Global Markets Weekly Trading Preview: Does This Rally Have Legs?

WORLD STOCK INDEXES

World Stock Indexes have continued to set the direction for global commodity and forex markets. So the biggest question coming into the week is: how likely are stocks to continue to rally, hold, or pullback?

Evidence for a pullback

• Stocks are at or near 2009 highs, having rallied in the past two weeks based on having beaten earnings estimates in the first weeks of US Q2 earnings reports. However, these results were mostly a case of bad results beating even worse earnings estimates.
• Most firms reported declining results from operations. Revenues and earnings are in an overall downtrend.
• The slope of that downtrend may be leveling off, however that does not mean growth is coming any time soon.
• The picture is arguable worse in the critical financial sector, which has been the source of every major decline and rally over the past two years. Not one major bank showed solid results from ongoing, sustainable operations. Instead, they beat estimates based on either risky trading operations or one-time asset sales. Meanwhile, continuing job losses steadily erode their loan portfolios and raise default rates for every kind of loan.
• Stock prices ultimately rise due to rising earnings expectations, not less contraction.
• Even the Federal Reserve does not see the continued loss of jobs ceasing any time soon. Consumer spending generates about 70% of GDP in the US, which remains the largest market for many exporting countries, and one of the largest for most of them. Without jobs growth, there will be no real recovery in the US, or elsewhere.

Evidence for continued rally

Not much, at least for those who insist that the evidence should point to a rational conclusion. In the short term, at least, markets are not necessarily rational. Thus the only argument seems to be that the markets have risen on little evidence so far, so they could continue to go further. I admit a bias against this kind of thinking, but those who followed it have profited over the past two weeks.

Evidence for stocks holding in a trading range

Given the range of gloom and hope seen since March, it will take some very strong new information about the state of global and regional economies to move them much beyond recent March-July ranges.

Conclusion for world equities and forex, and commodities

Given that risk assets are at the top of those ranges, and that markets revert to their means (middle area of their trading ranges over a given period) the odds favor a pullback.

COMMODITIES

Crude, gold, and most other easily transferable commodities (which excludes natural gas in many cases) have followed the overall direction in stocks as their indicator of future demand, thus comments above for stocks hold for commodities.

FOREX

USD

A reversal to the upside is likely to be just a matter of time. Trading it is a matter of timing.

Fundamental Outlook for US Dollar: Neutral

Summary

• US Gross Domestic Product numbers show worst drop in 27 years
• Dollar slipped on S&P rallies through earlier-week trading
• Months of consolidation could foreshadow US Dollar breakdown
• Near term overbought condition could bring USD rally
• This week's ISM Manufacturing, Service, Or NFP data could be the catalyst

The US Dollar finished the week lower against foreign counterparts, yet despite sharp S&P rallies and fairly disappointing domestic economic developments, it held above key trading range lows.

The past week's main event, US Gross Domestic Product, showed that the economy contracted less than expected in the second quarter of the year, but noteworthy downward revisions to earlier figures clearly dampened optimism on growth. Government data showed that the economy saw its worst quarter-on-quarter performance in 27 years in Q1. The slower rate of contraction in Q2 may have calmed some nerves, but truly dismal Personal Consumption figures emphasized consumer spending—the engine of earlier economic growth—remains weak.

The upcoming week's likely headline event is Friday's Non Farm Payrolls data. Last month, it disappointed and sent the global markets retreating until they were saved by a somewhat upbeat US Q2 earnings season. As was the case for the last report of July 2^nd, markets are again near 2009 highs and are extended after the past two weeks' rally. They remain vulnerable to pullback on any disappointing news. As shown with this Friday's "good news-bad news" second quarter GDP report. Anything less than a strongly positive surprise could once again send risk assets into retreat, and safe haven currencies like the USD soaring. The fuel is already there, including:

• World stock indexes are again at or near 2009 highs, and other risk assets are nearing the top of their multi-month trading ranges. Without enough good news to further lift expectations, there won't be enough reason to continue selling the safe-haven dollar in order to buy higher yielding currencies.
• Forex futures and options data shows that traders remain extremely net-short the US Dollar. How short? Based upon last week's CFTC Commitment of Traders report, short dollar positions, particularly against the euro had reached the highest level since March 2008. With forex trading volumes down 25 percent from the previous year, the lack of participants and the one sided positioning are the perfect ingredients for profit taking.

