-- Posted Wednesday, 26 March 2008 | Digg This Article
| Source: GoldSeek.com
By Nadeem Walayat
Given current uncertainty and volatility, it is more difficult than usual to project an outlook for the global stock markets 12 months forward, therefore to be able to generate an outlook there is first a need to arrive at key assumptions that will impact stock prices going forward before I turn my attention to the technical picture contained within the stock charts.
Key Assumptions
1. US Economy and US Dollar
The US is fast slowing down and tipping into recession, this is clearly evident given the US Feds and governments recent panic measures to shore up the economy during an election year.
The expectation therefore is that the US will go into recession as it enters 2009. It is not possible to say how deep the recession will be at this time, but given the flood of liquidity it does point towards a shallow recession. Ben Bernanke is busy applying the conclusions of his thesis on how to avoid a Great Depression, step by step.
Therefore the assumption I am making is that the US downturn will not be as severe as current consensus is expecting and will therefore give the Fed the opportunity post election to raise interest rates and fight inflation. This will be helped by a bottoming US dollar as a consequence of higher interest rate and stronger US economy expectations.
The UK and Europe are expected to continue slowing and appear to be about 12 months behind the US in economic trend terms. Therefore would tend to support a strengthening dollar hypothesis later this year. Earnings will take a knock for the next 6 months, so will bare down on stock prices. The key here will be to see if the stock markets have fully discounted the earnings drops by the way they react to earnings statements.
2. Soft Decoupling
With the US going into recession there cannot be decoupling as sectors in emerging markets that rely on the US for a market for their goods will be hit. Therefore all markets will be hit by the US slowdown, thus applying a 2% reduction of GDP growth for all markets, the impact will be a reduction in emerging market growth rates i.e. China GDP growth drops from 10% to 8%, Russia 8% to 6%, Brazil 6% to 4%, and India 8% to 6% etc.
3. Stock markets Trend in Tandem
A US / western stock market downtrend is coupled with an emerging markets downtrend and visa versa. Therefore the returns will be based on relative strength of the markets, where uptrends are stronger than the ensuing downtrends for stock markets such as Russia's.
4. Credit Crisis
Credit Crisis is still with us and still very much alive and expected to continue into 2009. The credit crisis manifests itself in the form of banks and financial institutions unwilling to lend to one another due to the risk of default, this has led to the widening in the spread between the central bank base interest rates and the inter bank rates to decade high extremes. The importance of the availability of credit impacts on all sectors of the economy and hence is driving many western economies towards recession, most notably the US.
Not unexpectedly, the credit crisis has resulted in near extreme levels of market pessimism, the valuations in many sectors such as banks illustrates this extreme level of pessimism, where banks that cannot go bust such as HBOS are yielding 15%! This suggests these sectors are near some sort of bottom in time, if not in price. So I am going to avoid the armageddon scenario of a complete collapse of the financial system and take the view that the market sectors have little further downside having already discounted more credit problems ahead of a US recession.
Off course if I turn out to be completely wrong and we are headed for a Depression that could last for many years then there would be much more downside as the 1930's bear market witnessed, but on the balance of probabilities this looks like a bottoming phase for the financials. Despite risks of further spikes lower during the next 6 months, a year from now the situation 'should' be far more positive and therefore reflected in much higher stock prices at that time.
Despite more banks and brokerages teetering over the brink into financial oblivion, I expect the financial markets generally to become more immune to such bad news as each wave hits the market. Therefore, the reaction of the markets to such bad news will be a strong indicator of what actually lies ahead.
5. Housing markets
The US housing market is perhaps past the worst with still more downside during the next 9 months, however the markets tend to discount the future and therefore may start to discount the recovery to take place during 2009 as the impact of deep interest rate cuts start to be felt. The UK housing market has barely begun its bear market so I am not expecting any good news on that front until well into next year. Thus going immediately forward, housing will be a continuing drag on the markets which confirms the view that there is further downside for stocks in the near future.
6. Foreign currency Reserves
Unlike the past crisis, when the West financed the emerging markets, the emerging market economies of today have massive amounts of foreign currency reserves I.e. China at $1.4 trillion, Russia at $600 billion, which is more than enough to weather any economic downturn through increase in domestic demand.
The emerging markets have a lot of capital to invest in their domestic sectors and infrastructure projects. Also targeting strategic investments in the West such as the buying up of huge chunks of western financials, though the Bear Stearns fiasco may have sent a shot across their bows that in a worst case scenario a major western financial institution going bust would NOT end up in the hands of its SWF shareholders dspite the size of their holdings!
7. Ben Bernanke - Right man at the Right Place at the Right Time?
Contrary to the consensus that keeps slamming Bernanke down every time he pears out of his helicopter to wave at the mass of investors below, I think Bernanke under the circumstances of picking up Greenspan's pieces is doing a good job! I think if it were not for Bernanke's actions then the situation today would be far worse than were we are at.
