Trade setup: Dollar rebound can disrupt rally; risk-reward ratio unfavorable

Fueled by strong FII inflows, the domestic equity market continued with its advance as it ended yet another day with decent gains.

Despite a not-so-buoyant market setup that was inherited, Nifty had a positive start to the day. The index stayed within a steadily upward rising trajectory for the whole day. Not even at one point did it show any weakness during the session. The headline index managed to maintain its gains and ended piling up another 140.10 points or 1.08 per cent.

Nifty ended on a fresh closing high. There are all possibilities that the index may attempt to mark fresh lifetime highs again as liquidity continues to fuel the market.

The predominantly weak US dollar index is largely benefiting emerging markets in the form of FII inflows. However, with DXY being at support level once again, it would be prudent to chase the rally cautiously as we see the markets attempting fresh highs. Volatility rose as India VIX inched higher by 1.84 per cent to 20.1825.

Wednesday's session is likely to see the level of 13,145 and 13,230 acting as resistance points, while support would come in at 13,010 and 12,915.

The Relative Strength Index (RSI) is 70.58; it is now above 70 in a mildly overbought area. Importantly, RSI continues to show bearish divergence against price. The daily MACD is bullish and above the 'signal line'. However, the slope of the histogram continues to get narrower indicating deceleration of momentum. Apart from a white body that emerged, no major formation were seen on the candles.

The pattern analysis shows that following the breakout above 12,000 level, Nifty has gained over 10 per cent, and in the process has completed its price measurements from every possible angle. By far, it has deviated too much from its mean, while trading above all moving averages. The lead indicators continue to pose bearish divergence against price action.

The given technical setup does not mean that there can be an overnight crash or a sharp decline. It may even continue posting some incremental higher levels as well. However, all we need to keep in mind is that the current rally is driven purely on liquidity inflows and weak US dollar. Any rebound in US dollar will be a reason enough for the rally to get disrupted badly.

The current setup is highly risk averse with the risk-reward ratio being highly skewed in an unfavorable manner. We strongly reiterate to keep fresh buying at very modest levels and guard profits vigilantly at each higher level.

(Milan Vaishnav, CMT, MSTA, is a Consulting Technical Analyst and founder of Gemstone Equity Research & Advisory Services, Vadodara. He can be reached at milan.vaishnav@equityresearch.asia)