We now appear to be close to the day of reckoning that likely determines what the coming weeks/months hold.
- Do we step back from the brink, see our politicians reach an agreement and carry on? Although to be fair, in 2011 the break below supports that led to accelerated losses in the equity markets actually took place once an agreement was reached.
- Do we break lower thereby causing the negative feedback loop/concerns that feed back into the economy, kill any possibility of tapering and sees the Fed re-establish its dovish credentials (Like 1998 and 2011)
- Do bond yields push higher after an agreement thereby increasing concerns about a negative feedback loop into the economy, housing, emerging markets, Europe (Like 2011) and ultimately the equity market?
Time will tell us the answers to the above questions, but whatever happens, Citi notes it looks like the price action in the near future is at pivotal levels that need to be watched closely.
Via Citi FX Technicals,
The Equity Market - Day Of Reckoning Beckoning?
With important technical levels in the spotlight and the clock counting down on the budget and debt limit (non) talks the coming days/weeks look pivotal in this respect
– Below we look at what we think are the important levels to focus on.
DJIA pattern today looks very similar to that seen in 2011. (Daily chart)
After a 2010-2011 surge helped by QE2 in November 2010 (A move that was guided since August that year) the DJIA peaked with a head and shoulders formation completing in early August 2011(02 August break) at the same time as a break below the 200 day moving average.
The end of QE2 in June 2011, uncertainty about the US debt limit negotiations and (icing on the cake) a downgrade of the US by S&P on August 5, 2011 (Friday) created the backdrop for a sharp fall.
The target of the head and shoulders top was about 10,800 and the actual low hit in Oct 2011 (04 Oct) was 10,404. This gave us a high to low fall of 19% in the DJIA while the S&P fell 22%.
The present pattern could be viewed as another potential head and shoulders top with a neckline at 14,883 OR as a double top with a neckline at 14,760. The target on a break of this range would be 13,800-13,900 or about 12% high to low. (Compared to a 16% target in 2011 that was overshot). The rising 200 day moving average now at 14,728 also needs to be watched on a closing basis.
DJIA today compared to 2011 (Weekly chart)
The 55-200 week moving average set up is (not surprisingly) also similar, albeit more stretched this time than 2011.
In 2011 the DJIA eventually overshot the 200 week moving average by about 2%. A repeat of that would see the DJIA as low as around 12,200 or 22% off the peak set post the FOMC meeting.
While in 2011 we had some momentum divergence, this time around we have clear “triple momentum divergence” taking place at the peak.
The 55 week moving average stands at 14,354 while the 200 week moving average is at 12,441
US 1 month bills. Showing stress just like late July 2011
Has now completed a double bottom suggesting higher levels still
Very reminiscent of what we saw during the debt ceiling discussions/US downgrade in late July-early August 2011
US 1 month bills remain elevated
Accelerated above the 17 basis point peak seen on 29 July 2011 during the debt ceiling wrangling that ultimately saw a fall in the DJIA of 19% and in the S&P of 22% by October that year.
The double bottom now established suggested a move above 30 basis points which was seen 2 days ago. That both took us above the Fed funds range and also gave us a level not seen since October 2008.
The peak in 2011 was seen on 29 July and the DJIA broke the neckline of its head and shoulders 2 trading days later.This time around they both broke on the same day albeit that the 200 day moving average is still intact so far.
(While these yields have started to move lower this morning stress is now appearing in the Nov/Dec bills as talk of raising the debt limit for 6 weeks does the rounds. Happy Thanksgiving – It looks like Washington has an oversupply of turkeys)
US 1 month bills and the DJIA
In addition, we should not forget that the DJIA posted a bearish monthly reversal off the trend peak in August this year at 15,658. While we did get a daily close above that level on 18 Sept. (Fed debacle day) it was not sustained on either a weekly or monthly basis suggesting that this reversal is still valid.
S&P weekly chart shows clear triple divergence.
Suggests that we can move lower still. However the critical supports are on the monthly chart and are much lower than present levels.
