16th October - How strong are stocks?
19 October 2015
TECHNICALS:
S&P weekly continuation chart
The bounce from the 1850 level in the S&P
feels right for two reasons: first, the band of
support from the Prior Highs at 1846 and
1891 and second, the endorsement of the
strength of that band by the bounce in 2014.
This time the bounce has been more
circumspect.
There two attempts to break through the
support in quick succession.
On balance, that is an additional argument
for the bulls.
But...
S&P Dec 2015 daily chart
The wide-ranging market price action since
the initial sell-off has taken place beneath
very clear resistance.
That resistance is created from the lows of
the top formation that caused the sell off in
the first place.
The market has to break up through the
band of resistance from those lows before
the bulls can really take encouragement
from the market.
Afterall, it is precisely at current levels that
the market failed before a few weeks ago.
FUNDAMENTALS:
At first glance, the recent weakness in stocks, driven initially by weakness in the Chinese economy, might look as though it is coming to an end.
Over recent weeks the S&P and other leading equity markets appears to have rejected the lows for a second time. So traders could be forgiven for thinking that the period of weakness has been nothing more remarkable than a correction in a longer term bull market. But is it?
Stocks initially sold off because of a sell-off in Chinas equity markets driven by Chinese economic weakness. But that wasn’t the only area of the global economy where weakness existed.
In the Euro zone the ECB is pumping liquidity into the economy via a QE program in an attempt to drive inflation away from near zero, back up to a target of about 2%. Thereby it wants to turn an at best tepid recovery into a more viable self-sustaining expansion.
In Japan the authorities there are still trying to understand the mystery of Japan’s seemingly never ending period of stagnation characterised by periods of brief expansion, lapsing back into recession, accompanied by deflation.
Then there are the emerging market economies of Russia, India and Brazil.
Brazil is in recession, so there is no growth engine there. India is growing but reforms are still needed to unlock its full potential. That leaves Russia! Russia is an economy that expanded on the previous relentless rise of energy prices, mainly oil. But oil prices have collapsed and despite a recent correction, are ripe for another move lower, meaning the Russian economy is in the middle of a severe recession.
The UK economy continues to expand, but isn’t able to drag the global economy with it.
The US economy is, but is at best only enjoying a moderate recovery with low inflation.
So from a global growth perspective the outlook isn’t that bullish for stocks, especially given the IMF’s recent forecast for global growth and the fact that global trade is no longer acting as the growth multiplier it has been since the second world war.
So why are stocks and the S&P currently rallying?
The answer is because the US Federal Reserve is finding it difficult to start the rate hiking cycle they have flagged for much of this year. Throughout the summer a Fed rate hike in September was widely expected, but the Fed didn’t deliver because of global growth concerns and fears global economic weakness could damage the US economy.
In about 10 days time the FOMC meets again to decide whether to hike or not. The committee is divided, some want to hike because of the need to begin the long slow process of normalising US monetary policy, but others don’t. They judge that there is no rush given the current conditions already mentioned above.
Traders have breathed a sigh of relief and cut their short positions. Taking the markets, especially the S&P, away from the lows. But is the fact that the US Central Bank is worried about hiking rates because weak global growth could damage the US economy a reason to expect a new leg of the bull market in stocks to kick in? I don’t think so.
In our opinion the best that can be hoped for is that the Fed’s caution offers the S&P and others some support. But we judge that equity markets remain vulnerable to bad news.
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25th October - The Euro bears take charge 
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2nd October - Bonds v Equities