A dour NFP report could be the next catalyst for a major USD move up. So could failure to meet expectations from this week's similarly market-moving ISM Manufacturing and Services results, which are also expected to show improvement.

Thus the USD is ripe for a move up, but as with so many things, timing is everything. Oversold conditions can persist for a while. Eventually, the Greenback should finally break above the Euro 1.4350 mark or below 1.3800. It will be critical to watch for signs of a sustained reversal. Those signs may well come from the S&P 500 and other key financial market risk barometers.

EUR

Because of its inverse relationship with the USD the Euro May gain most against it if risk appetite remains hearty

Fundamental Forecast for Euro: Bullish

Summary

• German unemployment falls for the first time, but only due to seasonal adjustments
• German consumer confidence rises for a third month
• Fundamentals remain mixed, key news from US, Euro Zone to be decisive

The dollar is plunging, and the biggest beneficiary could be the Euro.

Here's why:

• It's the world's second most liquid currency after the USD
• The GBP and AUD depend on unpredictable risk appetite
• Liquidity, a steady yield, bullish growth forecasts and a policy authority that is confident financial conditions are sound make for an appealing alternative for the most actively traded currency in the market.
• While the Euro Zone is far from healthy, it need only be in better shape, or be better at exceeding expectations, than the underlying economies of the UK, Australia, or other competing currencies, to gain demand at their expense.

Here's why not:

• The Euro Zone economy is not as solid as the strength of the EUR suggests. While we will not see the first round of the German and Euro Zone second quarter GDP figures until August 13^th, the current picture is mixed at best.
• Surveys for consumer, business and economic sentiment all reported improvements in their July readings (though they were mostly still showed contraction). More worrying, German unemployment rate has held at its highest level since December of 2007. Consumers are the foundation for economic health and will determine whether the Euro Zone will struggle to recovery or truly return to growth. Retail sales, factory orders and industrial production will all factor in to this outlook.
• Moreover, while the US and UK are seen as less economically sound, many of the biggest risks to the broader markets going forward come from the Euro Zone. A premature draining of financial aid threatens to choke the economy, regional banks have yet to write off their losses (they will) and Eastern Europe threatens to default on its loans to the EZ in masse.

The ECB is likely to provide the big news for the EUR this week.

While each of these indicators will feed into the market’s unobserved and dynamic growth forecasting model; the true benchmarks for economic activity will come from the ECB.

The central bank is likely to leave benchmark interest unchanged at 1.00 percent. The real value from the event comes from the statement that accompanies the announcement and President Jean Claude Trichet’s forum with the press shortly after the official release. It may reveal the relative balance of power between pro vs. anti stimulus forces. On one hand, continued stimulus risks inflation. On the other, too little or too soon a cutoff of liquidity could choke off the recovery before real growth and job creation begins.

JPY

Japanese Yen remains captive to risk appetite

Fundamental Forecast for Japanese Yen: Neutral

Summary

Fundamentals are mixed. Key risk appetite data like US non-farms payroll are likely to be more influential

• Retail Sales fell 0.3% in June and 3.0% from a year ago, declining for the 10th straight month
• Japanese industrial production rose 2.4%, the fourth straight improvement, PMI Moves to expansion at 50.4
• Unemployment rose to a six year high of 5.4%in June
• Consumer Prices fell at a record pace in June to -1.8% from -1.1%

The Yen was mixed to end the week as it rallied against the dollar on the better than expected GDP figures and broad based greenback weakness. However, it fell against riskier currencies. Equity market rallies have show no signs of abating but they are near significant resistance levels and with the U.S. employment report scheduled next week a pull back is possible. Meanwhile, Japanese fundamental data continues to point toward a slow recovery.

Sounding like most central bankers, BoJ member Tadoa Noda stated this week that central bank shouldn’t end their emergency credit programs prematurely as it could limit the scope of a recovery. The upcoming economic docket is relatively light from Japan this week, so price action will most likely be dependent again on risk sentiment which could be limited with US NFP’s looming. The USD/JPY has been in a downward trending channel and which was kept intact with Friday’s sell off.

