Latest OECD leading indicator updates show a healthy picture globally. Emerging markets continue to trail advanced economies but the picture is improving for them. Macro economic data for China yesterday beat expectations and Chinese, Indian and Brazilian stock indices have all risen sharply in the last couple of weeks. Rather than advanced economies joining emerging economies in weakness, we have been seeing the opposite, with emerging markets beginning to join advanced economies in strength. This should continue forwards as evidenced in the overall G7+E7 narrow money leading indicator picture no longer showing weakening around year end:
Which brings me to the big question of whether central banks can offset negative demographic trends in the advanced economies, and this is the subject of a new paper from the IMF (click HERE to read, hat tip Gary). They conclude that demographics do indeed affect unemployment and inflation and central bank policy therefore has to be more aggressive and more unorthodox to offset this. Holding rates at zero and running large QE programmes could be deemed aggressive (in the former) and unorthodox (in the latter). If these actions and collective central bank actions across the globe have offset demographics ‘enough’ then we ought to see enduring strength in coincident and leading data. Regarding coincident data, US economic surprises have broken upwards and are strong positive (whilst emerging markets have been steadily rising and are now just beneath zero). This picture could provide the grounds for a reduction in QE at next week’s FOMC output.
If the Fed tapers, then we could see precious metals further punctured, the US dollar rise, and treasury yields jump further. The twin threats to the economy are rising yields and rising commodity prices, particularly oil. Yesterday the softer line on Syria produced a pullback in oil and precious metals, however the recent evidence has been for a shift in outperformance towards commodities and emerging markets, which would be in line with a cyclical topping process in equities. If I am correct about the cyclical top in progress, then we should see commodities quickly come back, regardless of Syria, and energy stocks and materials stocks lead the way in this new leg up in stocks. Below I show the SP500 and the last two cyclical bull topping processes. The new upleg we are seeing now in stocks should be contained within the boxed range, if this is a top.
Meanwhile on gold, the GLD ETF shows a fairly tidy picture. Either gold has been turned away at resistance in a continued declining trend, or it is shaping up for an inverse head and shoulder pattern with an obvious horiztontal support. Resolution one way or the other should occur soon.
The Nasdaq has broken out and the Dax is flirting with new highs. Marginal new highs would befit a topping process, breakaway would not. I still give higher probability to an overall multi-month topping process due to evidence recently presented (such as breadth divergence, transfer to late cyclicals, technical shaping), however if leading indicators stay strong and early cyclicals regain momentum or other such developments, then I would be open to cyclical bull continuation. However, I maintain that rising yields and/or escalating commodity prices are more-potent-than-usual threats to the global economy due to the particular demographic-related fragility. Strong leading and coincident data as we are seeing can push up yields and commodities, and this is what I expect to continue. Neither have risen enough so far to put the economy at tipping point.
Trading-wise I am sat on my hands at the moment. I await to see whether oil and gold can resume advances following yesterday’s puncturing. I believe equities can rise further towards the top of the range so do not yet want to take long profits or add to short positions. I await the FOMC output next week and more importantly the market’s reaction. I am also watching the US dollar for resolution.