- New Science in old markets -

US indices make bottom extensions

There were several bottom extensions in US stock indices yesterday, at a daily scale. This obviously points to an imminent or immediate end to the current weakness and so we advise covering all tactical shorts that you may have adopted since these markets started falling from compressions and reversing into long positions right now. The principal signals:

There were also bottom extensions in some sectors – pharmaceuticals, gold mining and the REIT index. Pharma is hard for us to recommend as other related sectors (e.g. healthcare) made monthly-scale top extensions lately, but the other two are worth buying now, if you want something that has more potential for profit than simply buying the indices.

The bigger picture in US stocks is still best shown by the Dow Transport Index, which is right at the bottom end of its recent range. It has been highly compressed within that range for many weeks but we still can’t say which way it will break. Because prices are sitting at the bottom of this range, there is of course some risk that the break will be downward and we may find that we have to abandon this ‘buy’ recommendation in the near future. We are watching closely and will advise.

Elsewhere there are some other bullish signs too. Indices in both Canada and Singapore have made bottom extensions and Japan compressed and moved higher. This last one is potentially the most bullish signal that we have as new trends start with compressions (extensions merely end old ones)  so Japan too is worth buying here.

All this may mean that bonds will dip, although we have no new signal there. If so, we will recommend buying them again – we first did so on the upward break of weekly-scale compressions in the November 8th edition. We are now in the unusual position of recommending long positions in both equities and bonds. The recent close inverse correlation between the two seems to have blinded some observers to the fact that low bond yields can actually be good for equity markets. These two asset types do compete for available investment funds but there is also a relationship betweeen them that can give rise to mutually reinforcing feedback loops. For more on this see our September 28th edition: 'Cycles of Hell'.

When bonds are 'in the driving seat' as they are now due to QE, it is quite probable that one of these causal feedback loops will develop, pushing both higher.