Please Note: Blog posts are not selected, edited or screened by Seeking Alpha editors.

Asian Equity Indices: Short-Term Bearish Before Long-Term Bullish

|Includes:iShares MSCI Taiwan ETF (EWT), GXC, HGSFF, HGSXF, HSNGF, HSNGY, HSXUF, MCHI, PEK, TWN

Asian Equity Indices: Short-Term Bearish Before Long-Term Bullish

This study is based on technical analysis of three Asian equity indices-the Hang Seng Index (OTCPK:HSXUF, OTC:HGSFF, OTCPK:HSNGY, OTC:HSNGF, OTC:HGSXF), the FTSE China A50 Index Futures (GXC, MCHI, PEK), and the MSCI Taiwan Index (EWT, TWN). Individually, each look poised to begin a long-term trend up following a shorter-term sell-off correction move.

Hang Seng Index (Hong Kong 50 Index)

Overall Analysis

The HK 50 is three weeks into a probable one and half month to three month pullback, likely to be followed by the start of a major long-term move to the upside for at least six to eight months, targeting close to the 2007 highs.

Monthly Chart

The monthly chart tells the whole story. On the chart below, we can see that the HK 50 created a symmetrical triangle trap based on the 2007 high, 2008 low, and subsequent lower highs and higher lows. It then broke out near the apex of the trap, with a strong upward move (marked with the green right arrow), before then clearly retesting the triangle trap (marked with the red left arrow), and then recently finding horizontal resistance at the prior monthly highs (marked with the black down arrow).

(click to enlarge)Click to enlarge

Given that it hasn't yet pulled back off this horizontal resistance level to a sufficient degree, it's likely the HK 50 is going to be sold down before finding support at a higher low, where it's probable to take off to the upside. This short-term sell-off would be just a countertrend pullback. Based on the time it took for price to reach the horizontal resistance level before, this impending pullback sell-off could take two to three months to occur, though the timing depends on how quickly price reaches major support levels, and can be aided by examining technical indicators.

The overall target for the long-term HK50 long is based on the projection given by the triangle trap, by taking the measurement of the first high or low, whichever comes second, and drawing a vertical line to the other end of the trap. In this case, the actual high comes from the high in 2007, so to be technically exact, the measurement of the target would be based on the distance from the 2008 low to the 28,000 price region. I think this is not a target to aim for. It's based on pre- and post-market crash values, and it's just too excessively large to reasonably hold out for. Not only that, it's fairly common for people to draw targets based on the subsequent high and low, not the first ones, if the first ones are excessively far apart. Doing that brings a more viable target into focus (marked by the right purple arrow) at 31,407, one that also roughly overlaps with the 2007 high. The overlap with the 2007 high gives added credence to using this more conservative measurement for targeting because a number of people are likely targeting that area, regardless of the triangle trap, and it's extremely unlikely that the HK50 will just break through that barrier without a serious pullback reaction first.

(click to enlarge)Click to enlarge

Technical Reasons for an Impending Short-Term Sell-Off

The primary reason to believe a pullback sell-off in the HK50 is beginning is simply that it's reached major long-term horizontal resistance. It hasn't yet corrected to any major degree, and the chances of price just breaking through it without a larger sell-off reaction is just unlikely. The probability of a continued sell-off is further corroborated by the probability of a short-term pullback in the MSCI Taiwan Index, an index the HK50 has correlation with. Beyond these two factors, there a number of technical reasons to believe we can expect further weakness before the start of the longer-term move.

  1. Monthly MACD Histogram Divergence: We can see there is monthly MACD histogram divergence with the most recent rise and the prior rise-while the HK50 has rallied to the same horizontal resistance level, the MACD histogram is at a lower level than it was before. This pattern normally leads to a pullback in price. The last time MACD histogram divergence occurred on the monthly chart was from the end of 2008 to 2010, and resulted in a serious sell-off, but only to a pullback zone, where it carved out a higher low. This is what we might look for in this recent situation as well.

(click to enlarge)Click to enlarge

  1. Monthly Stochastics Divergence/Overbought: The monthly stochastics oscillator also has slight divergence with price, a situation that also occurred from the end of 2008 to 2010. Moreover, the monthly stochastics is in the overbought zone, where it's been fairly accurate in predicting local tops.
  2. Weekly MACD Divergence: We can also see weekly MACD divergence, with both the signal lines and histogram. There's clear signal line divergence, from the late 2012/early 2013 test of the horizontal resistance level to the most recent one this past month. We can also see MACD histogram divergence from the early September to the recent late November/early December test of the horizontal resistance level. Both of these predict a fall In price, and the MACD signal lines themselves have plenty of room to fall-though they're not overbought, they've begun to turn down at resistance, a situation many traders, including algos, are going to be less likely to trade against. To note, the weekly stochastics is in middle-ground, so they're not very helpful at this time, though it did mark the recent top.