Despite mistakes such as the firesale of Bear Stearns to JP Morgan for 2 bucks. I do give Bernanke the benefit of the doubt, that he will pull out whatever stops he is able to make the next recession as shallow as possible, so I am at this point in time discounting the prospects of a second Great Depression.
Since were coming out of Easter, Bernanke may end up getting crucified by the next president, but I'm sure history will remember him favorably.
8. Major Trends - Inflation, interest rates etc
I am relying on previous analysis that the graph below illustrates on interest rate and inflation expectations in that once the US economy stabalise's from the dropping like a stone phase, the Fed will reign in inflation during 2009, especially as the high rates of inflation from earlier months leave the 12month indices. The consequences of this is for a US dollar bottom BEFORE the event - sometime this year and therefore become a disinflationary contributor to inflation during 2009.
9. The Idiot Leaves the White House - Soon
Before I got slammed for calling George Bush an Idiot, that is the outcome of a Market Oracle Poll, where 85% of 750 voters, voted "Yes" to "Is George Bush an Idiot?".
The levers of power which include the US Fed have had to wrestle with the incumbantcile in the White house, who's policies have brought the United States, formerly the worlds Hyper power to the current state of decline. I don't need to repeat the outcome of Georges brilliant idea of fighting 'If daddy can do it so can I' Iraq War. The cost of which now exceeds $1 trillion, that's $1 trillion! Imagine how many bailouts that could have funded! The final cost of the war is now expected to exceed $2 trillion, coupled with the human misery costs on top which include 100,000 Iraqis dead, 4000 US personnel, and countless hundreds of thousands permanently maimed both Iraqi's and US personnel. That's George Bush's brilliant Idea for America for the 21st Century. It will be great to have some one in the White House post Jan 09, who is able to understand the meaning of M O N E T A R Y P O L I C Y. Therefore expect stocks to reflect this greater degree of competence from the White House.
10. Commodities Sectors
Commodities have had an excellent run, but every bull market does eventually come to an end. My expectation is for commodity price deflation towards the end of this year after one final assault on the highs during the summer months. The expectations therefore is for commodity sector stocks to under perform going into 2009 and during 2009.
11. Global Stock Market Valuations table
The graph was first posted in November 07 and acts as a 12 month indictor of which stock markets can be expected to outperform to the upside.
The relative performance to date tends to support the expected trends, therefore I will continue to favor the likes of Russia and India over others.
Overall Assumption
Therefore my expectation is for the markets to start thinking ahead of the current credit crisis for the more positive horizon that will manifest itself during 2009, and therefore the message I am about to paint is a little more positive than the increasingly bearish market consensus that appears to be brewing. The current condition of many stock markets is at an oversold state, therefore a bounce here into late April / May is highly probable, following that we should see another sharp leg lower during the summer months, perhaps triggered by more bad news on the credit crisis front.
Technical Outlook for Major Global Stock Markets
China Stock Market - SSEC Index
I bailed out of the Chinese titanic in October 2008, I actually came to the conclusion to prune my portfolio as we approached the 20th anniversary of the the 1987 crash, and decided that China was primed for a crash and posted as such in October and throughout November. The bearishness has been fulfilled with China's regard. Undoubtedly the chinese economy is growing strongly and will continue to do so, albeit at a slower rate and hence future stock growth is expected to be much more measured. I think it will take a while before china crosses above its 6123 peak set in October.
Technically the Chinese stock market having fulfilled its minimum 4000 target is now targeting 3000, about 600 points off it's last close. Would I buy towards 3000? - The answer is YES! But I would not put all of my eggs in one basket as I expect it will take several years to get back to above 6100! I expect price consolidation during 2008 between 3000 and 4000, and high volatility. The immediate picture suggests a rally into May before the next wave of selling towards 3000.
India - Bombay Stock Exchange Index
India is one of my favorite long-term investments and has not failed in delivering the goods over recent years. The country is perhaps 10 years behind China in terms of the amount of possibilities it presents for long-term growth.
The recent sell off from an overbought state has seen the BSE index decline from a high of 21,000, all the way down to below 15,000. This fulfills the unwinding of the overbought state requirement and the expectation is for india to outperform going forward.
FTSE 100 Index (UK)
Maybe I am a little too close to the home market for my own good, but I can't help to be positive and overall bullish. Okay so the financial sector is a giant chunk of the FTSE and the energy and commodities sector is another giant chunk so the trends of those sectors bear down heavily on to the index. Also we are still in the early stages of the housing bear market where the populous is still in denial of what's to come. So maybe I should temper my bullishness in favor of the technical picture as there is a lot of economic bad news to come over the next 12 months. But there is a strong positive about the UK, and that is an underlying dynamism. The country is the dynamo of Europe to where everyone flocks. It is fundamentally imprinted on Britain and we have Margaret Thatcher to thank for that, Yes Tony Blair, and Gordon Brown have watered it down a little and hence we may need another Tory government for ONE term that puts Britain back firmly onto the right path! Though David Cameron's Tory party does not look like the kind of medicine that Britain needs, unless its a case of wolf in sheep's clothing.
