In the last BullBear Market Report issued on September 17, I proposed the following as the primary scenario facing the US equities markets:
SPX is making a B wave high in this area with a C wave decline to follow, eclipsing the 2012 bottom and potentially the 2011 low as well. The resulting bottom may mark the end of the bear market that started in 2000.
Immediately thereafter, the market started to decline into the recent November 15 low. The QE Infinity high appears to have fulfilled a similar function to the "Bin Laden is Dead" high on May 2, 2011. If that's the case, the recent low was the first segment of a C wave down and we are presently in a corrective rally that will set up a much more significant selling opportunity, just as the July 2011 high set up the crash into the the August 2011 low.
My overall interpretation of US and Global risk assets continues to be that a long term top was made in the February-May 2011 time frame. While certain segments of the US markets have made several marginal higher highs those moves above the 2011 levels have been short lived and have resulted in an apparent secondary topping process. In my current view the rally off the March 2009 low ended in 2011 and all the action since then has been in the context of an E wave triangle that will eventually, when completed, end the bear market that started in 2000. Please note that any persistent period of sideways movement, such as that we have since 2000 and also since 2011, is considered a bear market.
At this point in time there is a primarily bullish tilt to market psychology and there is widespread acceptance that the "Bernanke Put" will effectively guard against any decline larger than that which was seen from the April and September 2012 tops. Traders and investors are complacent and fear is largely absent. The fact that the yield on the S&P 500 is better than the yield available in the bond market, and that, in conjunction with constant Fed liquidity injections, will very likely help to keep a bottom under stocks. That bottom may be considerably lower than many investors realize however, and the area between the 2010 high and 2011 low may be visited a number of times as the long term bear winds down. While most bullish news is likely already priced in, there are a number of bearish factors which have probably not been priced, such as higher capital gains taxes, a renewed European debt crisis, continued global economic weakness, another US debt downgrade and, most significantly, the continuation of a trend of weakening corporate earnings. Earnings season starts anew on January 8th with Alcoa.
It's important to note that Cyclically Adjusted Price Earnings (CAPE) has been falling since the 2011 high:
There appears to be ample room for valuations to fall into the support zone between 10 and 12 before the bear market ends.
There has been a general absence of any net advance in most markets and sectors since May of 2011 and substantial declines in many. No net gains and some net losses since May 2011 qualifies as an 18 month bear market, particularly when inflation adjusted real returns are considered.
Here are some relative performance studies of important market groups since May 2011.
With the exception of the S&P 500, every major US market is trading below its May 2011 high:
Many key sectors such as Semiconductors, Basic Materials and Transports are down double digits since the 2011 top:
Global stocks (VT) on the whole are down 9% and Global stocks Ex-US (GWL) are down 16% since the 2011 high:
Commodities on the whole (DBC) are down 12% and Crude Oil (USO) has lost nearly 30% since topping in 2011:
Even precious metals (CEF) have declined in spite of global monetary inflation. Overall the picture the markets appear to be painting is that monetary magicians and fiscal pumping politicians are swimming a Keynesian backstroke against a heavy deflationary tide. With the best efforts at reflation behind them, the Monetarists may suffer several more deflationary episodes before the world economy gains solid footing and begins a new cycle of real economic growth. Investors can use the next few bouts of deflation to establish long term positions in key stocks and sectors for an eventual bona fide bull market that should get under way in 12-24 months. Traders should see a number of very nice swing trading opportunities during the same period.
On the other side of the ledger, there have been some interesting technical developments in Asian stocks recently, particularly with regards to the Nikkei in Japan. There are bullish scenarios for US markets going forward, though I find them less supported by technical analysis at this time. I'll be watching markets such as Nikkei for clues to a long term bottom.
There has been a steadily increasing non-correlation across global market sectors and even within regional groups. Wildly different performance between individual issues is becoming more commonplace as well. This sort of non-correlation is typical of a transitional bearish environment. In Elliott Wave terms, this kind of price actions is often reflected as a triangle formation. For traders, a shorter term perspective is probably going to be required going forward. For investors, a keen eye towards buying the dip when markets approach technical support levels is important.
In the short term the current rally could continue higher through resistance, but I think it's more likely we will see a retracement of recent gains or even a slightly lower low, setting up a swath of bullish technical divergences. That would position the market for a C of B rally through December (the expected "Santa Claus Rally"). A slightly higher high remains a distinct possibility. Once earnings reports start again in early January, if the recent trend of disappointing results deepens and accelerates, we should see the onset of a large C wave decline to about the region between the 2010 high and the 2011 low. In this report I have also outlined the technical conditions that will tell us (or at least caution us) that this outlook is wrong.
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