(click to enlarge)Click to enlarge

  1. Daily MACD Divergence: The daily MACD signal lines diverged with price, from the September local high to late November/early December local high, indicating a sell-off is probable.

(click to enlarge)Click to enlarge

  1. Daily Stochastics Overbought: The daily overbought stochastics has just entered the overbought zone, which may be useful in timing a short entry to trade this overall HK50 pullback move on the monthly.
  2. 5 Wave Move Completion: Elliot wave tends to be a good rule-of-thumb for determining the end of moves. On the daily chart, there are 5 distinct waves-3 waves up, with 2 corrections in between. Normally, 5 wave moves are followed by 3 wave corrections. This impending sell-off therefore may coincide with a 3 wave correction, often called an A-B-C correction. If the most recent move down in December was the A wave, the minor rise in the last week may be the B wave of the A-B-C correction. If B wave up finishes in this general vicinity, the C wave down would target around the 22,000 level, which overlaps with prior horizontal resistance zones and would be well-within the .382-.618 Fibonacci retracement area, where the end of the overall monthly pullback move could very well technically occur. This potential downside target would need to be taken into context with other technical evidence of a low, however, as on the chart, a pullback only to that region looks visually a little shallow.

(click to enlarge)Click to enlarge

Entry Guidelines

Because the impending further weakness has not yet gotten underway, it's difficult to provide entry and stop loss guidelines except very general ones. At this time, we should look for an entry in the 20,750 to 22,250 region. An obvious stop would be below the trap retest low, but if the index begins to base and form a higher low or two on the daily chart, a stop could be placed underneath that base.

Conclusion

The HK 50 is probable to be in the early part of a one and a half to three month pullback. Following the pullback, the index is likely to begin a multi-month rally, though it may take close to a year, targeting just under the 2007 highs.

FTSE China A50 Index Futures

Overall Analysis

Like the HK 50, the China A50 looks to have broken out of a monthly trap, and may be beginning the process of putting one more retracement sell-off before starting its longer-term move up.

Monthly Chart

The China A50 looks to be in a similar position to the other two Asian indexes. Looking at the monthly chart below, we can see the China A50 created a falling wedge following its 22007-2008 rise and collapse, after which it broke it on strong volume in late 2012 (green arrow), before retesting the wedge trap in early 2013 (red arrow). It's since been in the process of creating what may be a monthly higher low. That the trap is being traded is evidenced by two factors: one, the strength of the breakout move, visible by the initial large monthly candle move up that closed near its high, and the retest of the trap that held, visible by the move back to the wedge trap support that ended up creating a lower wick, indicating a serious amount of buying pressure in that area.

(click to enlarge)Click to enlarge

We can also see that the HK 50 and the China A50 are well-correlated if we look at daily charts side-by-side. The main difference is the HK 50 has traded more strongly since the start of 2013. Given the correlation, we have further reason to believe the China A50 is in fact in the process of carving out a monthly higher low, to be followed in time by a longer-term bullish move up.

(click to enlarge)Click to enlarge(click to enlarge)Click to enlargeMost recently, the creation of a lower low on the daily China A50 chart indicates that there's likely one more major sell-off that's probable to occur from a daily lower high point, which would be in line with the same probability of a short-term sell-off in the other two indexes

(click to enlarge)Click to enlarge

Entry Guidelines

While it can be traded individually based on its own support and resistance levels and technical readings, it may be prudent to trade it simply in tandem with the HK 50, given the strong correlation. This may be helpful because the HK 50 has more clearly definable levels of visual price support for the potential impending pullback, and the timing of the end pullback correction is more easily able to be forecasted on the HK 50.

Target

The target for this overall move would be based on the measured projection (in purple on the chart below) of the falling wedge trap. Using the high from 2009 and the low from 2010, we find that the trap projects a breakout move of 3,364.35. If we add that to the price location where the index broke out, we find that the projected target is 10,210.04. Given the slight variations in the way the wedge may be drawn among traders, we can use this target, along with the HK 50's projected target to time an exit from both positions more precisely. As an additional note, the fact that this target is based on a monthly falling wedge trap drawn without the extremes of 2007 and 2008 lends credence to using the smaller measurements for the HK 50 projected target, as it's likely both will trade together.