Well So much for all of my bullish expectations. The FTSE 100 Price chart looks bad, very bad. It is clearly in a down trending channel. which implies next target to be tested to the downside is 5,200. This implies more bad news on the financials, commodities and housing sector fronts which will drive this market lower. However in the immediate future the FTSE is oversold, so expect a bounce of sorts. Unlike for China and India earlier, its not possible to project 12 months forward, as to develop a bullish trend, the FTSE needs to first clear 6000, and given where it is at there does not seem to be much chance of that in the near future.
Hong Kong - Hang Seng Index
The trend expectations for Hong Kong have been very similar for to that of China's i.e. a decline into the sustainable uptrend zones, which the stock market has now fulfilled after having fallen a whopping 35% from its October highs! So much for the consensus expectations that Hong Kong would be supported by a flood of Chinese money given the fact that the same stocks are priced more cheaply on Hong Kong exchange than the Chinese exchanges.
The expectation is now for Hong Kong to make a base, though there is a risk that it may overshoot to the downside before resuming a more measured uptrend. However expect extreme volatility and as with China, the highs of 32k will not be revisited anytime soon. but the market is oversold so the immediate future should be positive.
Japan - Nikkei 225
I have watched Japan from right before its bubble burst in 1990. This market is one that I would not touch despite opportunities of being oversold. I have always considered Japan a basket case investment and have posted at such even when other major periodicals were falling over themselves to recommend investing in Japan as one of the Greatest Buys of All time!
Technically the Japanese stock market is oversold, but Japan seems to be in terminal decline, why? Bad debts? Or is it the ageing population and that the society is far too rigid to adapt and change? There is something wrong with Japan that is not allowing it to have economic revolutions, and revolutions are good for societies that are stuck in the slow lane. The Japanese basically do not spend enough and save too much, therefore there is a great deal of over capacity in the economy that is causing deflation as companies that should have long gone bust have not! This is also a warning to the Yen Bulls, as the Japanese central bank also favours the increasing of money supply solution to keep the economy ticking along.
A bounce from current levels will met by resistance along 14.000. At best Japan can expect a sideways trend. However a break below 12,000 would target a move to below 10,000.
Russia - RTS Index
The russian bears coffers are filling up with hundreds of billions of dollars, and just like India it is a more recent arrival to the boom times than China and many other emerging markets. Russia is one of my favorite multi year if not decade investment plays and the stock market has not failed to impress, having managed to stand up well against the crashing markets across the globe.
Many commentators focus on the negatives of Russia as a reason to avoid, but they fail to see that the Russia recovery story is still at the very early stages and therefore it can be expected to be rough and a bumpy ride. In fact the very fact that there so much commentary which is negative about Russia is one of the the reasons why I am strongly bullish. It has the all the hall marks of being where China was 10 years ago with the added bonus of being extremely rich in natural resources. So YES, I am a STRONG Russia Bull!
Given the fact that much of the investment world has yet to wake up to Russia, the markets uptrend has been more sustainable and therefore the decline has been orderly targeting the support zone along 1800. The MACD indicator implies an imminent uptrend, which should it be followed by summer weakness, the indications are that this decline will be shallow towards 1800. The whole area between 1800 and 1200 is riddled with support levels that would make any decline into that zone mild. I would definitely add to my Russia holdings on a dip to 1800. After all what's a couple hundred points now when in ten years time the index could be well north of 18k!
US - Dow Jones Industrials
The heavily manipulated Dow Jones stock market index is exhibiting a trend similar to the FTSE 100 Index in that being in a down sloping channel within a range of 12,800 and 11,700. The MACD indicator implies the Dow is oversold and due a sustained uptrend which implies a break above 12,800, however there is heavy resistance between 13,000 and 13,500 that is expected to cap any rally. It is very difficult to project the Dow much more forward than that, but there is definitely a bearish bias to the index, therefore the conclusion is for a sideways consolidation trend for much of this year with a significant risk of a break below 11,700 that would target a move to 10,500.
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By Nadeem Walayat
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Nadeem Walayat has over 20 years experience of trading, analysing and forecasting the financial markets, including one of few who both anticipated and Beat the 1987 Crash. Nadeem is the Editor of The Market Oracle, a FREE Daily Financial Markets Analysis & Forecasting online publication. We present in-depth analysis from over 120 experienced analysts on a range of views of the probable direction of the financial markets. Thus enabling our readers to arrive at an informed opinion on future market direction. http://www.marketoracle.co.uk
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-- Posted Wednesday, 26 March 2008 | Digg This Article | Source: GoldSeek.com
