What’s next for stocks? Fundamental & Technical Analysis on 10 charts

Summary:

  • Equity indices tumble on a culmination of fears
  • There are some fundamental warning signals for US indices
  • We compare the present situation to past corrections
  • Technical outlook for S&P500, Dax, FTSE and Polish Index

For the second time this year the bears of Wall Street have been awakened. After a long bull run that’s nearly 10 years old, there’s a plethora of reasons behind a deeper correction or even a bear market – from Trade Wars, through Italy, to rising bond yields. In this analysis we take a look at 10 charts: 5 fundamental and 5 technical that can help you understand the current dynamics of the stock markets.

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5 fundamental charts:

S&P500 and the P/E fan chart

There’s no single measure to tell us what the “true” fundamental value of the market is. However earnings are closely tracked by investors and this charts shows why; over a long run the S&P500 has risen along earnings, albeit these earnings have been priced differently (shown by the fan of those lines – red lines show above average historical P/E up to 95% and green lines below average ones down to 5%). We can see that current earnings are quite steeply priced and even the latest correction did little to change that. Average pricing (for the past 50 years) of current earnings would have the S&P500 around 2200 points.

Source: Bloomberg, XTB Research

Economic optimism and the stock market

A strong economy is good for stocks, right? That’s usually the case but at extremes it could be dangerous. Too much optimism can lead to misallocation of resources which is often uncovered when interest rates rise – as it is now taking place. This charts measures the US economic optimism using ISM manufacturing and Conference Board index and it’s above 1.4 for just the 4th time in more than 50 years of history. On all of those 3 previous occasions the bear market was around the corner, although for late 99’ this corner was a bit longer.

Source: Macrobond, XTB Research

Global growth diverging

2017 was great for stocks worldwide because growth synchronised globally. The opposite is taking place now – the US growth is strong while the rest of the world falters. Taking into account that the US is still on fire from a fiscal perspective (lower taxes, higher spending) which will start fading next year, talk of economic slowdown may intensify.

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Source: Macrobond, XTB Research

Bond yields on the rise

Rising interest rates are fine for the stock market for as long as they reflect economic strength – which has been seen so far as the case for the US. But if the impact of the fiscal push fades quickly into 2019 and other economies slow down, the Fed could end up overdoing it with rate increases. US 10-year yields are well above the average for the decade and that can bite into the economy. Italian yields are back close to the danger zone from the eurocrisis. On the flip side, lower inflation in the US could potentially tame bond sell-offs and Italian woes have not spread to other European markets.

Source: Macrobond, XTB Research

Oil at $100 could be fatal for the global economy

Oil has been one of the strongest market this year and some started suggesting it could top $100 a barrel again. That could be bad for the global economy for two reasons – pushing inflation higher at the time the Fed raises rates and transferring wealth from engines of global growth to countries like Russia and Gulf States. Brent oil averaged $60 in 2017 so a rise to $100 could have some dramatic consequences.


Source: XTB Research

5 technical charts:

S&P500 (US500 on xStation) long term, W1

It might be stunning but since April 2009 there were only 11 weeks when the S&P500 tumbled more than 6% from open to low. It’s particularly striking that these weeks never occurred in isolation but always were a part of a bigger and longer corrective movement. Statistically speaking a V-shaped recovery from these weeks looks unlikely.

Source: xStation5

S&P500 (US500 on xStation) US500 present, D1

The last correction was deeper than the latest sell-off but most importantly it started a period of high volatility. Although a nominal low of the correction was set very early, the first recovery was nearly completely wiped out and the second low – just a notch higher – was recorded 41 days later.

Source: xStation5

Dax (DE30 on xStation), W1

Moving to other indices, the German DE30 looks very interesting as it smashed the first line of defence and is moving dangerously close to the long term uptrend line. A break lower could become quite ugly for the buyers as 10800 support looks weak and a 1:1 with the largest correction so far in this trend would put the 10k barrier into play.

Source: xStation5

FTSE100 (UK100 on xStation), W1

The UK100 looks to be in a safer place than the DE30 as there’s a bit of a room to the key 6800 zone and the RSI is already at the support. A break lower would send the index to uncharted territory during the post Brexit-vote era but as we’ve said, bulls still look in control at the moment.

Source: xStation5

Warsaw Stock Exchange (W20 on xStation), D1

Technically W20 index looks very interesting as a large head and shoulders formation was in play here for quite a while. A sell-off on Wall Street led to a rapid break of a neck-line and a textbook range of this formation is exactly at the 2018 lows for this market. However, bear in mind that while in practice these formations are useful for setting the direction their range often differs quite substantially.

Source: xStation5

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