India’s “Nifty 50″ stock index gave us all an example of how to identify confluence support and what happens when price pulls back – especially from a bear flag – into this level.  Let’s learn a few lessons and look at what might be ahead.  For those of you who don’t follow India’s markets, this chart contains valuable lessons for you as well.

NIFTY Weekly Index:

The 4,000 Index level provided support for this week’s powerful 370 point or 10% rally off that level.  We’re slightly below where the prior week closed, as we lost 10% that week… so price is back to where it started in early July.

I mentioned in my last Nifty Index Update (July 4th) that odds were ripe for a correction, and that I view the whole structure as a larger corrective move (reference that post for the monthly structure).  The initial ‘next swing’ target was this confluence support level, which we have now achieved and held.

In terms of lessons, notice how we identified confluence support by noticing that the 200 week and 20 week moving averages converged at the same level, with the 50 week just below it – moving average convergences are almost always targets to play for, and areas to expect for support (that logic sets up the ‘cradle trade’).

It just so happened that price is bouncing off the 61.8% Fibonacci grid from the highs to the lows (I sometimes draw Fibonacci grids inverted).  This is using the ‘closing price’ method to originate the grid, which often gives better results than spike highs or lows.

Also, 4,000 on an index is psychological “round number” support… all of these held the price last week and set the stage for this week’s bounce.

Let’s drop to the daily chart now.

NIFTY Daily Index:

The lesson to learn from the daily chart is that price formed a significant Negative Divergence that preceded the recent correction down into the 4,000 area.

Also, we have completed an almost perfect Bear Flag down into this level, which also provided a basis for why price was likely to bounce – the price projection level of a bear/bull flag often provides a turning point in markets.

The level to watch closely in the Nifty is 4,500, as that would break above the ‘flag’ of the Bear Flag and would create a higher swing high which could open up a ‘magnet trade’ to the 2009 highs around 4,700.

Like most global markets, we observed a powerful swing up this week – we’ll have to watch closely for continued strength, but again, watch how price reacts to the 4,500 for clues.

If it fails to break above 4,500, then we are still in perhaps the early stages of a down-move.  A break above 4,500 would almost certainly set up a test of the 2009 highs.

For those interested in a broader perspective, I now offer the weekly “Intermarket Technical Reports” (click for more information) which take a top-down monthly, weekly, and daily structural view of key markets and highlight areas to watch, opportunities to play for (on given timeframes), and lessons as I observe them in Bonds, Gold, Stocks, Crude Oil, and the S&P 500.  Thank you to all subscribers and I would love to have you as well as a member!

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Corey Rosenbloom, CMT