Is the Aussie Bull about to Charge?

Aussie bull market

Let’s drill down on the Aussie market today, see if we can work out what’s going on. Because, on the surface, there isn’t much happening..

To understand what I mean, you need to have a look at a chart of the benchmark index, the ASX 200. It’s been a model of indecision over the past few months. It can’t work out which way to go.

But, as you can see in the chart below, this period of indecision may soon come to a close.

After peaking in May, stocks corrected quickly and made a low in June. Ever since, the index has been volatile, within a narrowing range, as marked by the green lines.

The convergence of this range suggests that we are approaching a break out point. That is, stocks could go sharply higher or lower in the coming weeks.

Which way will the market go?

S&P/ASX 200 28-08-17
Source: Optuma
[Click to enlarge]

My feeling is that, the market will move higher soon enough. That’s because stocks are in an uptrend and probability generally favours an upward trend continuing.

But, for this to happen, you really need to see the banks start to move higher again. And judging by the chart of the financials index, which the big banks dominate, that doesn’t look like happening anytime soon.

Take a look…

S&P/ASX 200 28-08-17
Source: Optuma
[Click to enlarge]

The banks were behind the broad market fall in June, as details of the bank tax came out. Then the sector rebounded, but over the past few weeks, selling has returned.

‘Higher Low’

What you want to see now, is the sector making a ‘higher low’. That is, this current correction should bottom and turn higher somewhere above the recent low of 6,900 points.

If it can do that soon, I’ll have greater confidence that the banking sector will help to push the broader market higher.

For such a scenario to play out though, will require a change of mindset from investors. Right now, banks are considered risky because of their exposure to consumer debt and the overheated property market.

But the property market has been overheated for years and consumer debt just keeps growing, to the benefit of the banks.

And while there seems to be a ‘property bubble to burst’ article out every week, the reality is that while interest rates remain ultra-low, there is no catalyst to push prices lower.

That means, bank’s earnings should hold up. And if investors’ perceptions about the safety of those earnings start to change, you could see bank share prices start to move higher.

Resources, on the other hand, have been pushing the market higher. In fact, the sector is at a very important juncture. Take a look at the chart below, which shows the performance of the ASX 200 Materials index:

S&P/ASX 200 28-08-17
Source: Optuma
[Click to enlarge]

After reaching a high in February, the sector spent a few months correcting. But since bottoming in June, it’s been moving higher again. Resource stocks are now back at their highs from earlier in the year.

A break through this high would be bullish. If the banks can at least hold their own at the same time, then resources could pull the market higher by themselves.

It might not happen right away. The sector may need to pull back a little first, before making another attempt to break through the February highs. But I think it’s a good chance that this scenario will unfold.

Finally, here’s another reason to be bullish. Small caps are finally stirring. Have a look at the chart below, which shows the ASX small ordinaries index:

S&P/ASX Small Ordinaries 28-08-17
Source: Optuma
[Click to enlarge]

After tracking sideways in a volatile range for most of the year, small cap stocks are starting to move higher. Unlike earlier in the year, there hasn’t been a large sell-off recently.  Instead, buying support has been constant. Each little dip or sell-off is met with more buying that pushes prices higher.

This is important because in any bull market, you want to see small stocks leading the way. In this instance, if you see another push higher from the small cap stocks, it will give greater support to the ‘market heading higher’ theory.

You should see this play out in the next few weeks. I’ll keep an eye on it for you. If you’re positioned for a bear market then, or a sizable near term fall in the market, keep this analysis in mind. And get ready to change your views should things not play out the way you expect them to.

It’s OK to be wrong in the market. After all, we’re trying to predict the future here. But, it’s not OK to keep being wrong in the face of overwhelming evidence to the contrary.

So be flexible. Especially in a situation where it looks like the market could go either way.

Regards,

Greg Canavan,
Editor, Crisis & Opportunity

Greg Canavan

Greg Canavan

Greg Canavan is a Feature Editor at Money Morning and Head of Research at Port Phillip Publishing.

He likes to promote a seemingly weird investment philosophy based on the old adage that ‘ignorance is bliss’.

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