The S&P has rallied almost 9% in seven session off the lows seen on the first day of this month. Volume has lagged, however, and as we come to test the 50DMA & 200DMA, downside risks are back into play. The head & shoulders “breakdown” through S&P 1040 was a bear trap, confirmed by the ridiculous 54% AAII bearish readings that week. A jump from mid-30s to mid-50s is unsustainable and showed that everyone had gone risk-off on a technical pattern. The true head & shoulders, however, is at the 1015 level, the Oct 2009 & July 2010 lows (as well as July 2009 highs). Flow data has confirmed short-covering and fast money has rallied the market, with no conviction as per volume data.
Meanwhile, the 10yr Tsy yield, as mentioned in the previous post, retraced back to its 310-315bps breakdown level (and subsequently sold off), suggesting the risk rally is over, at least implied by the bond market. This confluences with the moving average resistance in the equity indices, suggesting risk may find selling here. The recent divergence between Tsy yields & equity suggest equity is overpriced, if the bond market is taken to be the leading indicator that it has been since April when it failed its 400bps breakout and reversed course downward. The 10yr yield corrected back up to June lows but never got above those levels.
After the YoY 10.3% Q2/11.1% H1 GDP growth data from China, the AUD/USD went vertical, shooting up 50 pips in a matter of minutes. But since then it has retraced all of those gains and against the backdrop of overbought risk markets facing all kinds of resistance, its .8780-.8860 range seems at risk for breakdown and consequent resumption of downtrend.
Iron ore, copper, and coal prices are down significantly from their highs, while China is cooling itself down in an environment of global austerity (aka decreasing import demand). Global trade has all but halted, as judged by the Baltic Dry Index, which is on its 37840th consecutive day of decline.
These factors do not bode well for the Aussie Dollar, and all it takes is a little risk aversion to send it underperforming and exposing the RBA’s rate hikes as malconceived. The high rates will eventually pop the Aussie property bubble (one of only two remaining bubbles Jeremy Grantham observes), furthering the downside risk, and probably leading to a reversal in rate policy from the RBA, which would be an embarrassing turn of events that would be disastrous to Australia’s currency & equities. The RBA effectively leveraged the entire Australian economy and growth story (via rate hikes) into the China export story. But that is one-time demand, from stimulus engaged at the depths of the financial crisis, and the global push for tightening and austerity will most likely send Australia into its first dose of true recession and skyrocket its employment (currently consisting of millions of miners supplying China’s now-peaked demand for building commodities). The Shanghai Composite (in bear market territory) isn’t making things look any better, either.
Bank earnings are coming up for American stocks and the technical backdrop shows a low-volume rally that has brought financials back up to significant resistance & the 200DMA in the context of a major head & shoulders topping pattern. There’s always a chance blowout earnings result in bank stocks breaking out, but at these levels even good results will probably result in selling the news. With recent market vol, trading volumes and leverage used by hedge funds has declined dramatically (even getting WSJ exposure), while hedgies have faced big redemptions in the face of poor May & June numbers (Paulson may single-handedly be catalyzing the selloff in gold with his big redemptions after an abysmal May & June).
JPM is on deck tomorrow for earnings. Let’s take a look at how the market has fared in the past few quarters following JPM earnings. Market loves to pump on low volume ahead of JPM results, only to dump on high volume subsequently. The technicals imply this pattern may continue this quarter, as well.
On smaller timeframes like 30min/hourly charts, we still have higher highs & higher lows, suggesting risk is still bid. But with heavy resistance above, low volume behind the rally off July 1 lows, a poor macro backdrop, and slowing momentum, we could see some distribution resulting in a reversal of trend. My take is that this may be near the top of this move, judging strictly by technicals. JPM (and subsequent bank) earnings may provide catalyst for movement.
















Here we go again
18 07 2010Risk assets plunged today, with Nikkei futures seeing a 250 point drop Thursday overnight, as the Yen was bid heavily across all pairs, with funds flocked to safe haven and carry trades reversing course. Several commodity FX yen crosses are on the precipice of head and shoulders breakdowns, after selling off heavily back to their necklines. Today’s biggest mover in FX was CAD/JPY in fact, which is very deflationary. Commodities in general are losing their fundamental bid. Intermarket corrs are at 1987 crash highs, eliminating the diversification premium investors offer for commodities. And global growth slowdowns, austerity, and deflationary threats in Eurozone, USA, & Japan are bearish for commodities, the nations that export them, and risk in general.
Speaking of commodities, the Aussie Dollar suffered big selling as well, both against JPY & USD. The skyrocketed nominal housing prices and very hawkish rate policy since crash lows could turn out to be more bearish than bullish if exports to China slow, as Chinese economic data and the one-time nature of its stimulus package suggest. With the Baltic Dry Index posting record consecutive losses, global trade probably will not be a “way out” of bearish developments in the forthcoming months.
