months. Theoretically, the smaller the correction, the shorter time required to form a downtrend reversal. In the beginning of the 2008 downtrend, the KLCI took 33 trading days to form the reversal, which is 1 and a half months time. Not only that, almost every downtrend of the KLCI has lower-highs formation, and especially the one in 2008, where the lower-high formation was typically obvious. (Study Chart 2B)
Chart 2B: The beginning of a downtrend of KLCI in 2008.
Scenario 2: KLCI forming Triangle Consolidation.
Chart 3: KLCI forming a triangular consolidation pattern.
The purpose of this week's article is to point out that once the KLCI break below the T1 uptrend line, it might not be forming a downtrend right away. In fact, there is a good chance that the KLCI would prolong its consolidation by forming a Triangle pattern, of sort. Technically, the characteristics of the KLCI formation a Triangle would be a rebound from above 1500, then reaching a peak lower than the 1576 level, and retreat again, but the second time when it retreat, the falling should be less severe, as the fluctuation of the KLCI would be getting smaller. This will result in the KLCI forming both the higher-low as well as lower-high. (Refer to Chart 3).
In case you haven't know, there are two advantages if the KLCI should form a Triangular consolidation pattern. First, when the market is consolidating, the new inflow of capital will off-set most of the selling pressure, especially for blue chips. However, as the fluctuation of the KLCI is generally low, the new investors would not suffer huge losses, thus it is less likely to trigger huge selling. At the same time, it gives more time for the undecided traders to make up their mind, whether to continue hold, or to close position.
Secondly, after the market consolidate, it is likely that the KLCI would have avoided its risk of a downtrend formation. Particularly, if by the time the consolidation is over (in which selling pressure are neutralized by new inflow of capital), and if the regional markets were still doing well, the KLCI would have a better position in resuming its uptrend movement. Generally, the time required for the KLCI to consolidate could take as long as 3 months. Please refer to chart 3B.
Chart 3B: KLCI triangular consolidation patterns during the bull run since 2009.
Scenario 3: KLCI breaks new high after a consolidation.
Chart 4: KLCI forms higher-low, and break above 1577, making new high.
Other than the two scenarios mentioned earlier, the KLCI could also form higher-low and later break above 1577. However, this would not be easy for the KLCI, as it needs more new inflow of fresh capital to absorb the selling pressure.
Therefore, we shall take a closer look in this progress. First, the KLCI has to break above and return to above the 14, 21, 31 EMA, and we shall expect many pullback after the KLCI should break above the 14, 21, 31 EMA, especially when the KLCI is approaching 1577. Whether the KLCI could break above the 1577 or not, the KLCI has to stay above the 14, 21, 31 EMA successfully first, and then followed by the increased of market volume, plus the regional markets are still doing well, then only the KLCI would have a chance to break above 1577. As for the timing for this break out, it is generally harder to predict.
By understanding the above mentioned 3 scenarios, investors are well-prepared to any one of the out come. Basically, the above scenarios could apply to individual stocks too, but the behavior of individual stock varies, and therefore, investors are required to analyze their stock with maturity and a considerable flexibility.
This week's Case Studies：
Chart 5: Dialog – 7277 as at 26/1/2011.
As indicate by A, despite the market correction, price of Dialog remains above the 14, 21, 31 EMA dynamic support, and this suggests that its uptrend has not been violated. Therefore, for those whom are already in position, you could choose to hold. As long as you follow the trailing stop theory, by lifting your cut loss level gradually higher according to the 14, 21, 31 EMA. As for those whom are interested in taking up a new position, a general rule, is to wait for the formation of higher-low. However, even if price should rebound from the 31-day EMA, we will have to watch out for any lower-high formation, for it would be an early sign of a possible reversal.
Kencana:
Chart 6: Kencana – 5122 as at 26/1/2011.
As shown in Chart 6, the arrow A indicates that price of Kencana has fallen below the 14, 21, 31 EMA since its correction started from the RM2.96 peak. This suggests that the uptrend is temporary violated, and those whom had follow the trailing stop method would have to take profit or cut loss. If price should rebound and return to above the 14, 21, 31 EMA, investors are advised to watch out for any lower-high formation, which would be an early sign of a reversal pattern.
Conclusion:
We should always be aware that the market could reverse any time, so as the individual stocks. However, this does not mean that when the market reverse and we would have no protection against it. Provided one could carefully identify the reversal pattern and honor his or her own trading plan, he or she would have prepared for this unpredicted event. Of course, a little loss is inevitable, but for the long run, those who are well-prepared and honest to him or herself, will profit from the market.
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