The air is thinner up here
Comment of the Day

October 09 2012

Commentary by David Fuller

The air is thinner up here

David Fuller's view The air is thinner up here - Most stock markets have had a good run since early June when Wall Street halted its May correction and a few weeks later ECB President Mario Draghi drew a line under 'euro break-up' talk by turning the central bank into a lender of last resort.

Share indices for Euroland's most troubled economies went from serial underperformers to rally leaders. Elsewhere, a number of stock market indices, from ASEAN to Wall Street's S&P 500 and Nasdaq 100 rallied to new highs for the year.

The air is thinner up here but Fullermoney's favourite fundamental indicator - monetary policy - has become even more accommodative. So what happens next?

In recent weeks I have been cautioning subscribers that many stock markets were overbought and therefore susceptible to somewhat larger and / or longer reaction phases. Given all the QE, I would hope that the worst-case outlook would be for a correction of approximately 10% for Wall Street.

After all, and I will tempt fate here, another 'Eurozone crisis' panic should be less likely to occur anytime soon. Similarly, I maintain that an Israeli strike against Iran's nuclear facilities is unlikely this year. Nevertheless, high-frequency trading remains a legitimate concern, not least because it exacerbates moves by increasing correlations described as 'risk-off' and 'risk-on'.

Three other factors also concern me: 1) QE announcements in recent weeks have led to valuation expansion at a time when; 2) the global economy is still contracting, therefore; 3) forecasts for corporate profits continue to be lowered. Earlier this year, investor expectations had been talked down to the point where slighty less bad results lifted share prices. Consequently, investors may be disappointed if more of these earnings 'surprises' are not forthcoming.

Lastly on valuations, Apple has been a talisman for tech and Wall Street generally over the last year but it has now fallen 11.5%, as of today's intraday low, from its high at $705 in 21st September (see also yesterday's comment).

Looking at important charts, Apple is certainly the biggest factor in the Nasdaq 100 Index's 4.8% decline to date and a close back above 2800 would be required to question current scope for sideways to lower ranging. The S&P 500 has fallen back from its September high and although it has yet to break its progression of higher reaction lows since June, a close above 1475 is needed to reaffirm the upward trend which would show further deterioration on a move beneath 1430.

Turning to Asia, we may see a somewhat different story from China, where the previously and serially underperforming Shanghai Composite more than offset yesterday's small decline now that trading has resumed following the National Holiday. A break in the progression of lower rally highs is now within reach and that would be a big step on the path to improving investor sentiment in China.

To the extent that a further rally in China presages an improvement by the world's second largest economy in Q4 and next year, in response to incremental stimulus programmes, this should help the global mining sector. It may also cushion downside risk for ASEAN indices although Wall Street is likely to remain the biggest influence. ASEAN indices have been firm, with a number of new highs recently although we have also seen some upside failures this week, notably for Singapore. A close beneath the last reaction low just under 3040 would provide further evidence that a corrective phase was underway. Malaysia and Thailand look temporarily overextended following strong rallies and last week's new highs, and the latter saw a downward dynamic today. Indonesia had a downside key day reversal yesterday but no follow through today. A close beneath the last reaction low near 4150 would confirm further pattern deterioration. For the Philippines an upside failure would be indicated by a close beneath 5275.

This review continues tomorrow.

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