On a technical basis, the AUD/USD seems to have double-topped at its June highs and was unable to break up to or back above its 200DMA (which price has had very high confluence to), leading to its current bear flag formation. As my technical analysis and FX Concept’s Jonathan Clark’s views suggest in the charts below, it appears to be a great short. The AUD/JPY does as well, as it found selling at its 55DMA and appears primed for a move down to 72.50 and 70.00 support levels, the latter of which corresponds to April 2009 levels.
And with the Aussie Dollar, so goes copper, as it is primed for a breakdown through the 2.60-2.70 zone, after finding selling at its 55DMA.
Even gold has bearish chart developments, breaking down through its 55DMA and subsequently forming a bear flag. The long gold/short euro trade on sovereign debt crisis was a popular and crowded position many traders took during the euro’s plunge but with the recent diminished-interbank-funding-fueled euro rally, many of these positions will most likely be facing liquidation and unwinding. The chart below exemplifies the recent inverse relationship between gold and euro (historically not the case) with DZZ (inverse gold ETF) and EUR/USD spot.
With AUD, CAD, copper, oil, and gold selling off big and showing very bearish chart developments on intermediate and long term time frames, the markets currently imply very deflationary developments.
The biggest news in JPY space, however, was the USD/JPY breakdown below 87 support. The cross experienced a breakdown last November through that level but it reversed course very quickly. The last time the dollar fell below that level for a material amount of time was 1995, which subsequently led to the BOJ instituting ZIRP. Fifteen years later, Japan hasn’t changed policy and nominal rates cannot fall any further. BOJ intervention is becoming increasingly likely. This time around, however, the sovereign sector is levered up and further monetary easing may lead to secular shifts in perception and eventually result in a JGB crisis (previously out of the question due to the private/financial sectors being the ones with bad debts, which inherently causes a rush to safety of its yet-to-be-levered up government’s bonds).
Equity space also found big selling today, with the S&P down 2.88%, after finding huge resistance at its 55DMA (starting to sound familiar?). The head and shoulders (neckline 1015) remains in play and deteriorating price and expanding volume to the downside suggest this down move will be sustained for some time. The head and shoulders target is around 815, near February 2009 lows/support. A chart of the SPY ETF proxy is posted below, to show volume as well as price action.
And with the 12 month moving average breaking down (and subsequently retracing and resuming selling), this wave down is implied to be a longer-term selloff rather than a correction.
The technical confluence in all of the charts of risk assets is an alarming development. With so many assets (in all classes) sitting on head and shoulders support levels after selling off from 55 and 200DMAs on heavy and expanding volume, the downside risk to risk assets is very high and a strong move down appears the most likely scenario.
This also coincides with the safe havens finding strong bids, namely USD, JPY, & Tsys. 10Yr yields are back below 300bps (as we were expecting in previous posts) and still implying much further price declines in equity, a correlation we have been tracking for weeks.
Everything is moving in tandem, which is indicated in inter- and intra-market correlations at or near all-time highs. Meanwhile, the JCJ Implied Correlation Index closed today just under 75, implying crash risk is elevated.’
The selling in risk implies a rush to cash globally, with the currencies with largest debt outstanding finding the largest bids ahead of deleveraging. Interbank funding costs have also dramatically risen, especially in Europe, where the Euribor-EUR Libor spread is spiking, indicating a larger portion of marginal interbank lending is occurring at the higher end of reported rates. Again, very deflationary developments.
And market internals aren’t any better, with breadth very negative and volume expanding greatly as markets selloff. The 20DMA on SPY volume is currently about 40% higher than just last March, in the middle of the exhaustion phase of the massive rally. In addition, July 6 saw the first “Hindenburg Omen” issued since July 2008, two months before the stock market crash. There were also Hindenburg Omens issued in June 2007, four months before the all-time top in American equity markets. Historically, these occurrences resulted in a 5%+ move to the downside 77% of the time and have preceded every major market crash. We don’t expect another crash of fall 2008 proportions, but we do expect a strong move down in risk markets, possibly in all-out panics in certain assets, such as certain commodity currencies vs JPY & USD and specific Euro nation bonds (specifically CEE and Spain).
Economic data is supporting what the markets are beginning to price in as they reverse and sell of, on big volume. The ECRI LEI came in today at -9.8, which historically has always preceded a recession. Consumer confidence at 66.5 vs 74.5 consensus vs 76.0 prior. And the below-consensus China GDP numbers have been adding downside pressure as well. It appears that global growth recovery has peaked and as peak stimulus is spent and a global push for austerity is underway, deflationary forces are beginning to be priced back into the market.
And Hungary’s breakdown of talks with IMF & EU signify two things: 1. without austerity (and consequently significant economic deterioration), nations (esp CEE) will not qualify for IMF funding; 2. the Hungary situation will bring back the theme of European sov debt crisis, which should shift the EUR trend back down as interbank funding loses thematic importance to sovereign funding; and 3. go long USD/HUF and CHF/HUF and stay long.
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