When the Pullback Happens, Don’t Panic

 

We’re at the stage of the cycle where everyone is getting nervous.

Markets have been on a tear for a long time now. In fact, it’s the second longest bull market in history.

The NASDAQ, S&P 500, and Hong Kong markets are all at record highs.

Japan bucks the trend and is ‘only’ at a 26-year peak (there’s a cautionary tale in there somewhere.)

This is a widespread boom, not one localised to a particular area. Even the Polish and Hungarian markets are booming away.

It’s easy to conclude that irrational exuberance has taken hold. And a huge crash is around the corner.

A growing number of voices are expressing alarm at what’s unfolding.

Maurice Obstfeld, The International Monetary Fund chief economist, warned on Monday that ‘the next recession may be closer than we think.’ And asserted that policy-maker complacency was the ‘overarching risk.’

Axel Weber, chairman of the board of Swiss bank UBS AG, also warned on Tuesday that:

Complacency in the markets is a key risk: Valuations are at unprecedented levels’.

The headlines in the mainstream press of late are also apocalyptic…

‘Perfect storm’: Global financial system showing danger signs, says senior OECD economist

Now that’s a statement sure to frighten the general public.

When I see headlines like this the first thing I do is check out the charts. I trust price action a lot more than journalists and economic talking heads.

So I mulled over the big indexes looking for signs of what the big investment money was really doing.

Here’s what I found…

The chart below shows the US S&P 500 over the last ten years. This is a good gauge for the strength of the US markets in general, and in turn the global situation.

The old saying about the US sneezing and the world catching a cold is generally still true.

Most global economic situations — like the GFC — originate from the USA.

This month the US market shot above the 50 day moving average and are well clear of the 200 day moving average. S&P500 Index | 26-01-2018


Source: Incredible Charts
[Click to enlarge]

You can see the strong rise over the past ten years is eclipsing the steep falls of the GFC in 2008.

Incidentally the Australian market recovery has been a lot less significant. We’re still not above our pre-GFC levels.

The pink line is the 50 day moving average and the grey line is the 200 day moving average.

This month, you can see how the US market shot above the 50 day moving average and was well clear of the 200 day moving average.

So what does that mean? 

Market correction coming but not a collapse…yet

I tend to agree more with Laszlo Birinyi, long-time strategist and founder of Birinyi Associates.

He said on Tuesday:

Right now, the market is at the upper end of the trading range. It’s 5 percent over its 50-day moving average, and those are areas where the market tends to digest, consolidate, take a breather but not go down.

In other words, a breather is coming.

It’s simple physics. Eventually you run out of new buyers.

In an environment where the financial press is negative, I suspect we might get a ‘hard’ correction rather than a sideways move.

As greed turns to fear, panic selling can occur very fast. And there’s no shortage of potential ‘triggers’ out there from Trump to North Korea.

In times of panic the bears will come out and proclaim the end of the world is nigh.

If such a situation occurs I’d expect the market to fall below the 50 day moving average line and possibly below the 200 day moving average.

But this could actually be a great buying opportunity.

Make investing great again

You see this strong market up-trend is still very much intact. And any falls would be a natural part of the cycle. Necessary in fact, for the up-trend to continue over time.

And there’s a few tail winds still to play out.

With Trump’s tax cuts going through this year, plus a potential infrastructure spending boom on the way, the major governments of the world will be happy to prop up the house of cards in their own short term interest.

For China that means the 100 year anniversary of the founding of the Chinese communist party in a couple of years.

For Trump that means the next US election cycle in a couple of years.

Strong vested interests with the capability and motivation to print money and keep the boom times going.

Of course it won’t end well. How can it when the world is awash with cheap money?

But it would be silly to bet against it too soon.

That’s the conundrum investors must work out right now.

And it’s certainly something to bear in mind over the next few months.

Kind regards,

Ryan Dinse,
Editor, Money Morning


Ryan Dinse is an Editor at Money Morning.

He has worked in finance and investing for the past two decades as a financial planner, senior credit analyst, equity trader and fintech entrepreneur.

With an academic background in economics, he believes that the key to making good investments is investing appropriately at each stage of the economic cycle.

Different market conditions provide different opportunities. Ryan combines fundamental, technical and economic analysis with the goal of making sure you are in the right investments at the right time.

Ryan's premium publications include:


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