The Weekly View: Raising Our 2012 S&P 500 Trading Range
Comment of the Day

February 07 2012

Commentary by David Fuller

The Weekly View: Raising Our 2012 S&P 500 Trading Range

My thanks to Rod Smyth, Bill Ryder and Ken Liu of RiverFront Investment Group for their superb market letter. Here is a brief sample:
Leadership in the financial markets has changed from last year, when higher yielding more defensive stocks performed. In 2012, stocks are being led higher by emerging markets, small caps, and large-cap technology - the MSCI Emerging Markets Index is up 16% year to date, the Russell 2000 is up 12% and the Nasdaq 100 is up 11%. At the same time, long-term Treasury bonds have fallen 1.7%. We believe some of the extraordinary monetary policy support by the world's central banks, led by the Federal Reserve and the ECB, is beginning to filter through to the real economy, judging by the job growth acceleration reported last week.

David Fuller's view Steroids in the form of quantitative easing have cushioned downside risk for the larger western economies. Commentators who prefer Austrian School economics tell us that we would have been better off by allowing the overleveraged global financial system to collapse in a traumatic debt default, so that it could then rise like the fabled phoenix once the ashes had settled.

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To each his own and it would have been fascinating to read about that John Martinesque outcome but this commentator is relieved not to have witnessed a far greater financial maelstrom. No doubt professors of economics and their students will be debating the merits or pitfalls of 'The Bernanke Solution' for decades to come.

Meanwhile, we know that accommodative monetary policy is good for stock markets, and vice versa. We saw the bullish effects most dramatically from 2Q 2009 onwards, until China broke ranks and began to tighten monetary policy in August of that year and was gradually followed by other central banks in growth economies over most of the next two years. Even the ECB raised rates twice and the Fed halted QE for a while.

Fast forward to the climactic selling of equities in August 2011 - Wall Street's swoon (weekly & daily) prompted the Fed to re-embrace QE, and Brazil (weekly & daily) moved first among growth economies to commence lowering short-term interest rates once again. This marked the ending of what Fullermoney had described as a short, sharp bear market and the beginning of a support building process for an impressive recovery by most stock markets. The ECB in Mr Draghi's hands commenced its own version of QE last month by offering massive loans to European banks (weekly & daily).

The Weekly View cites this year's impressive gains to date and if we measure recoveries from last year's lows which were mostly reached between September and October, leading share indices have already risen by over 20%. That is a statistical bull market by most definitions, confirmed by the change in leadership mentioned above.

Fullermoney has been saying that this looked like a cyclical bull market and since overall sentiment is still cautious, we assume that it has further to run. Inevitably, there will be reactions and consolidations, as I mentioned yesterday, in response to temporary overbought conditions as we see today. So far this year, these have been confined to brief rotational pauses, indicating that demand still has the upper hand.

Somewhat bigger reactions and consolidations occur within almost all medium-term trends and this is unlikely to be an exception. However, we think these will occur within the medium-term overall upward trends for most share indices and be followed by further gains. Meanwhile, there are always risks such as the possibility of a surge in crude oil prices (weekly & daily) on supply concerns. (See also Eoin's comments below.)

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