GBP

British Pound Volatility Ahead on BoE Rate Decision, Stock Markets Reversal

Fundamental Forecast for British Pound: Neutral

Summary

• Per Hometrack Survey, Buyers Returning to UK Housing Market
• GfK Says UK Consumer Confidence Unchanged in July
• UK Mortgage Approvals Rise to Highest in 14 Months

The British Pound is all but guaranteed a week of heavy volatility as the busy economic calendar headlined by a pivotal interest rate announcement from the Bank of England is compounded by hints of a drop in risk appetite.

Traders will be closely watching to see if policymakers choose to ramp up quantitative easing measures after promising to “review the scale” of the program for the August rate decision in conjunction with the release of their quarterly inflation report. Despite the BoE’s apparent optimism and signs of stabilization in some leading indicators, economic growth disappointed in the second quarter, bolstering dovish arguments from the likes of the British Chamber of Commerce and the Shadow Monetary Policy Committee (a group of independent economists that meet at the London-based Institute of Economic Affairs).

A timely GDP estimate tracking the pace of economic growth in the three months through July from the National Institute of Economic and Social Research (NIESR) will help set the tone for the monetary policy announcement: while usually quite good at estimating official economic growth figures, NIESR missed the mark in the second quarter having called for output to shrink just -0.4% only to be faced with a -0.8% result; this time around, the prestigious think tank will have likely identified the reason for their previously over-optimistic reading and may offer valuable insight on potentially overlooked weaknesses in the UK economy.

The remainder of the economic calendar is comparatively light considering the themes behind further marginal improvements in PMI and Industrial Production are likely to have already been priced into the exchange rate while signs of moderating turmoil in the property market expected to be reported by Halifax have been adequately telegraphed by the latest Hometrack Housing Survey and the Rightmove House Prices report.

Indeed, only a meaningful downside surprise in these metrics is likely to prove particularly market-moving, as the trajectory of stock prices and 12-month interest rate expectations (derived from trading in overnight index swaps) over recent months suggest traders are surely looking for the recession to begin to bottom.

Turning to risk sentiment, technical positioning is hinting that the equities rally that began in March is starting to run out of momentum and may be on track to putting in a double top at the October 2008 swing high, with volumes steadily declining since early May and clear negative divergence between rising prices and stalling relative strength studies.

A trade-weighted average of the Pound’s value against a basket of major currencies is now over 83% correlated with the MSCI World Stock Index, suggesting sterling will be dragged along if stock markets do indeed turn lower. That said, US news has been the key fundamental catalyst in setting the trajectory of risk-related assets, and expectations of modest improvements for nearly all of the scheduled releases on the US calendar suggest a steady week for equity markets, barring any significant downside surprises on key metrics or a particularly disappointing second-quarter earnings outcome from a major company. That is not just a remote possibility, however.

Conclusion

Traders should be focused on the news mentioned above that is most likely to move global stock indexes, especially the S&P, for clues to the overall direction of forex and commodities.

Disclosure and Disclaimer: The author may hold positions in the above mentioned instruments.

Comments

[proactivetr...:]

S&P 500 confirms April Bull Market Signal. Several weeks before it tops out above 1000 and attempts a pullback to 880.
www.flowofcapital.com/...

Aug 02 07:18 PM

[Joseph L. S...:]

“Not one major bank showed solid results from ongoing, sustainable operations. Instead, they beat estimates based on either risky trading operations or one-time asset sales. Meanwhile, continuing job losses steadily erode their loan portfolios and raise default rates for every kind of loan.”

Excellent point. And Wells Fargo, with the largest mortgage portfolio, and Capital One Financial, with the largest credit card exposure – both of which beat the ridiculously low revised revised revised estimates and so rose to hope times greed times analyst bonuses – seem to me to be among the most vulnerable.

Aug 02 11:14 PM

[Paul H. M.:]

You really think removing the burden of health care is a bad thing?

Once the burden of health care is remove from our corporations, there will be more competitive with the other developed nations, whose populations are fully covered.

If you truly consider ourselves the best nation on earth, how can we let a single one of our country man be denied health coverage?

Our government already runs the world's greatest military, and they are get great coverage available to them. Why should a working class man deserve any less?


