January 23, 2014 / 5:15 PM / 3 years ago

Charts signal temporary setback for European shares

4 Min Read

* European shares at risk of up to 10 pct fall in Feb

* Major indexes "overbought", face strong resistance

* Setback seen temporary, medium-term bull case intact

By Atul Prakash

LONDON, Jan 23 (Reuters) - European shares are at risk of a fall next month, with charts flagging up overbought conditions and strong resistance levels that could see key indexes pull back by as much as 10 percent.

With the Euro STOXX 50 index hovering around five-year highs after a seven-month uninterrupted rally, a pullback may be healthy, enabling new investors to enter the market at more attractive levels, opening the door for further gains in the medium term, analysts say.

The Euro STOXX 50, the euro zone benchmark index, hit 3,176.99 points on Tuesday, its highest since September 2008.

In the event of a February correction, it should find initial support at its December low of 2,916, according to technical analysis, which scrutinises historic price charts for patterns to predict future moves.

A breach of that level could push it down to 2,840 - a 38.2 percent retracement of the 2007-2009 slide and around 10 percent below current levels - where it could find a floor and rebound.

"The index has got limited upside potential as it faces strong resistance. We could see a top towards the end of this month followed by a maximum 10 percent correction in February," Roelof-Jan van den Akker, senior technical analyst at ING Commercial Banking, said.

"A pullback is what the market needs to build momentum for the next rally back up again."

Charts indicate that a correction could trigger around the 3,170 mark - a 50 percent retracement of the 2007-2009 sell-off - and less than 1 percent away from current levels.

Technically overbought conditions increase the chances of a fall. The 14-day relative strength index (RSI) for the Euro STOXX 50 crossed above the 70 mark late last week into overbought territory, hitting its highest levels since May 2013 - just before the index shed 11.5 percent in a month.

"We see Europe vulnerable for a short setback into mid- February before resuming the underlying bull trend into summer," Michael Riesner, head of European technical analysis at UBS, said in a note.

"All in all, the underlying momentum in Europe is still healthy and this suggests higher prices (in the) medium term," Riesner said.

The Euro STOXX 50 has gained 55 percent since hitting a low in mid-2012 but the rally is showing signs of exhaustion. The index is down this week after gaining in the past two weeks.

"The index is up against channel resistance from 2011 at around 3,176. There is bearish divergence present ... which is a sign of trend exhaustion," Murray Gunn, head of technical analysis at HSBC, said.

Charts suggest that most other European stock indexes might come under selling pressure. Germany's DAX, which scaled new record highs this month after a 26 percent gain last year, could see an acceleration in selling.

Societe Generale technical analyst Loic de Galzain advised caution in the near term given European markets' closeness to resistance levels.

"(A) consolidation of 5 to 8 percent could kick in if any trouble arises," he said.

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