During the past week, I was asked numerous times what I foresee for stocks during the summer months. The question might be a little too forward to fully answer at this juncture, simply because headline and rumor risks are at ultra-high levels, and that has the potential to shoot risk assets in either direction.
I do, however, see a few signs pointing down one path.
Before looking at the charts, allow me to make an obvious (but important) statement I think for one reason or another not enough people have come to realize:
There is much talk about how Europe — and specifically Germany — is not acting quick enough to put out the fires of the eurozone crisis. While I don’t disagree with that statement, it is important to understand the magnitude of these very structural issues at hand in Europe. Such changes will take time. Secondly, Germans are a fairly serious bunch and will think a “problem” through a thousand times before making a decision. That too, will take time.
Again, I am not agreeing with the snail’s pace at which decisions (or lack thereof) are being made in Europe — I am merely pointing out a cultural difference here.
To the charts we go!
Because we currently are faced with global issues, it is best to look at a global equity index for broad strokes — the MSCI World Index. The head-and-shoulders pattern currently in play is a) rather obvious and b) has been building since the middle part of 2009. My base case is that the head-and-shoulders pattern does not break much below the 1,100 mark, yet if we do, a target near 770 would present us with a more-or-less worst-case scenario. The 770 target on the MSCI World Index is a little more than 30% below yesterday’s close.
Closer up, we see that the MSCI World Index is showing positive divergence between price and the RSI trend indicator — i.e., price made a lower low this week while RSI made a higher low. This is an important development I look for to sniff out better buying areas.
Additionally, volume on the SPDR S&P 500 ETF (NYSE:SPY) made a lower high versus a lower low in price on Monday. This simply points to an easing in selling pressure, which also could be seen during the August-October 2011 period.
In my mind, the above signs point to a near-term buyable bottom for those that either need to (due to investment mandates) or want to (with a long-enough time horizon and defined risk parameters) put some money to work on the long side of equities.
Looking beyond the summer, however, I would again take a more precautionary stance. For good longer-term buyable bottoms, investor sentiment should see extreme bearish levels that we currently don’t have. Additionally, note the charts of the S&P 500 and the transportation stocks below: Both have plenty of downside to touch the uptrend dating back to the early 2009 lows, which I think is a better area of support.