On Aug 02 06:02 PM enigmaman wrote:

> With the announcement by the admin that a middle tax increase is
> a probability (100%) to pay for health care, it looks like they are
> doing there best to kill off any recovery, seems to me the rally
> now has one reason to stop moving forward, the news is worse then
> the market anticipated, tax increases will cause the consumer to
> all but disappear, our only hope is to have Obama start up another
> nonsensical plan like Cash for Clunkers, maybe Cash for Cash, for
> every one old worn out dollar you turn in you get 2 new crisp minted
> dollars in return, the banks could hire New Dollar Tellers, would
> be great success, would stimulate the economy and create the only
> green jobs to date.

Aug 03 12:03 AM

[rick12345:]

Just another quack who's trying to profit by shorting the market. Pay no heed to "Greeks bearing gifts".

"ut res magis valeat quam pereat" - That the matter may have effect rather than fail...

Aug 03 05:12 AM

[Cliff Wachtel:]

Glad to see I'm not the only one who is finding earnings season scary rather than a reason to rally. Downtrending results, even at a lesser slope of decline, do not a rally make.

Stocks are now at about 60% of their 07 highs, when they looked like they were growing. Even if their earnings/revenues were 60% of th 07 peak (?source on this) they're results are still contracting.

thanks for your comments, glad to see someone else is still sane.Cliff


On Aug 02 11:14 PM Joseph L. Shaefer wrote:

> “Not one major bank showed solid results from ongoing, sustainable
> operations. Instead, they beat estimates based on either risky trading
> operations or one-time asset sales. Meanwhile, continuing job losses
> steadily erode their loan portfolios and raise default rates for
> every kind of loan.”
>
> Excellent point. And Wells Fargo, with the largest mortgage portfolio,
> and Capital One Financial, with the largest credit card exposure
> – both of which beat the ridiculously low revised revised revised
> estimates and so rose to hope times greed times analyst bonuses –
> seem to me to be among the most vulnerable.

Aug 03 06:46 AM

[enigmaman:]

Neither light nor glasses will help those that refuse to see

My remarks related to taxation of the middle class to pay for government health care and how this will be a further dis incentive for the consumer to spend. Thats was it,


On Aug 03 12:03 AM Paul H. M. wrote:

> You really think removing the burden of health care is a bad thing?
>
>
> Once the burden of health care is remove from our corporations, there
> will be more competitive with the other developed nations, whose
> populations are fully covered.
>
> If you truly consider ourselves the best nation on earth, how can
> we let a single one of our country man be denied health coverage?
>
>
> Our government already runs the world's greatest military, and they
> are get great coverage available to them. Why should a working class
> man deserve any less?

Aug 03 08:07 AM

[SeeTheLight:]

All the bad news is quietly being ignored, the lack of significant volume allows for market makers to pull end of day "stick saves" in the last 15 minutes of trading on any day where the market seems to be significantly down and the analysts on CNBC seem worried about a pullback. Every down day is just another excuse for "buying on the dip". We will continue to rally until something significant happens, another Bear or Lehman or return to Mark to Market, a bad treasury auction, or other unexpected situation, then we are off to the races. Of course this rally is all an illusion driven bear market rally, but do not fight the tape, I repeat, do not fight the tape. Just have your stops in and be ready to sell when we get a technical breakdown. Until then remain long, because as the old saying goes the market can remain irrational longer than you can remain solvent.

Aug 03 08:19 AM

[Archman Inv...:]

Kudos as always to Cliff for telling people what they NEED to hear, unlike Wall Street and the financial media that specializes in telling people what they WANT to hear.

Back in the spring, I said over and over, that the powers that be were going to run this market straight back to S & P 1100. Thanks to stolen money from taxpayers who care more about their I-Phones, reality TV or what room Michael Jackson died in, the market as Cliff stated has gone up on completely bogus earnings reports and IB's trading that taxpayer money.

My investment strategy is not like the average American's who is essentially based on matching the S & P 500 index. Mom an Pop Americans are only NOW just getting back in the market (as per anyone who studies market history this behavior is "classic" and never changes) AFTER the market is up 45%, instead of getting back in the market when no one wanted stocks back at S & P 680.

