There has been a decisive shift in the outlook for investors in recent weeks. Having been consistently negative for much of 2022, we are now seeing weakness being bought into. Crossroads moments are seen as an opportunity to buy, rather than as an excuse to lock in near-term profits. There is more to do for indices to turn into sustainable recovery plays, but the signs are encouraging.
- Falling real yields are supportive for indices. However, the main caveat is that this move is being driven by growth fears.
- Technical indicators show major indices recovering well. However, there are more hurdles to overcome for this to be a sustainable turnaround.
Falling bond yields help indices
For several months inflation has been at the forefront of concerns for market participants. However, in recent weeks, fears of recession have grown. Nominal bond yields peaked in mid-June (when the US 10-year yield hit 3.5%) but have been falling since.
Although inflation expectations have fallen too, they have not fallen as fast as nominal yields. Rising recession fears have pulled bond yields lower.
However, falling real yields are seen as a positive for indices. Lower interest rates allow equity investors room to take more risky investments. Subsequently, we have seen indices starting to recover.
USD moves could be key
This fall in real yields has also started to weigh on the US dollar (USD). The USD and Wall Street have a strong negative correlation (averages around -0.37 over the past 12 months). So a falling USD is positive for Wall Street.
But will the USD continue to fall? We have been talking about the USD correction for several weeks now. We have been discussing how far a USD correction can go. The Dollar Index pulled back to 105.00 in the recent move, only to rebound from the support of a six-month uptrend. The continued reaction to this trend could be crucial.
Further correction on the Dollar Index to break the uptrend and move below 105.00 support would be the key next step for markets. Given the strong negative correlation to Wall Street, this would also likely provide a boost to indices too.
Technicals point to a key test ahead for indices
Recoveries in major markets are progressing well. Higher lows are forming, whilst tests of resistance are breaking to the upside. However, the next hurdle in the recovery on Wall Street needs to be overcome.
S&P 500 futures (SP500ft) have broken a four-month downtrend. Posting a series of higher lows, the market has used support around 3915/3950 as the springboard for the latest leg higher. Momentum is strong with the RSI into the 60s (recently hitting nine-month highs). There is a golden cross on the 21-day and 55-day moving averages.
However, the market needs to overcome crucial resistance between 4100/4200. This is a pivot band that has become a huge medium-term resistance in 2022. A close above 4200 would be a crucial next step in the recovery.
Dow futures (DJ30ft) are facing a similar test. The recovery has progressed well, with strong positive momentum and a golden cross on moving averages. However, the resistance at 32490/33430 needs to be broken. This is the first significant lower high of the sell-off. If this is broken then it would point to a sustainable new bullish medium-term trend formation. We would look for weakness into 31800/32200 to be used as a chance to buy.
NASDAQ 100 futures (NAS100ft) also reflect similarly encouraging positive technical signals. A decisive close above 12945 would certainly reflect a meaningful breakout. We would look to use weakness into 12070/12260 as a chance to buy.
What about the European indices? There is a different technical outlook in Europe, however, recovery patterns are also present. The German DAX (GER40) recently completed a small inverted head and shoulders base pattern). This opens for further recovery, although on a technical basis, the big picture trend would need a break above the resistance around 14800 to push for a decisive improvement. From here that is still +10% higher, so for now we are still talking about near-term recovery.
Finally, looking at the FTSE 100 (UK100) the outlook is simply now positive within a broad trading range (between 6755/7695) that has been in place for thirteen months now. Momentum is improving within being overtly bullish. Holding above support at 7335/7370 maintains the positive bias towards what would now be a test of the range highs again (c. 7650/7695).
This material is for general information purposes only and is not intended as (and should not be considered to be) financial, investment or other advice on which reliance should be placed. INFINOX is not authorised to provide investment advice. No opinion given in the material constitutes a recommendation by INFINOX or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.
