Market breadth indicator forecasts consolidation as advance-decline ratio dips

The average advance to decline ratio, which compares the number of rising stocks to falling stocks, in February hit below 1 for the first time in eleven month

The market is on a rally with the indices scaling newer highs a number of times since last April, but a popular breadth analyser indicates a period of consolidation ahead. The forecast is based on a dip in the average advance-to-decline ratio, which compares the number of rising stocks to falling stocks, in February below 1 for the first time in 11 months.

The average advance-to-decline ratio in February stood at 0.95 times. This level was seen last in March 2023 and since April, it stayed above 1 riding on robust economic fundamentals and participation of foreign investors.

Gaurav Dua, senior vice-president and capital market strategy head at Sharekhan by BNP Paribas, said the broader market sees a much-needed cooling off since the beginning of February 2024. Though the Nifty has managed to record a fresh all-time high, the Midcap and Smallcap indices been correcting which has resulted in a subdued participation on the way up from the broader market and thus directly impacting the advance-decline ratio.

Similar reading was recorded during the September-November 2023 period when the broader market saw a similar decline, while the Nifty continued to inch higher, Dua said.

The Sensex lost 0.7 percent in January but recouped it in February, while the Nifty fell 0.03 percent in January and rose 0.9 percent in February. The Midcap and Smallcap indices gained 5.3 percent and 7.2 percent in January, while the Midcap index increased by 0.6 percent and the Smallcap index decreased by 1.7 percent in February.

In the last few sessions, local equity markets stayed volatile with the regulator's push for an investor protection framework for smallcap and midcap funds to counter a potential "froth" in the market. Investor confidence further wavered due to caution from several brokerages about the surge in PSU stocks since last year.

Mutual funds trade body AMFI advised its trustees to take "appropriate and proactive measures" following the Sebi directive. The regulator's stress tests assess the capability of large AUM schemes to manage substantial redemptions during a market downturn. Proposed measures include inflow restrictions, portfolio rebalancing, and safeguards against first-mover advantages in redemptions. Sebi's goal is to prevent unfair advantages in market downturns and ensuing outflows.

"Recent market corrections, triggered by regulatory advisory for mutual funds, have led to profit-booking . With the market showing fatigue at higher levels and increased buying interest at the lower end, a broader sell-off is evident. Profit-booking is widespread, causing the advance-decline ratio to favour declines. The market is expected to remain in consolidation until positive earnings, cooling inflation, or a rate cut occurs. With elections approaching, the Nifty may continue consolidating for some time" said Kranthi Bathini, director of equity strategy at WealthMills Securities.

Analysts further said that the reasons for the current market correction can be also be attributed to the sharp rise of 17.5 percent within a short time span - from November2023 to mid-January 2024. Analysts believe that the Nifty is undergoing a time-wise correction as sector rotation and stock-specific action has helped the benchmark to stay at elevated levels.

According to Dua, the short-term outlook for the Index remains range bound between 22,300 and 21,500. The broader market is also likely to witness consolidation. For the Midcap Index, crucial support is placed in the 47,000–46,900 zone and at 15,000–14,900 for the small cap index.

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