Capital markets appear to be adjusting astonishingly well to the weekly diet of various negative Black Swan scenarios so far this year.
This weeks cataclysm has featured our fearless political & federal authority types frenetically dealing with empty treasury coffers, expanding the 'alleged' US debt ceiling - which stands a shade over a cool US$14.2 Trillion, and effectively being in default.
World wide inflation concerns are now a part of the daily dialogue. And the end of the historic QE II is about to turn into a pumpkin at midnight (May 31st).
Obama has uncharacteristically 'transitioned' from the traditional 'Kenyan Keynesian' spending policy/model to a promise of US$4 Trillion in spending cuts some time this decade - or later.
Evidently the US Government is continuing to pay their bills at least until September - perhaps setting up the annual October blood letting. Raising the infamous US debt ceiling for the 73rd time since 1967 has yet to be 'debated' - but apparently there is no other reasonable alternative? This will be the 12th new 'line in the sand' ceiling since 2000.
World wide inflation is being taken very seriously by our Chinese friends who once again prudently jacked up their interest rates - while they raise their 'surplus' ceiling. The core Producer Price Index points to a serious 'indisputable' rising domestic inflationary threat which is currently being summarily dismissed as a 'transitional' episode. It be very interesting to see who purchases T Bills & Bonds in June once the QEII gets dry docked. Perhaps a few of the 'notable shorts' will be looking to cover?
I believe that current major equity markets are 'transitioning' from the single strategy yield and liquidity model to more of a range bound trading environment. Technical factors should supersede fundamentals until the clouds part and the sun shines. Short term momentum considerations will be the order of the day.
Further significant upside will be restrained by the numerous significant credit challenges that appear to have been 'kicked down the road!' The prospect of inevitable rising interest rates and high energy costs will also limit speculative buying enthusiasm.
Any significant downside will be muted by significant economic strength & recovery, deep liquidity pools, and very impressive corporate conditions. Euro-US swap spreads are now normalized reflecting low systemic risk. Bloated adjusted bank reserves indicate ample & excessive liquidity. Improving GDP performance will stimulate bargain hunting and continued takeover and merger activity.
Looking at a chart of the DJIA and S&P one would think that treasury budgets were in massive surplus rather than deficit. The two and half year major uptrend remain solidly intact along with up trending moving averages. Bell weather Alcoa reported excellent earnings to kick off the earnings season - but it appears much of the 'earnings upside' has been discounted in this record recovery across the board. Relative strength and MACD momentum divergence indicates potential intermediate term market weakness.
DJIA 12,000 and S&P 1,300 continue to be my stop loss trigger points. A correction back to DJIA 11,500 and S&P 1,200 represent solid support and accumulation entry levels. Currently both broad markets are fairly valued and appear to have been considerably 'normalized' during these turbulent geo-political times. US Dollar and Bond markets have discovered support at key levels in spite of considerable negative sediment.
Our good friends at Goldman Saks apparently have pulled the plug on their long Canada positions - or perhaps are looking to cover their shorts? The TSX has 'doubled topped' at a shade under 14,400 and recently broke my key 14,000 level as a result of the downgrade. I am concerned that key former leadership stocks (Rim, CP, Teck, Potash) continue to diverge significantly. The heavily weighted Financials also seem to be in distribution mode and could possibly represent a greater downside market threat.
Many resource issues have diverged significantly from the related commodity prices. It may be a reflection of the sector's challenge to digest the recent avalanche of corporate finance offerings. Current mid to large cap valuations range from moderate to compelling depending on the sector. The junior sector is flush with newly raised funds and frantic drilling schedules.
Visible sector rotation is muted to limited. The CD$ is consolidating the US$1+ level and will breakout out over US$1.05. The CD Dollar has underperformed most other major currencies relative to the US dollar this year. US$1.10+ effectively shuts down the Canadian manufacturing sector until further notice. It would be a bonanza for cross border US retailers according to my wife!
The possibility of a brand spankin' new National regulator rests in the capable hands of our Supreme Court - which means a political decision is pending. The upcoming TSX-LME merger verdict appears to be more clandestine in nature.
Gold and Silver have registered new 'fresh' all time highs and appear impervious to significant selling pressure in the short term. US$1,500+ gold and $45 silver appear to be in the bag. The threat of increasing margin 'squeeze' requirements and higher interest rates would certainly introduce wild and woolly volatility swings for the summer. Oil price volatility will also increase with the pending summer driving season. US$4+ per gallon unleaded may limit the length of the average trip. Agricultural markets are consolidating recent gains and appear to be solidly positioned for further upside. A major concern is that speculative commodity positions are now 4 times greater than the frenzied 2007/08 top - and we all know how that ended. It will be interesting to see where commodity markets find eventual long term sustainable supply and demand equilibrium levels.
Bottom Line: As the theme suggests I believe the equity markets are 'transitioning' from the singular 'buy and hold' model to a range bound momentum driven trading environment. Many key broad economic conditions are quickly improving but much of the positive 'upside' has already been built into many of the stocks and sectors. Most key markets are reasonably priced which I think is a major achievement considering the various soverign & geo/political circumstances world wide.
Assuming a fairly 'expected/anticipated' earnings season - the markets should spend the next quarter digesting the considerable challenges ahead in a clearly definable 10-15% trading range. For the non technical types - their time may be better spent analyzing the sudden and sharp swings at their favorite golf clubs!
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