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Time to Pop the Champagne Corks for the Dow

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#1 ⇑ Haut ⇑ 05-03-2013 16:43:52

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Time to Pop the Champagne Corks for the Dow

The focus this afternoon will likely shift to the US as the market watches with wide-eyed amazement at how far a liquidity fest from the Fed can work magic on the markets. According to the futures market the Dow Jones is likely to break virgin territory today and make an all-time high. Much has already been written about the shaky fundamentals and the fact investors are desperate for yield so I won't add to the debate. What I will add is that if the Dow does hit a fresh all time high today then it would also be notable because volume would be historically low. When markets made a record high in 1999 volume in the Dow was also at a record high. Volume has drifted lower since the 2009 recovery. Why does this matter? You can look at this in two ways: 1, the market is nervous, and still clinging to the securities with the guaranteed buyers (government debt in the West) or 2, the low volume means that there is room for more people to come on board and keep markets trending higher. Whether or not that happens depends on how safe people feel to move out of cash and into equities, in the current environment the next leg higher for US stocks could be an anxious affair.

Waiting for the pullback before joining the party
When the market gets to these lofty highs on thin volume then expect volatility. Fresh money is unlikely to want to buy today at these record highs, and the smart money will wait for a pullback first. This is also the vibe being given off by the Russell 2000, the mid-size US index that is also deemed a leading indicator for US markets. Yesterday's candle stick formed a hang man pattern - a small positive body with no upper shadow. That can mean that bullish sentiment is starting to wane. Thus, we could see a pull-back in equity markets in the next few days. In the Dow key support levels include14, 000 and the 13,800 lows from last week. The catalyst for the next leg higher could be more accommodative action from central banks - for that we need to look to the ECB later this week. A strong payrolls figure on Friday would also be a bonus. Not only would it suggest the US economy is picking up stream, but it appears unlikely that the Fed will end QE3 any time soon, not if Chairman Bernanke and Vice-Chair Yellen have anything to do with it. Thus, we could still be in the sweet spot for stocks as long as the printing presses keep on turning.

Eurozone PMI - dangerous divisions in the currency bloc
The euphoria gripping markets has even managed to boost the Italian MIB index, which is 1.5% higher, however the basis for the boost to stocks seems fairly spurious to me as the boost was driven by the service sector PMI readings. The overall composite PMI for the Eurozone was revised to 47.9 from 47.3, better but still in contraction territory. Added to that, the upward revisions were mostly in the core, with the periphery still experiencing downward revisions. However, growth within the core continues to be uneven. Germany's service sector is in rude health, while France's survey was revised to 43.7 from 42.7, still deep within contraction territory and lower than Spain's reading of 44.7 for last month. Added to that there are fears about growth in Holland, leaving Germany looking like the lone bright spot in the Eurozone economy.

Could the ECB disappoint?
The EUR is still looking shaky in our view although it has managed to hang on to the 1.30 handle. 1.3080 was the high after the PMI data, which is now key short term resistance. Above this is 1.3115 - the base of the daily Ichimoku cloud. On the downside 1.3030 seems to be holding, ahead of 1.2980 - Friday's low. The near term direction will be driven by the outcome of the ECB meeting on Thursday. In recent months the key risk from ECB meetings has not been policy change, but rather President Mario Draghi's rhetoric. He managed to push EURUSD down 700 pips in the last few weeks after touting the idea of a rate cut at the February ECB meeting. We think he will be more cautious at this meeting, as a weak euro makes energy and food more expensive for the periphery's already stretched consumer. Also, although the official expectation for this week's meeting is that there will not be any change to policy or rates, if the ECB doesn't produce the ”cut” touted by Draghi at last month's meeting then we could see the euro start to recover back towards 1.3250.

UK PMI service sector could keep QE at bay
The UK service sector PMI was the genuine surprise from earlier. The index rose to 51.8 from 51.5 in Jan. After the dismal construction and manufacturing surveys that helped GBPUSD go sub 1.50 on Friday, the market was shocked that the service sector held up so well last month. GBPUSD has had a nice recovery in the aftermath although 1.5200 is tough near term resistance. We envisage this cross ranging into the BOE meeting on Thursday, with 1.5050 acting as good support. Like the ECB, we think that the market secretly thinks there will be more QE from the BOE this week as the doves only need two more votes to get more asset purchases. We tend to think that if they stay on hold this could extend the GBP recovery against the USD and EUR. In EURGBP near term support is 0.8550.

Watch out for the ISM non-manufacturing survey at 1500 GMT. This is the next key fundamental driver for markets today, although momentum, especially if the Dow does break fresh ground later, could be the big event today.

One to Watch: EURUSD - key levels

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    Time to Pop the Champagne Corks for the Dow

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