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Blaring Bell

02/26/2013
Last Wednesday, February 20, the S&P 500® Index (SPX) traced out an intraday reversal lower (Figure 1.1) that ever so faintly rang the “pause in appreciation” bell. Keep in mind, just one day earlier the SPX traded to its highest level, 1530.94, since November 1, 2007’s 1545.79 high (Figure 1.2).

 
If last Wednesday’s bell rang faintly, then the SPX price action on Monday, February 25, had a more obvious and ominous blaring bell.  Clearly a pause in appreciation is upon us. You may ask why I am not calling it a “correction.” At this point, time will be the determinant of whether this will evolve into a genuine, deeper correction. In terms of further evidence for a confirmed correction, there are several indicators to watch closely over the coming ten days.
 
Let’s walk through them…
 
  1. Can the SPX hold the bullish technical formation (Figure 1.3) of its 50-day (1476.72),  100-day (1446.60), and 200-day (1409.21) moving averages? Of note is that the 50-day moving average coincides with a major support swing area of 1474.51 from September 14, 2012. That 1474.51 level was resistance for the SPX from September until early January. Once the SPX traded above that previous ceiling of 1474.51, it became a supportive floor.
  2. Three macro events in the U.S. must be watched closely over the next ten days. Obviously, the March 1st sequester deadline. Also, I would closely watch the March 1st ISM Manufacturing report at 10 a.m. and its all-important new orders-to-inventory ratio. Lastly, the March 7 U.S. Labor report, which consensus estimates currently look for a weaker report than last month.
  3.  Currency trading has largely shaped the SPX price action over the past few months. The Japanese yen (Figure 1.4) has assumed the role of the funding currency for the global carry trade. Having a global carry trade is a tailwind for capital markets. However, the euro currency (Figure 1.5) is in the midst of a sharp correction that will lift the U.S. dollar and provide a headwind for U.S. multinational equity prices. Fundamentally, the euro correction is needed to stimulate its export economy. Over the next few weeks, the direction of these two currencies will be critical to determining if a confirmed, deeper correction is in our midst or is it just a pause in appreciation.   
I have written in the past few weeks to maintain long exposure, however, to reduce long exposure to high beta strategies. After today, the bells are blaring that further defensive action might be warranted. I expect in the next few weeks we will know that answer as the evidence outlined above will trace out an important roadmap for the SPX price direction in Q2.
 
Lastly, for those looking to “hide out,” or in my case play the waiting game, I highlight that while media headlines remain focused on Treasury and Agency outflows, taxable fixed income remains a port of call. Investment grade corporate bonds is posting strong performance relative to other risk assets today.
 
Figure 1.1 SPX Wednesday, February 20, 2013 Intraday Reversal

Source: Bloomberg
 
Figure 1.2 SPX February 19, 2013 Highest Level Since November 1, 2007

Source: Bloomberg
 
Figure 1.3 SPX Technical Formation with 50-, 100-, & 200-Day Moving Averages

Source: Bloomberg
 
Figure 1.4 Japanese Yen Prior Year

Source: Bloomberg
 
Figure 1.5 Euro Currency Prior Year

Source: Bloomberg



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