What is holding stocks back?
by Peter Switzer
In a matter of two days I have received one good reason to remain long stocks and one reason not to. The first is the golden cross and the other is the hanging man!
Wall Street was closed overnight for Martin Luther King, Jr. Day. The Dax in Germany and the CAC in France were up on a good bond auction for France. I noticed that the Dax was up over 76 points, or over one per cent, which shows that there’s still a smidgeon of optimism left in Europe despite the consistently disappointing or at least frustrating news we keep getting out of the continent.
And many smart people I know keep asking me how the Europeans can pay back their debt. It’s their failure to understand how this could be done that keeps them tending to the negative, even if temporarily they can get positive when they see an oversold market.
What I say to them is if paying back debt is such a big problem, then how come Germany and the UK are borrowing sovereign debt money with an interest rate that has a one in front of it? Italy and Spain are paying six per cent plus and Greece is paying 35 per cent plus!
I also ask how come the USA, an economy that was supposed to go into a double dip recession, is now growing at a two per cent plus rate, unemployment is falling and there are even some positive views on housing emerging, though they could be false dawns?
That said, the US economy is on the mend with the University of Michigan’s Consumer Sentiment Index hitting 74.0 in January, which is the best reading since May! And another positive sign out of the USA was consumer credit for November. It was up $20.37 billion against economists’ forecasts of $7 billion. This was the biggest gain since 2001!
The USA’s current biggest threat isn’t their debt — $15 trillion — it’s the EU, its procrastination, its members’ ‘Europe-ness’, the nature of the treaty that brings the group together and the role of the European Central Bank.
As the French keep whining — the UK’s debt is worse than theirs — the ratings agencies believe the UK has more resolve to fix it and have the better tools to do it. Its promise of fiscal restraint and the freedom of its central bank means better growth is expected in the UK and this will generate income, jobs, tax revenue and an ability to pay down debt.
In contrast, Greece has no interest rate relief; it has an imposed fiscal restraint but the country is objecting to it. The tax system lacks credibility and it means lenders don’t want to back them.
Meanwhile, Germany has no help from the ECB but it has had the fiscal discipline on the board for years — the Germans do discipline — and the low euro has been great for their superb brands such as Mercedes and BMW.
Waiting for March
In a sense, the interest rate charged on these borrowings of these countries show what’s wrong with them. At the moment the world is waiting for early March when the eurozone members are expected to sign up for fiscal restraint and that has put a question mark over the EU and has not helped stocks.
The poor role of the European Central Bank (ECB) in contrast to what the Fed has done in the USA has meant that Europe is on life support. But someone has twisted the tube that lets the blood flow at the right pace.
I’m hoping that once the EU countries have committed to better budgeting, then the ECB will loosen the money supply to shorten the expected recession in Europe. The worse this recession ends up being, the worse the impact on China as Europe is its biggest customer.
Of course, China can spend locally to make up for a weaker European customer and it can lower interest rates as it has been embarking on tighter monetary policy since last year’s kick in inflation concerns.
Europe and the US decoupling?
Right now US experts are suggesting that the US is decoupling from Europe but that could be wishful thinking. I reckon if we get very bad or very good news out of Europe, Wall Street will react accordingly. At the moment we’re getting fair to middling news and so what’s going on in the USA is helping US stocks.
So the European meetings and the bond auctions for the EU countries are being watched closely and rates have fallen a bit but not enough for the bulls.
France’s Nicolas Sarkozy and Germany’s Angela Merkel meet in Rome on 20 January and this is three days before a eurozone meeting and 10 days before EU leaders gather in Brussels.
The summit will focus on a "fiscal compact" to tighten up budgetary discipline for the EU minus Britain, which has voted to go it alone on its fiscal game plan. All of this runs ahead of the crucial meeting in March where disunity will mean death for the market. However, if the news is good, it could mean the reverse.
As you can see, there’s no major good or bad news event and that’s why the S&P 500 index has found it hard to break through the 1300-level. On the plus side, the VIX or fear index is down around 21 and that’s a good sign that share buying has some potential in coming weeks.
Golden cross vs. the hanging man
Finally to the golden cross versus the hanging man and I think this little battle for chartists underlines our challenges. The golden cross happens when the 50-day moving average for the S&P 500 cuts above the 200-day moving average and this looks possible. However, the hanging man, according to my charts expert, Lance Lai, happens when an index such as the S&P 500 opens high at 1294, then ranges lower to 1277 and then closes higher than the midway of the range. The midpoint was 1285 and it closed at 1289. Lai says this is a bearish sign.
Until we get some really good or really bad news, the traders and professionals will look to their charts to play the trend. However, it will be big news that will determine whether we see another big drop, which some experts expect, or we see the makings of a bull market.
I can’t see the makings of such now except in the USA, but remember this, stock markets can get six to 12 months ahead of the economic and business realities that explain major movements in markets. This is the gamble all stock players have to live with. If you don’t like it take 5.4 per cent in a term deposit!
Important information:This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.
Published on: Tuesday, January 17, 2012
The Switzer Super Report is a newsletter and website for self managed super funds. With exclusive commentary from Peter Switzer and Paul Rickard the Switzer Super Report will help you maximise your after tax investment returns and grow your DIY Super. Click here for a free trial or subscribe today.