- New Science in old markets -

After the fall

Stock markets have dropped around the world after the Fed Chairman failed to provide assurance of continued aggressive monetary stimulus. Actually, he did try to assure his audience that there was no change in policy but the markets took this to be the imminent end of QE and have now fallen hard. We have been warning for some time that this would all end badly and now even the mere hint that it might come to an end next year has been enough to take away the underpinnings of the equity and bond markets.

As far as equity markets are concerned, we have had ample warning of this weakness, as reported many times here. Now the starting moment of weakness (in the US at least) has arrived. Recent daily-scale compressions across a wide range of US indices have now broken down and declines are underway:

Such signals usually have a shelf-life of about three weeks but in the present situation we have been seeing weekly-scale top extension signals for some time:

These warn of more prolonged weakness, or at least a period with no sustained strength. We have also reported some monthly-scale tops, with a shelf-life of a year and a half, meaning that the most likely outcome from all this is that US and European equities will continue to range widely, as they have done for five years – we seem to have visited the top end of that range and now we may fall all the way back to the bottom again.

The situation in the East is different. There, declines began earlier and have now produced some bottom extensions, so rallies are possible:

This is perverse of course as these declines began as a result of scepticism about the Bank of Japan’s stimulus package whereas the most recent decline is because of fears that the US will ‘taper’ (i.e. reduce) its own stimulus. Markets in the East seem to regard any intervention as a bad thing…

We advise trying to get short US equity markets where possible. Rallies back up to these recent compressions may happen and if so, should be used to establish shorts. The peaks of any rallies may coincide with turn clusters, so keep an eye on the upcoming dates that we publish from time to time – a new update is due soon. European stock markets are also short candidates and we would recommend our usual selection of Spain, Italy, Greece and France as the best ones to choose. This is the beginning of the ‘end-game’ of the QE period and so it may be best to choose France now as it has been relatively unscathed so far and still tracks Germany quite closely. Not for much longer, we suspect, as things unravel.

Bear markets are hard to trade, as rallies can be sharp and big. We will try to 'call the turns' as usual but the preferred strategic position for those who don't want to trade in and out is now to be short in these Western markets.

The same view applies to commodities, especially those that can be classed as 'industrial'. We have advised attempting shorts in energy markets, just to 'get started' and have a long-standing recommendation to be short of copper. More on these soon.