Today I am going to show you top 7 signs which I use to predict stock market corrections.These top 7 corrections signs will make huge difference in your trading and investing career once you start following them.
1.Previous swing levels
Yes the first one is previous swing levels.You have to use them as a support and resistance.Look below how this stock fell down from the high.
So did you have any clue that it could fall from that level ?? Answer is absolutely yes.
Now look at the below chart.On the left hand side of this chart,you have a previous swing high which could act as a resistance now.
Now take a look at next swing high in below image.You will find again the previous swing high acted as a resistance.
This also works with support levels.Take a look below how previous swing low acts as a support level.
So by looking at above example,you should consider all swing highs and swing lows as a good area of resistance and support.Possible corrections might happen at these levels.It can be new fresh order or profit booking.
Now lets look at second type of stock market corrections.
Volatility Index is most important factor to understand in trading and investing.If you are an derivatives trader and like to trade in futures and options,than following explanation will further improve your skills.
Look for volatility index bottoms when markets are making new high
Lets say your markets volatility index is considered to be at top when it reaches a certain value.For below example I am using Indiavix.
Indiavix is the leading volatility index for Indian stock markets.
Top and bottom price levels for INDIAVIX
We have selected ranges to keep INDIAVIX simple.
Bottom price levels-12-10-Potential market top
Top Price levels-14-16-Potential market bottom
Volatility index acts opposite to the market index.
Look below,what happened in market after volatility index touched its bottom price levels.
NIFTY index was making lifetime high on 13th June 2018.At the same time INDIAVIX touched the bottom level range of 12-10.After this,correction happened in NIFTY.
When markets are making low,look for volatility index tops
On 23rd MAY 2018 NIFTY index was making lows in an correction mode.At the same time INDIAVIX touched the top level range of 14-16.After this,NIFTY ended its correction and started moving up.
So with this we can conclude that understanding volatility can help you in identifying tops and bottoms of your markets.Before a correction happens you will see the potential signs of correction.
3.Change in open interest increasing or decreasing
Open interest is open contracts available in markets.
So if a particular derivatives contracts moves a significant move,followed by decrease in open interest,its time to become cautious.
Take a look at below example.
This is a NSE stock M&MFIN.Future contract open interest is decreasing and its stock prices started moving up.
Now lets look at another example where future contracts open interest started increasing and stock prices also increased.
As you can see I have shown the same stock example again in the above image.
So if you are getting confused with this take a look clearly.Both the images are of same stock.But the difference is there contract expiry.
In the first image you have M&MFIN OCT contract and in the second image you have M&MFIN NOV contract.
Trick here is to understand that institutions were selling the nearest contract that is October month.
As soon as they realized market sentiment as bullish they exited from there short positions and hence we noted decrease in open interest of October month derivatives contract.
And increase in November month contract open interest gives a bullish sentiment about this stock.
So you can now use this logic with your trading strategy.
4.Stocks nearing its monthly option chain support and resistance
Option chain is the easiest way to identify support and resistance of stocks having derivatives contracts.
Strike price of highest call option open interest is your resistance and highest put option open interest strike price is your support.
As per open interest
Resistance-Strike price having highest call option open interest
Support-Strike price having highest put option open interest
As the prices of stocks or index futures nears its support and resistance price levels as per option chain,you could see a correction or rebound from those levels.
5.Trend change in lower time frames near support and resistance
Lower time frames is where the trend first starts to change.For example a 15 min chart could give first indication of trend change.
Than a 30 minute chart could confirm the trend change,followed by 60 min and than in daily chart time frame.
Take a look below at VEDL NSE stock.Daily chart of this stock has given an uptrend breakout.
This stock is down for more than a year now.But can we buy this stock at these price levels ??
Lets look at lower time frames charts like 15 min,30 min and 60 min.
If all these time frames have uptrend as correlation,than it might be a good bet to buy this stock.
So first let’s look at 15 min time frame chart below.
A 15 min chart has many swing low and high points.But in overall VEDL NSE stock looks strong and moving upside.
Same is the outlook for 30 min and 60 min time frame charts of this stock.
Do remember this,a combination of higher highs and higher lows is a strong uptrend confirmation.Now check 60 min time frame chart below.
All minor time frames correlate with each other in this uptrend formation.
I might get stopped out if prices go down from here and hit my stop loss price.But I think I have done good technical analysis on VEDL NSE stock and added it in my portfolio.
6.Sudden shift in buyers and sellers quantity
Below is the daily chart of NATIONAL STOCK EXCHANGE INDEX NIFTY.It was continuously falling down.So as a retail trader,we have a tendency of thinking opposite things.
So you might think of market ending its correction and going up.
On the next trading day,retail trader might have had bullish opinion about markets.
Nifty index future contracts were beginning to make a green bullish candle.
We had more buyers on nifty futures than sellers.Take a look below.
Buy quantity had 241500 contracts and sell quantity had 101625 contracts in NIFTY futures.
All of a sudden,we started seeing more number of selling contracts and buying contracts increasing further.
In below image you will find NIFTY buyers and sellers quantity change on left side.
On the right side we have BANKNIFTY index chart.
At this movement number of sellers in NIFTY index has increased and guess what happened ??
Whole market crashed further.During this drop,number of buyers drastically decreased.
The bullish green candle which looked like a rebound,completely changed to a very negative bearish candle.
So its always better to trade with conservative approach and avoid being aggressive in markets.
7.Highest high and lowest low candles/Bars changing colors
This is the most neglected type of candlestick pattern.Take a look at below image.This is chart of NIFTY index in daily time frame.
After making a swing high we saw price rejection or profit booking which took the price lower and made a bearish reversal type red color candle.
If you look at highlighted low point where the candle color changed to green,what do you think might have happened ??
Profit booking and new fresh buying orders could have made bullish green candle when it made swing low point.
And after that candle,prices started moving up.
So this candlestick colors combined with support and resistance levels works very well.
In addition to this you should use other confirmations like candlestick patterns or any other indicator to increase the accuracy.
I have picked top 7 signs of stock market corrections which can really help you in improving your trading decisions.
So use these corrections and let me know how it changed your trading and investing approach by adding a comment below.