As always (and this never changes) mom and pop Americans are going to get destroyed in what sure to be a nice big market correction back to the 750 level on the S & P sometime later this year or early next year. I personally will once again buy as they sell.

compdivplan.com

Aug 03 08:20 AM

[AndrewBaker:]

This bubble will burst, and I for one do not want to be in the market when it does: I can think of many other ways of throwing my money away that will give me a lot more pleasure whilst doing it.

Aug 03 08:55 AM

[robert.b.fe...:]

When the federal government can run the USPS and AAMTRAK for a proffit maybe they can look at health care. Our sytem needs to be tweaked not dismantled and we should start with tort reform. Lawyers need to make sacrifices too. Obama took that off the table before he got to the table. No surprise he's a lawyer. Shopping for insurance accross state lines would foster competition. Government intervention would kill it leaving behind a much expanded and increadibly expensive version of medicare. We can all see how much money that would save. If you think health care is expensive now just wait until it's free.


On Aug 03 12:03 AM Paul H. M. wrote:

> You really think removing the burden of health care is a bad thing?
>
>
> Once the burden of health care is remove from our corporations, there
> will be more competitive with the other developed nations, whose
> populations are fully covered.
>
> If you truly consider ourselves the best nation on earth, how can
> we let a single one of our country man be denied health coverage?
>
>
> Our government already runs the world's greatest military, and they
> are get great coverage available to them. Why should a working class
> man deserve any less?

Aug 03 09:07 AM

[robert.b.fe...:]

Great job Cliff. I've been picking up positions on the way down and on the way back up. So far I've taken profit on one position on pull back X1/2 (FFIV) @ $38 and put a tight up travelling stop on it $35.41 base. Two more positions (FEED) (DRYS) will probably bench mark before the correction and will be treated exactly the same. Good luck all.

Aug 03 09:17 AM

[Domino412:]

As always (and this never changes) mom and pop Americans are going to get destroyed in what sure to be a nice big market correction back to the 750 level on the S & P sometime later this year or early next year. I personally will once again buy as they sell


Thats right...it's always that way. These folks getting in here at the top are going to get crushed. The market is saying. "the water is lovely, come on in and enjoy, take a swim. Bam! They're gonna get their head taken off by a shark.

Aug 03 10:15 AM

[Stone Fox C...:]

ISM came in today at 49 which was much better then the 46.2 expected by analysts. Typical of any rebound analysts are way behind the curve. And its just going to get better when inventories are restocked.

Aug 03 12:19 PM

[svosavvy:]

Here is an enigma- what is the single highest cost item on the average working american families' balance sheet every month? No, it's not the mortgage or the credit card. And what would happen when that highest cost item was somewhat alleviated, they would probably spend the balance. Spenders spend, trickle down was bass ackward.
I Highly agree with the need for tort reform. Working in healthcare it is fun for me to see the billing on certain piece items when your bill is totalled from a stay. You could have a piece of plastic that does some vital job that probably didn't cost a nickel to make. But you will get billed whatever (make up a number LOL 50 bucks 100 bucks 500 bucks depends on who you are and what your sugar daddy is good for). Anyway the obscene margin goes straight to paying the company that invented it and the rest into a slush fund that covers their ass when the lawyers come knocking. Gross negligence is one thing, but, the legal system expects infallibility from humans working their butts off. A few years ago when my son was born we had him circumsized and they screwed up the billing. Sent the bill to me instead of the insurance company it was $780. The doctor who did it was a woman, so I cracked a joke and said I thought chicks did that kind of stuff for free. Anyway the moral of that story is don't crack a woman joke in a room full of women:) Yeah, and what on earth constitutes the bill that these people charge. The bill is such because if she does 10,000 of these operations there is a chance she is going to sneeze at a crucial moment and turn an andy into an annette and we need financial backup for when the lawyers get wind of it. Insert whatever body part you want into this equation.

BTW thanks Cliff for taking time out of your day to write this and others. I always appreciate your outlook.

Aug 03 12:27 PM

[Big Bubbette:]

Who are you removing the burden too? It is like the news touting the cash for clunkers saying the government needs to invest another 2 more billion dollars. It is not the government investing, it is the taxpayers being saddled with more debt. First we are forced to bail out the automakers and unions, now we are being forced to pay for their products for other people's cars. That is a great business model. So who is going to pay for this health care? Other than starting to ship anyone over 65 that gets sick to sit out on the ice in Alaska what else do you have?