(click to enlarge)Click to enlarge

Conclusion

The China A50 is likely going to remain weak for a two to three month period as the HK 50 finds a pullback bottom, before starting an uptrend targeting a monthly trap projection level at roughly 10,210.04.

MSCI Taiwan Index

Overall Analysis

The MSCI Taiwan Index has just broken out of long-term symmetrical triangle trap, and is projected to extend higher for a multi-month rally to the 355 region.

Monthly Chart

On the monthly chart below, we can see that the Taiwan Index formed a head and shoulders pattern after rallying off the 2008 lows. This pattern was then negated, before the Index continued on to form a symmetrical triangle trap, marked by the two red trendlines. The index then broke through the upper trap boundary trendline in the last week and a half, on notable volume and without much opposition from sellers.

(click to enlarge)Click to enlarge

These two events-the head and shoulders negation and the upside trap breakout that followed-likely did not occur in isolation from each other. A head and shoulders negation shows that buyers were strong enough to overwhelm selling interest, despite the tendency of these patterns to fully play out. If sellers were unable to take the index down under those circumstances, it's unlikely they'll be able to have their way with the buyers in the near future. Given the timeframe that this negation occurred on-three and a half years, the near future likely means a few years as well. It's therefore not unexpected that the index recently broke to the upside.

Similarity to the RUB/JPY

A recent example of this head and shoulders negation to upside breakout pattern occurred on the RUB/JPY, described in more detail in the ruble report. We can see the similarity of the two charts if we place them side-by-side. Below, we can see the weekly Taiwan Index is at a similar location to where the RUB/JPY was at the time of the report:

(click to enlarge)Click to enlarge

(click to enlarge)Click to enlarge

The RUB/JPY then followed with a pullback/retest, before the upside move began in earnest, visible on the right side of the chart below.

(click to enlarge)Click to enlarge

Target

The formation of the symmetrical triangle trap also gives us the benefit of a measurable upside target. While I did not think it was realistic to use the high and low from the 2007 to 2008 period to draw the measured target for the HK 50, I do think it's realistic to use the low from 2008 for the Taiwan Index. The reasoning is that this would produce a projected target based on a measurement from the late 2010 period, where the target measurements for the HK 50 and the China A50 came from. Given the general similarity among Asian indexes in the way they're looked at and traded, it's unlikely for targets to be measured based off periods that years apart. Moreover, since only the low in 2008 is used as part of the Taiwan Index trap measurement, the target doesn't fall prey to being excessively large. It's well within bounds of reason and normal sized moves on this timeframe.

The distance from the 2010 high to the lower boundary gives a value of 125.30. Since the breakout occurred at 298.20, the projected target is 423.5.

(click to enlarge)Click to enlarge

Weekly Chart & Entry Guideline

We can see the price action more clearly on the weekly chart. This week, the index reached a prior local top from early 2013, where it may begin a pullback to retest the trap. Supporting this is the presence of weekly MACD histogram divergence, weekly stochastics divergence, and an overbought daily stochastics cycle.

(click to enlarge)Click to enlarge

(click to enlarge)Click to enlarge

Of course, price may extend a bit higher before beginning its pullback. One key difference between the Taiwan index chart and the HK 50/China A50 charts is the timeframe on which an impending pullback might occur. While the pullbacks for the latter two indexes may take two to three months, the Taiwan Index could technically complete a valid retest in as little as a week and a half, if the pullback were to occur from this point at just under the 305 level. Because of this, an entry may need to be taken separately from entries on the other two indexes. While it's possible the Taiwan Index could do a significant retracement, pulling back as far as the lower trap boundary, and thus move in tandem with the HK 50 and China A50 in terms of timeframe, more often trap retests simply go to around the boundary price broke out from. In this case, a retest would come around 297.50. Therefore, an entry within a few points of that price level, with a stop at 290, or for more give, a stop at 280, may need to be taken on its own, as the index might begin its move up first.

Conclusion

The MSCI Taiwan index has broken out of a monthly trap, from which it can be expected to target the 423.5 level after pulling back first in the very short-term.

Overall Conclusion

To summarize, the three indices-the Hang Seng Index, the FTSE China A50 Index Futures, and the MSCI Taiwan Index-each appear to be in the early part of a sell-off correction move, before beginning multi-month uptrends targeting price levels that are based on technical traps. These traps seem to be in play as evidenced by price action, or specifically market behavior around key levels of the traps. The correlation between these indices should be considered when taking entries and throughout the lives of the trades until the final profit-taking areas are reached.