The Fed’s hint of possible scaling back of QE as early as next month provided the break in the US and Japanese stock market bull runs. I suggest that QE-cut is unlikely to happen next month but the markets were ripe for a catalyst to pullback and that provided the puncture in confidence. Below is the updated lunar geomagnetic model and Sp500 chart. We are in the lunar negative period and geomagnetic disturbances have pulled the overall model down, so the market was levitating against these two trends, and therefore vulnerable to a break.
The full moon is tomorrow and the end of the lunar negative period is Tuesday, so there is potential for more downside in the next couple of trading days. However, it is too early to say whether this week’s snap will be swiftly recovered thereafter or whether we have made a more decisive trend change. My thoughts at this point are that the Fed did enough to put uncertainty back into the markets until the next FOMC decision of 19 June. So I could foresee a correction/consolidation until then. I believe they then won’t scale back QE as early as that (though it could come in the following months) and so the markets will rally up again. Combined, that could provide a possible topping process formation.
Linked to this are the fortunes of the US dollar, gold and commodities in general. By my work, money flows should shift into cyclicals and commodities as equities enter a consolidation or topping process. Gold has potentially double bottomed this week and continues to track the Nasdaq’s correction of 1998. However, it’s too early to be sure of a bottom. The US dollar meanwhile made an intraday reversal on the Fed’s comments, which could be telling as it was the reversal of a breakout above the 2012 high:
If US equities lose their momentum then I would expect the USD also to do so, and this could inspire a move into commodities if the global economy and leading indicators remain supportive. Crude oil once again failed to break out of its large triangle, this time to the upside, and so is back in the range lacking direction.
Here are the latest economic surprise readings:
Bar Japan, they are all around historically low levels from which reversions normally occur. I checked the history of Citi economic surprises as a market indicator and they weren’t very meaningful in the bull of 2003-2007. However, as this is a mean reverting indicator, we can broadly expect these indices to rise going forward and thus provide some sentiment support for pro-risk. Plus there is some evidence that cyclicals tend to perform well when they are rising.
Turning to leading indicators, the situation for now is fairly positive as shown by the World LEI and CB LEIs below:
Source: Conference Board
ECRI leading indicators for the US continue to be positive:
China flash PMI was weak in the latest reading, Europe PMIs improved. My overall view is that there is fairly low risk for the global economy over the mid-year given that there were rate cuts and increased stimulus in Q1 in various countries, together with fairly benign commodity price action and inflation. I think it therefore possible that money continues to flow out of government bonds into pro-risk, but the reversal in bonds and yields is a fairly new development so it is too early to be sure it is enduring.