On Aug 03 12:03 AM Paul H. M. wrote:

> You really think removing the burden of health care is a bad thing?
>
>
> Once the burden of health care is remove from our corporations, there
> will be more competitive with the other developed nations, whose
> populations are fully covered.
>
> If you truly consider ourselves the best nation on earth, how can
> we let a single one of our country man be denied health coverage?
>
>
> Our government already runs the world's greatest military, and they
> are get great coverage available to them. Why should a working class
> man deserve any less?

Aug 03 12:35 PM

[BPYHO:]

Really dude? Have you ever SERVED in the military!? Anyone who has knows that our 'free' health care is a joke. And by free it means that we dont have to pay for incompetent Drs (b/c MOST of the good ones decide to leave b/c they can make way more on the outside) to prescribe us meds we dont need and/or misdiagnose our problems/allergies. Our 'free' healthcare usually ends up costing us our HEALTH!!!!


On Aug 03 12:03 AM Paul H. M. wrote:

> You really think removing the burden of health care is a bad thing?
>
>
> Once the burden of health care is remove from our corporations, there
> will be more competitive with the other developed nations, whose
> populations are fully covered.
>
> If you truly consider ourselves the best nation on earth, how can
> we let a single one of our country man be denied health coverage?
>
>
> Our government already runs the world's greatest military, and they
> are get great coverage available to them. Why should a working class
> man deserve any less?

Aug 03 12:39 PM

[svosavvy:]

BPYHO- unfortunately you really speak the truth. The VA is like a giant vacuum cleaner that sucks up deadbeat docs.

Aug 03 12:54 PM

[proactivetr...:]

Even if you don't use our proprietary indicators, there is an obvious inverted head and shoulders bottom in place. The market has started a bull market move up from that bottom. It would be very unusual to revisit the 666 bottom in the forseeable future. However it is very possible this new bull market may be short lived. If, for example the credit card bubble blows like the mortgage bubble, we could easily retest 666 and even go lower. But until we have another major bubble blow, compliments of the bubble maker GS, the market must be now looked as a Bull not a Bear. The recent weak pull backs to 880 fooled us as we were expecting pullbacks to 800. That would have happened if this were a bounce in a bear market. Obviously it isn't. As Graham and Dodd point out the market is just one big voting machine. Right or wrong money flow counts those votes. That is reality right now, even if the fundamentals call for a continued Bear market. Right now reality is Bull and delusion is Bear. I am just giving you the vote count. Doesn't mean the voters are right, but they make the market.


On Aug 03 08:19 AM SeeTheLight wrote:

> All the bad news is quietly being ignored, the lack of significant
> volume allows for market makers to pull end of day "stick saves"
> in the last 15 minutes of trading on any day where the market seems
> to be significantly down and the analysts on CNBC seem worried about
> a pullback. Every down day is just another excuse for "buying on
> the dip". We will continue to rally until something significant happens,
> another Bear or Lehman or return to Mark to Market, a bad treasury
> auction, or other unexpected situation, then we are off to the races.
> Of course this rally is all an illusion driven bear market rally,
> but do not fight the tape, I repeat, do not fight the tape. Just
> have your stops in and be ready to sell when we get a technical breakdown.
> Until then remain long, because as the old saying goes the market
> can remain irrational longer than you can remain solvent.

Aug 03 01:59 PM

[Diogenes of...:]

Trade the market you have not the market you had or the market you think you should have based on "fundamentals." The market begins to discount bad news when things look good and begins to discount good news when things look bad (since March).

Aug 03 02:49 PM

[earljr:]

Cliff, even in light of all your good reasons why this rally should not hold, why would anyone hold onto dollars? I see this rally as a mass exodus out of dollars into ANYTHING else. We all know the results of uncontrolled printing, but we don't know how quickly those results will get here. Each day the market goes up 1% to 2% I get very nervous about my dollars. Wouldn't I be better off holding stock in a good company (even with currently weak earnings) than to hold dollars that are being given away in astounding amounts by Obama? Jim Rogers recently said S&P500 could go to 50,000--but he wasn't sure it would be worth any more than now!

Aug 03 06:18 PM