US30: Rally Worthy?

The more things change, the more they stay the same as the world’s economic atmosphere appears to be morphing in to a different iteration of the same situation. As North Americans woke up this morning, equity markets in Asia were mixed while their European brethren were mostly down on news of a middling bank stress test by the European Central Bank and disappointing IFO Business Climate in Germany. The stress tests weren’t too surprising as news about it was being reported before markets closed on Friday, but the sixth straight decline (and miss of consensus) for the German data was more disconcerting; mainly because it seems businesses in the region are trying to signal the German central bank (BUBA) to stop getting in the way of Quantitative Easing.

When it comes to BUBA, it may not matter what they say anyway because ECB President Mario Draghi appears ready to drag them along kicking and screaming. Draghi’s insistence and details about the ECB’s QE plans are too salient to simply be a threat that never comes to fruition. Unlike Draghi’s contention a few years ago to do “whatever it takes” to save the Eurozone in the face of rising borrowing costs for struggling Eurozone nations, the market expects and likely won’t stand for anything but concrete action. In fact, the ECB has already begun buying covered bonds from banks earlier this month, and will begin buying Asset Backed Securities at some point in the fourth quarter of the year. If they were to flake on the second part of that plan, the market’s punishment would likely be swift and harsh; something the ECB would be foolish to invite.

So while the Federal Reserve is likely to taper away the last bit of QE from their Large Scale Asset Purchase program later this week, the ECB is stepping in to the void to maintain the status quo. That could potentially mean that we will see more rallying equities as we finish off the final quarter of 2014 with the occasional drawdowns along the way. That opens the door for typically reliable technical patterns, like trend lines and Fibonacci retracements/extensions, to come in to play.

The Dow Jones Industrial Index (US30.cfd) has just such a trend line plus Fibonacci pattern setting up which may provide an opportunity for a further rally. Starting in mid-September, there was a declining trend line that capped rallies in this instrument (Figure 1), but has recently been overcome. Simultaneously, there has been a rising trend line since mid-October that has followed consistent Fibonacci retracements and extensions on the way up to breaking that declining trend line (Figure 2). Following the principle of former resistance becoming support, the Dow may be in for a rally that approaches 17,000 if these technical influences hold true.

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