S&P monthly chart and the 12 month moving average when market gets a monthly close below.
Momentum has been diverging here for some months just as it was in 2000 and 2007 suggesting lower levels could still be seen. However, we would have to break below much lower levels before our concerns would become elevated. The critical supports we see here are
– 1,576: The 2007 high and the 12 month moving average.
– 1,555: the rising trend line support (Weakest of the supports)
– 1,553: the 2000 high.
A break below these levels (At least a weekly close), IF seen would suggest a danger of a deeper fall.
The falls of 2000 and 2007-2008 both accelerated once we breached the 12 month moving average on a closing basis
More importantly the falls of 1998 and 2011 (Both 22%) accelerated on a break of the 12 month moving average (Some acceleration was also seen in the 2010 fall of 17% but we were not as elevated, nor had we spent as much time above as the other periods) and prompted the Fed to move towards an easier monetary policy.
In 2011 this was the putting in place “Operation Twist” after QE2 had “ended” in the summer. One thing has been entirely consistent in the path of “Unorthodox monetary policy” in the last 5 years. Every attempt by the Fed to “withdraw the punchbowl” has resulted in the markets and the economy “throwing a hissy fit”. This has resulted not only in the Fed “not” ending this “destabilizing policy” (in our opinion) but actually expanding it. With Janet (Super Dove) Yellen confirmed at the helm now we do not expect this to change.
It is not inconceivable that she will try a “Helicopter Ben” route in the early days of her “tenure” and try to sound a bit less dovish. (So concerned was he that this “moniker” suggested he would not focus on the dual mandate that he spent most of 2007 trying to show his inflation fighting credentials. Unfortunately that was poor timing and resulted in the Fed being far behind the curve compared to the 1989-1991 and 2000-2002 episodes of stress)
IF things tend to “go south” in the economy and the Equity markets (20%+ correction as we still expect) then we are fully confident that her natural tendency will show through. In that instance, if we have not tapered we will not. If we have, we will stop. Ultimately we could even see a consistent path with other episodes of the last 5 years. Not only do we not end up holding the line and taper to ZERO (Which we still believe is the correct thing to do) but it is possible we ultimately increase the rate of expansion in the Fed’s balance sheet.
Consumer confidence and the long term S&P chart also support the potential for a deeper fall
Within 3-4 months of the consumer confidence peaks in 2000 and 2007 the Equity market began a sharp move lower
In both 1998 and 2011 we also saw a sharp move lower in consumer confidence and a 22% fall in the S&P 500 both times.
In 2005, while we did see consumer confidence correct sharply but the equity market held up well. However, there is nothing about the present backdrop that “resonates” with us as being similar to 2005.
Levels to watch on the VIX
While we have completed a short-term double bottom here it is far more important whether we complete the larger double bottom as we did in the first week of August 2011.
The neckline on this double bottom stands at 21.9% with good trend line resistance also at 21.5%
Essentially, a weekly close through 22%, IF seen would clearly confirm a break and suggest a move to at least 32%. Such a development would be consistent with us seeing a move to at least the head and shoulders/Double top target on the DJIA of 13,800-13,900.
VXN (volatility of the NASDAQ) may be the “tell” for the chart above
This week it has already breached the double bottom neckline (21.44%) which suggest a move as high as 30%+. In addition it moved above the 200 week moving average (20.92%)
IF we head into tomorrow and are still trading above this range, it would suggest a real danger that the levels mentioned in the charts above could come under pressure in the days and possibly weeks ahead.
To sum up:
We retain our overall view that the big picture set up (2000-2016) continues to follow a similar path (with some material differences but a lot more similarities) to that seen in 1966-1982.
Within that, the present period also has some similarities to:
- – 2000 (Mainly Equity market)
- – 1998 (Fed policy, EM, Equities, Fixed income and the USD but in particular….
- – 2011: (Fed policy, EM, Equities, Fixed income, European periphery and the USD