While we saw another positive week for broader European markets last week, some of the declines seen on Friday did take some of the shine off, with the FTSE100 underperforming, finishing lower for the first time in four weeks, despite another really strong week for oil prices, the third in succession.
The continued rise in the oil price would appear to suggest that investors are making an assumption that the supply glut is on its way to becoming worked off and that prices could be set for another leg higher.
While this may seem a reasonable assumption, caution remains warranted on the basis of the fundamentals given the oil market remains oversupplied as some in the market look to pick the top on a market that has already rebounded over 60% from its recent lows. While this seems a sensible strategy it remains fraught with danger given the significant cuts to US capacity already seen in the last twelve months, along with the continued weakness of the US dollar against the both the Reuters CRB and Bloomberg commodities index, both of which are trading at their highest levels this year.
Add in the fact that this renewed resilience in sentiment has brought about some significant technical break outs for both crude oil and copper and that central banks around the world appear to be slightly more co-ordinated in terms of their overall policy intentions, and it is hard to believe that just over two months ago we were trading at multi year lows.
Don't be fooled by the stock market rally, the market has a habit to suck people in to the point where the most bearish traders turn bullish.
Sentiment is bullish but the Top 20 Differential is overbought at 3.7%. In an uptrend an overbought Top 20 Differential means the blue chips have risen too far too fast. In general it's a short term sell signal, the trend is up and the FTSE 100 will pullback to complete a counter trend decline.
The FTSE has been driven by mining stocks, the sector is in a long term decline and from time to time we see some dead cat bounces. I suspect this is another one. Mining stocks may pullback today after China posted weakest growth since 2009. Chinese GDP grew 6.7% in the first quarter in line with forecasts.
As we move into the second half of April and closer to the June referendum, policymakers are increasingly concerned by a Brexit. The Bank of England warned that EU exit is likely to hurt the economy with 100,000 financial services jobs at risk. According to IMF managing director Christine Lagarde, a Brexit could derail Europe's fragile economic recovery. Given the potential effect of a Brexit on the economy I expect investors to become more cautious ahead of the referendum. This means upside in the stock market is limited.
FTSE 100 weekly chart since April 2015
As noted the FTSE is in the final leg of the advance, I believe it's the final leg of the advance because we already had record percentage bulls a few weeks ago and the rally has gone further than expected. I don't have the latest number but I suspect the percentage of bullish investors to be 80% or more. This kind of high percentage is associated with market tops.
In February when the FTSE was trading at 5500 it was the opposite, the percentage of bulls was very low and the percentage of bears very high and the market rallied. The general rule is that if you feel extremely bullish it's probably time to take profits on your long positions. Also the wave count is nearly complete, a five-wave rally inside wave C accompanied by record percentage bulls and overbought Top 20 Differential provides a high confidence scenario for a decline in the weeks ahead.
Be prepared for the next move down, it will the most powerful wave since August last year, the FTSE 100 will decline below 5000 by the end of the year.
Last week I said that the FTSE 100 was leading the way down after peaking at 6237. Very often after a long rally, we see the FTSE 100 underperform the S&P 500. Such a behaviour is associated with a market that is losing strength. The FTSE peaked on 18 March, the S&P peaked at 2056.5 on 22 March. It would appear that the S&P has turned down to join the FTSE in the next decline.
The rally from the lows in February has been intense for a counter trend rally, this kind of move is usually seen in bull markets. No wonder why so many people are now wondering if we are still in a bull market. The reason why stocks have surged is because the ECB and the People Bank of China came to the rescue and commodity prices have rebounded. Of course these moves are counter trends, if you look at a weekly chart of oil, metals and mining stocks the trends are down.
Furthermore the blue chips are not responding to the rally, they are lagging the FTSE which is not what we normally see in a bull market. In a bull market the blue chips lead the way higher and after a strong rally they will be overbought. Here they are not overbought, many of the top twenty shares by market capitalisation are lagging the FTSE. Shares like Barclays, BT, HSBC, Lloyds Banking, Sabmiller, Astrazeneca are weak, therefore the rally in the FTSE is more likely to be counter trend.
This counter trend rally is wave 2 and it ended 6237. The next move is wave 3 in five waves [i,ii,iii,iv,v (circle)] and we are right at the start of this long decline. The first wave down is wave i (circle) and this move should terminate near 5550. Today the index is bouncing back as the S&P is still above 2040. The US markets must decline otherwise without the help of the S&P the FTSE will struggle to go down. Based on the wave count the S&P should decline this afternoon, this means the FTSE should break below last week low  later today.
While travel and hotel stocks took a bit of a hit yesterday in the wake of the Brussels terror attacks equity markets in general were able to shrug off the worst of their intraday losses, with European markets managing to just about finish the day in positive territory.
Whether the European consumer will prove to be anywhere near as resilient remains to be seen, and that may not bode well for the economies of Europe in the coming months, which in yesterday’s economic data did appear to be showing some signs of a recovery in the latest services PMI data for March.
In France in particular the performance of the services sector which had taken a heavy knock in the aftermath of the horrific events in Paris, improved strongly as economic activity bounced back to 51.2 after a weak February. The most notable improvements were to business expectations which improved to a seven month high, as French business and the French economy looked to put the events of November 13th last year behind them.
The risk now is that yesterday’s horrific events in Brussels snuff out this returning optimism, indeed it would be surprising if it didn’t given that the initial response of consumers will be to modify their behaviour, whilst hotel and travel bookings are more than likely to see sharp falls, as consumers across Europe absorb the events of the past few days.