Currently, the market is in a Confirmed Uptrend. We have upgraded the market status to a Confirmed Uptrend on April 28 as the Nifty advanced over 1.4% on volume higher than the previous session. Now is the best time to make the most of your gains. This is when most breakouts are successful, and hence an investor carefully following the patterns of his/her stocks makes big gains. Now, most of the investors have a question, when will the rally end, and how to identify the market top. Once your total capital is invested in the market; you need to pre-empt a probable weakness in the market so that one can lock in gains and play defensive, with less or no exposure. A distribution day can provide a systematic and credible approach to do that.
We all know the importance of market status in determining an investor’s stance in the CANSLIM style. It not only helps you realize gains by being aggressive when the risk is minimal but also protects you from unwarranted risks of markets.
What is a Distribution Day?
A distribution day is when a market representative index (for example, Nifty 50) loses more than 0.2% in a day, with volume higher than that of the previous session. When a distribution day occurs, it hints that big institutional investors are exiting or reducing their positions in the market. Institutional activity is what moves any market, especially in India, where retail participation is small.
How does it help in sensing market weakness?
When the market is in a Confirmed Uptrend, the intensity of market weakness is determined by the distribution day count. An investor keeps count of all valid distribution days during a Confirmed Uptrend. Successive distribution days imply a weakening market. But what threshold of distribution day count is enough to say the market is under pressure? A distribution day count of 2–3 is benign and usually normal in a Confirmed Uptrend. But when the count increases to 5–6, one should prepare to get his/her positions trimmed.
Distribution Day Expiry
Though a distribution day hints at institutions liquidating their positions, it loses its impact after 25 trading sessions. A distribution day is also removed from the count after the index rallies 5% above that day’s close.
Nifty 50 is in a Confirmed Uptrend from April 28; it experienced its first distribution day on April 30 (D1) and the second on May 4 (D2). These are indicated in the chart below. Today (May 7), Nifty reclaimed its 50-DMA, which is a good sign. Further upside can be expected from here if the leaders exhibit strong price-volume action.
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Read our last week’s article: Avoiding mistakes in a volatile market