KLSE Outlook 081031 - Bearish but Increased Probability of a Short Term Relief Rally

Dear Friends,

Let's start our analysis with the Daily Chart. Unlike the Dow (DJIA), the KLSE CI has not even started to form a Price Pattern.

It is still in a well behaved, Strong Downtrend, although the parabolic curve ball nature of the downtrend suggests that this steep fall cannot continue at such a drastic pace for too long.

However, from my personal experience looking at such a downturn (Parabolic Curve Ball), the technical rebound, also known as the Relief Rally, tend to be weak, i.e. maximum of 33% Retracement Value to the total Downswing Value, compared to 50% to 67% Retracement Value for some Correction Waves.

Subsequent to the Relief Rally, the resumption of the Primary Downtrend will take the market significantly lower, albeit a downtrend slope that is less steep in its fall.

This is in view of the significantly bearish sentiment portrayed by the steep parabolic curve downtrend.

The good news is that the Candlestick on Wednesday, 29th October, was a Kanazuchi, also known as the Hammer, which is a Bottom Reversal Candle. Furthermore, Thursday, 30th October's candle resulted in a higher high and a higher low, compared to the Hammer Candle.

This price data suggests that Wednesday's Hammer Candlestick could be a Short Term Pivot Low. Also, the fact that the CI is at Gross Oversold Level, suggests that there is an Increased Probability of a Short Term Relief Rally.

However, it should be noted that the Kanazuchi (Hammer) Bottom Reversal Signal is not as reliable as its counterpart, the Hanging Man, which is quite a reliable Top Reversal Signal. In fact, Gregory Morris' backtesting showed that the Win Rate from such a trade is at only 44%, with a negative Reward/ Risk Ratio.

In view of the lack of reliability of the Hammer Candle Signal, it is unwise to take a Long Position in anticipation of a Short Term Relief Rally Upturn. This is despite the increased Probability of the Rally happening, and the likelihood that the Relief Rally may retrace to around the 975 level before resuming its Primary Bear Market Downtrend.

Why? Because the CI has significant downside risks as opposed to limited upside potential. In such a bearish environment, the CI tend to react badly to bad news, while good news tend to have minimal, shortlived positive impact. Thus, the Potential Relief Rally represents a Short Opportunity upon the Correction Wave running out of steam, rather than an immediate Long Opportunity.

This is because there are two types of key Correction Waves, i.e. a V Correction and a Sideways Consolidation Wave. If a V Correction Wave is encountered, then the Target High is likely to be achieved. On the other hand, if a Sideways Consolidation is experienced, then there will be limited upside compared to the risk taken. With the low Reward / Risk Ratio, it doesn't make good business sense to take such a risk.

The general rule is to trade only in the direction of the Primary Trend and the Secondary Trend; never against them. The only major exception to this rule is when the market has crashed significantly, as in the Dow's situation. For the KLSE CI, the Index did not crash, but instead have fallen steadily in a well behaved, Strong Downtrend, and such a price movement do not suggest a "Climb Back to Health" Scenario, as is the case in the Dow.

In conclusion, the Longer Term Outlook is Bearish. However, there is an increased probability of a Short Term Technical Rebound (Relief Rally). Should this Relief Rally happen within the next few days, the Target High will be around 975.

Nevertheless, this Target High assumes a V Correction rather than a Sideways Consolidation. Thus, we do not encourage taking a Long Position Strategy to capitalize on the potential Rally, but rather, to wait until the Rally run out of steam, to take a Short Position.

Best wishes,

Ooi

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