The two timing indicators, Top 20 Differential and 13-day BTI, gave a sell signal and the FTSE declined this week but the decline was not large as I was expecting. There is strength in the FTSE and we can see this when we compare the FTSE to the S&P. The FTSE is outperforming the S&P, this is why there is a good chance the FTSE will rally back to the top before the next decline starts.
The situation in Europe is not improving, German CPI was lower than expected (-1% MoM), deflation is spreading and in the US we saw a big drop in pending home sales. Crude oil is bouncing back but for how long? The trend is clearly down and chances are oil will make a new low.
If the stock market is at the start of new bear market, the negative mood that grows with a bear market will spread to oil and crude oil will trade significantly lower in the next six months. Yesterday's rally in the S&P was mainly due to big moves in the price of Apple and Boeing, otherwise nothing has changed and this rally is likely to be a counter trend.
As I said the FTSE is strong relative to the S&P. The US index hit its target at 2000 but not the FTSE. The lowest level wave 6750 and now the FTSE is rallying again. What was more surprising was the fact that the FTSE did not respond to the afternoon decline in the S&P. In this situation any counter trend bounce in the S&P, like the one we saw last night, will push the FTSE higher. So today the FTSE is trading higher and on track for a second attempt to break above 6905.
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Before I tell you about money management and risk/reward let me show you why the latest rally to 6900 was an important move. The previous high (6905) was recorded in September last year. If the FTSE 100 fails to break above that level we will have a double top with devastating consequences.
You see there are two ways to interpret the latest rally.
It could be an impulse wave up and in this case the stock market will rally again. But it's not clear because since last week we had a series of positive announcements and the stock market is not responding. Last week the ECB announced QE yet the FTSE and S&P are trading below the levels post announcement. Then on Tuesday Apple announced record results and yesterday's FOMC statement was as expected yet the stock market declined.
When the stock market fails to rally on good news sentiment is bearish. Right now the BTI is till rising but it feels like sentiment will turn bearish in the short term. On the chart above the current decline is wave iv (circle) and once this decline is over the FTSE should rally to complete wave v (circle). But the key level of 6905 remains intact and as long as it remains intact there is a possibility the rally was wave 2 as shown on the alternate wave count:
If the rally was wave 2, the decline in the FTSE will continue because the next move is wave 3 down. This is a long term decline with a target near 5500. Given the potential downside risk it is not recommended to go long (except if you trade intraday). We need to see what the S&P 500 will do before taking a firm view on the next move. The US index is near a key support, if broken the stock market could plunge.
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Until next time,
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Editor's note: You'll find the text version of the story below the video.
On January 21, one of the biggest financial lawsuits in recent history came to a costly end. The accused, ratings behemoth Standard & Poor's, agreed to a $1.4 billion settlement for "inflating credit ratings on toxic assets," thus accelerating and exacerbating the 2008 subprime mortgage crisis.
Settlement aside, there is a far bigger issue here than business ethics or conflicts of interests, which is not likely to get a hearing in the court of mainstream finance.
Which is: The professionals who are supposed to assess investment risks are no better at it than you or I.
Case in point: Think back to November 30, 2001. The world's largest seller of natural gas and electricity has gone from cash cow to dry bone. Its share price had plummeted 99%, from $90 to just under $1. YET-- the company continued to enjoy an "INVESTMENT GRADE" rating.
The company's name: Enron. Four days later, it filed for the largest bankruptcy in U.S. history.
Enron seems like a distant memory, but what about the subprime mortgage debacle? Moody's rating service slashed the ratings of 131 subprime bonds due to higher than expected defaults, in July 2007 -- two years after the market for non-traditional mortgages had already turned.
Spot a trend here? The "experts" failure to anticipate huge trend changes in companies, and in the overall economy. In the first edition of his business best-seller Conquer the Crash, EWI president Bob Prechter wrote:
"The most widely utilized ratings services are almost always woefully late in warning of problems within financial institutions. They often seem to get news about a company around the time everyone else does... In several cases, a company can collapse before the standard ratings services know what hit it."
So here's the question: What are the experts not seeing now that you and I need to prepare for?
What about gold? In 2012, with prices nearly reclaiming all-time high territory, the Federal Reserve's quantitative easing campaign was supposed to keep the wind at gold's back.
"Ben Bernanke has just offered gold investors a... gilded invitation to participate in the greatest secular bull market of our time." (April 14, 2012, Motley Fool)
Then this happened:
The same goes for the 2008 peaks in oil and commodities -- two more "safe-havens" that were supposed to benefit from the Fed's money-printing campaign, but instead prices fell to lows not seen since the 2007 financial crisis.
So, that leaves the remaining outlier -- equities, which have climbed to record highs. And, according to the experts, the path of least resistance remains up. A December 14, 2014 article in the New York Times:
"We don't see a lot on the horizon that could derail the U.S stock market in particular."
Our January 2015 Elliott Wave Theorist urges caution with this single chart of the S&P 500's year-end valuations since 1927. Every major peak of the last 90 years landed well outside the normal range: 1929, 1987, 2000, and 2007.
We believe the precarious placement of 2014 sends a similar message: "The stock market and the economy are not in a new multi-decade recovery as economists believe, but very late in a transition phase from boom to bust."
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The FTSE is overbought, so today's rally back to the top provides another opportunity to go short. This time the rally has been boosted by Apple Inc. The company reported earnings last night and the market rallied after the announcement. Earlier, US stocks closed more than 1 percent lower after disappointing results from Microsoft, Procter & Gamble and Caterpillar. There are now concerns that the strong dollar is having a negative impact on US companies.
In addition the stock market was under pressure by worse than expected durable goods orders, this means the US economy may go through a softer period and Fed officials will take this into account at the FOMC meeting. The FOMC meeting minutes and interest rate decision will be announced today at 19h, this is another market moving event. The Fed will be in no hurry to raise rates following the recent market turmoil, the strong dollar and the falling oil price which is keeping inflation below the Fed's target. This should benefit the stock market.
The FTSE is near an important resistance area, below the previous high at 6905. The S&P is still consolidating, the consolidation will be complete with a final move down. There is also a risk of a complete break down in the event of higher US interest rates. This is why the market will be volatile tonight at 19h.
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Today the FTSE is down following the Greek election result and the second timing indicator, 13-day BTI, has become overbought. The risk of a pullback has increased significantly because the Top 20 Differential is also overbought. The election result sent the euro tumbling, crude oil is declining too. The anti austerity party Syriza won the election and people in Europe are concerned Syriza's victory could lead to renewed instability in Europe. As a result stock markets in Europe will open lower.
The market is still under the influence of the ECB's stimulus package announced last week, I suspect it is the main reason why we are not seeing a bigger drop this morning and I would not be surprised if the FTSE rallies later in the day. But the timing indicators are overbought and in this situation the FTSE is likely to pullback in the next few days. Also we are seeing renewed tensions in Ukraine, if the violence escalates the situation will unnerve investors and the stock market will fall. So there are downside risks right now, the best trade is to go short as high as possible.
Since making a low at 6298 the FTSE has rallied without interruption. The index has closed up each day since 14th January. Based on past pattern the FTSE is now overbought, this means it's not the best time to go long. Indeed, the risk of a pullback has increased significantly and the question this morning is: is today's pullback the start of a longer decline or a pause in the uptrend? If it's a pause then the the decline will start from higher levels.
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