Most major stock indices were flat around the world last week, even as the US dollar continued its push higher and commodities sold off significantly. The followthrough on the US dollar was something we were looking for last week as a key to the topping process we have been tracking for months. It has traced out a very nice looking 5 waves up (the Euro has done the inverse) and should now retrace that move in 3 waves down.
The blue chip stock indices have been the most resilient over the past few months as the FIRE sector (Financials, Insurance, Real Estate) has lagged behind considerably. It was a credit based bubble that popped in 2008 and it has been a credit based recovery. To me, this suggests that the overall structure of the economy has not changed. Therefore, weakness in these areas, much like during the 2007 rally, should be considered a leading indicator for the overall market. I am expecting the major indices to make marginal new highs next week, as the US dollar retraces but fails to make a new low. This should be the final non-confirmation prior to embarking on a monumental decline. This likely sounds like a broken record by now. We've been monitoring this process for months. Bears are now, to be sure, tired of waiting. I know I am. But to keep things in context: after a 53% rally in 6 months, the S&P 500 has rallied only 8% in the 4 months from August to the present.
The past few weeks have seen painstakingly quiet markets, reminiscent of John Kenneth Galbraith's account of the 1930 rally which he described, "as placid as a produce market." Despite the historical context of nearly all major bear markets retesting their lows to some degree, I have been able to find few market analysts/pundits willing to entertain that possibility. The idea of going back to where we came from is as preposterous to most now than dropping below Dow 10,000 was to most in 2007. Sure, many are expecting a correction, but little more than 10-20%. This is an incredible amount of confidence considering we have rallied more than 65% in just 10 months. I'd wager a guess that this is unprecedented confidence. Below is the Bull/Bear ratio, as determined by the Investors Intelligence survey.
The S&P 500 has traded within a 3.5% range over the past 5 weeks.
Crude oil has an opportunity to extend to the downside. Any continuation below Thursday's low substantially damages this chart.
As previously mentioned, the Euro has put in its most significant decline since June. A fairly swift retrace back up to 148-149 should occur prior to a resumption of the downward trend.
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