Market may witness a sharp short squeeze

The domestic benchmark indices ended lower for the sixth successive session. With broader market selling pressure, NSE Nifty declined by 629 points or 3.83 per cent during the last week. BSE Sensex is down by 3.7 per cent. The Nifty Midcap-100 and Smallcap-100 were down by 5.2 per cent and 7.9 per cent. The Metal index was the worst performer with 12.4 per cent. The Energy and PSU Bank indices lower by 10.6 per cent and 8.8 per cent. All the other sectoral indices closed in negative territory. The market breadth has been negative all week. FIIs sold Rs32,701.03 crore and the DIIs bough Rs26,735.36 crore. The volatility index India VIX was up by 10.52 per cent and closed at 23.49.

The domestic stock market is witnessing severe selling pressure in the broader market. The Nifty closed at the lowest level after July 30, 2021. The fall is severe and steeper than earlier swings. The first downswing in the current downtrend is 42 sessions and an 11.9 per cent fall. The second swing took 33 sessions for 14.5 per cent. But, the current downswing is 13.9 per cent fall took just 15 trading sessions. Interestingly, the upswings are short-lived and consume almost half of the time of the downswing. As Thursday's low reaches the previous major swing, there is a probability of the 15671 level acting as support. The broadening triangle's support is near 15150. And the current swing's Fibonacci extension support is placed at 15290, which is a 161.8 per cent extension level.

Generally, the steep and sharp trending moves will undergo counter-trend consolidations for a week and then resume the downtrend. The fact is that the Nifty is moved far away from the short-term average. The price has to pull back the 20DMA sooner or later. At the same time, the Nifty is below the lower Bollinger band, and both the upper and lower Bollinger bands are steeply in a downtrend. The index is yet to make the lower low, but the lower band has already declined below the previous low. This tendency leads to one or two days of indecisiveness or smaller pullback moves.

Interestingly, the long-term trend indicator, 200 DMA, enters into a downtrend for the first after Oct 2020. After the death cross on April 18, the gap between 50 and 200DMA is increasing. At the same time, the distance between the index and the moving averages is also increasing. This may lead to a pullback toward one of the short term moving averages. The index has not moved more 8 eight days in one direction. Currently, the Nifty declining for the last six successive sessions. The negative bias extends a maximum of another two days. In these two days, we need to watch the index for its support or a fresh bottom. If the Nifty doesn't fall below the 15671, the pullback may be short-lived. The immediate resistance is at 16301, and above this, the gap area will act as strong resistance. In any case, in the next two days, the Nifty declines below 15671, and the immediate support is at 15464. So, look for the behaviour of the index at 15464, 15290 and 15150 levels. We cannot forecast more than these levels at the current juncture.

The Nifty has declined 1320 points in just nine trading sessions. The derivatives data shows that there are huge shorts were built up in the system. The PCR is almost in the neutral zone. On a decline, the Open Interest (OI) is increasing almost every day. Before the next weekly expiry, the market may witness a sharp short squeeze. This may increase the Volatility in the market. At the same time, the Implied Volatility is very high, above 20, which means options premiums turned expensive. Derivatives traders have to approach prudent risk management methods.

As we are expecting a bottom next week, if the Nifty protects the probable low for at least three days in a row, and a follow-through day of a big rise with huge volume will be classified as a rally attempt. After a base formation and a breakout, the market will give us medium-term opportunities. Look for consolidation in the market, and understand that technical pullback is only because of short-covering. It is reiterated that one must continue to stay highly stock-specific in approach and adopt a positive, but cautious outlook towards the markets for the near-immediate term.

(The author is Chief Mentor, Indus School of Technical Analysis, Financial Journalist, Technical Analyst, Trainer and Family Fund Manager)