N225 Futures – The beginning of the end?

Hourly Chart

1,143.28. That is the number which amounts to 7.32% fall in Nikkei 225. Price took a total beating today after the HSBC Chinese Flash Manufacturing reflected shrinkage instead of the stable growth that everybody’s been hoping for. This may be a legit reason for true bearishness to seep in, but looking across Asia, none of the stocks indices suffered the same magnitude of decline as Japan. Singapore’s STI went down 1.83%, Hang Seng 2.48%, ASX 1.99%, while Chinese Shenzhen and Shanghai Composite indices only lost 0.74% and 0.68% respectively. This leads us to believe that the weakness in Chinese Manufacturing PMI is merely a catalyze, rather than the main reason why Japanese stocks took a beating today.

If we can accept that the decline in Nikkei is more than what fundamentals can allocate for, then the implications are much more scarier. Is this the bearish signal that we’ve been talking about ever since Nikkei has been rallying on bullish euphoria? Considering that the overreaction of the slide on Nikkei is 3 times that of the next biggest loser, the signs are good. But we would need to be sure that today’s capitulation can translate into a full blown sentiment reversal before calling this a full blown bearish reversal.

Daily Chart

What sort of confirmation do we need? Isn’t the fact that price has erased 7 trading days worth of gains in one swoop good enough?

Actually no. It is a well known fact that declines in stock tended to be much faster than accumulation, and given how Nikkei 225 has been accumulating consistently since the start of the year, coupled with the sudden pace of bullish acceleration in May place the likelihood of a strong bearish pullback high from a technical point of view. This would mean that despite prices breaking away from the rising Channel that typifies May’s action, price may still find support along the 2 rising trendlines which represent the slower, more stable pace of growth which is a better representation of how Nikkei 225 has been performing in 2013. Hence for starters, a test of the lower channel is necessary and a break preferred for the longer-term bearish correction to be established.

Stochastic readings are showing good signs though, with Stoch line breaking below the 80.0 mark, signalling a bear cycle is underway. With ample room for readings to go, a move for price to hit below 14,000 is possible. However traders should be aware that readings have not hit Oversold region since mid Nov 2012, and as such traders should start watching out for interim troughs around 50.0 levels which may imply short-term bullish rebound along the way.

Another sign that traders can refer to is how the US markets react to this new development. Similar to Nikkei 225, US stocks are also running the risks of over extension and is due for a sharp reversal. If US traders exhibit bearish behaviors, we could see optimism evaporating quickly across the globe which will drive Nikkei 225 lower as well as stock prices will basically trade continuously lower in a vicious cycle.

Fundamentally, Japan is not doing well with recent export data below expectations. Yields has also jumped higher, with 10Y benchmark rate tagging 1.0% during today’s trade – a sign that market is requesting for higher premiums to hold JGBs – suggesting that investors do not trust Japan and BOJ as much as before. With fundamental economic data looking weak, the shift from bullish euphoria to a bearish sentiment will hit stocks doubly hard, giving higher probability for the technical confirmation that we seek to take place.

More Links:
NZD/USD Technicals – Approaching Multi-Year Trendline
GBP/USD – Falls Sharply to Two Month Low Near 1.50
AUD/USD – Lower on Chinese Manufacturing Decline

This article is for general information purposes only. It is not investment advice or a solution to buy or sell securities. Opinions are the authors; not necessarily that of OANDA Corporation or any of its affiliates, subsidiaries, officers or directors. Leveraged trading is high risk and not suitable for all. You could lose all of your deposited funds.