Russell 2000: about time US small cap stocks joined rally?

As well as profit-taking, the lack of any top tier economic data has held back investors from taking on too much risk so far today. But the European markets have finished higher for the fourth consecutive day, so things aren’t bad at all as far as the bulls are concerned. The slight hesitation on Wall Street should not have come as a surprise, as clearly some traders were eager to book profit following this week’s earlier rally. Some speculators are probably spooked by the decoupling of the recent correlation between equities and bonds and currencies. For example, the USD/JPY has been falling as stocks have been climbing higher over the past couple of days. But the major central banks still remain supportive and judging by the FOMC’s last policy meeting minutes that were released on Wednesday, the Fed appears very unlikely to embark on an aggressive hiking cycle after it probably raises rates in December. Not that anyone was expecting the Bank of Japan to do anything, but the Japanese central bank has decided against expanding the size of its already-enormous asset purchases programme. The BOJ probably wants to wait and see what the Fed and ECB will do in December, before making any changes to its own policy. The ECB is clearly very dovish and according to their meeting minutes that were released today, policymakers considered ramping up their version of QE as early as October but in the end decided to stay on hold until at least December. So, the prospects of extremely accommodative central bank policy should continue to boost the appeal of stocks, especially in Europe.

In the US, it is obvious that a few big names such as Apple, Facebook and Google have been the main drivers behind the stock market rally, which is why the S&P 500 for example is closing in on its previous record high. In contrast, the small cap Russell 2000 index is clearly lagging behind thus far. However judging by recent price action, it too could join the rally soon. Yesterday for example the index formed a bullish engulfing candlestick pattern on its daily chart. This clearly shows that there was a shift from selling to buying. At the moment, the rally has stalled ahead of the 1176/7 resistance, but if this level breaks then we could see a sharp rally later on today or Friday. The next resistance beyond 1176/7 is at 1195, followed by the 61.8% Fibonacci level at 1211/2. The 200-day moving average comes in at 1215. There are among the realistic targets to watch in the short-term. But a potential break below yesterday’s low of around 1150 would invalidate this bullish setup, and in that case a move back below 1135 could be possible.