Can the rally in stocks last?
Near term drivers
Nasdaq: what the technical picture is telling us
The Dax: catching up with the US
It has been a fairly stunning rally in stock prices this week. The SPX 500 reached 1,400 for the first time since early May and the Dow Jones is also at a three month high. Stocks have climbed along with other asset classes including the Aussie dollar and oil. Even the pan-European Eurostoxx index is at its highest level since mid-April led higher by banks and financial institutions.
Can the rally in stocks last?
To answer this we need to find out why stocks have rallied in the first place. US stocks have been boosted by 1, signs of a pick-up in growth in the second half of the year as the labour market improves and 2, some stabilisation in the Eurozone sovereign debt crisis in recent days. These are perfect conditions for stocks to rally and investor confidence to remain high. While growth in the US seems to be ticking up, which may boost corporate profit growth for the rest of the year, the biggest risk is the Eurozone debt crisis. It may have stabilised now, but the crisis is far from resolved and concerns could flare up again in the future.
Near term drivers
Thus the Eurozone debt crisis is a wild card for the medium-term outlook for stocks. In the near term there are a couple of factors that could impact stock prices: 1, profit taking at these elevated levels and 2, central bank action as we lead up to Ben Bernanke’s speech at the global central bankers’ conference in Jackson Hole on 31st August.
Nasdaq: what the technical picture is telling us
The Nasdaq index can tend to lead equity indices since tech stocks are very sensitive to risk sentiment. This index has stumbled around 3020, and has struggled to make fresh highs in the last three trading sessions. This suggests we could be in for some profit taking and 3,020 is a temporary top. Support lies at 3,000 then at 2,943 – the 100-day moving average. Right now the external environment remains extremely cloudy – the Eurozone debt crisis may or may not have stabilised in the long term and the global economy may or may not have bottomed (we don’t have enough data yet to get a clear picture) – thus although stocks may come off their highs we don’t foresee a sharper sell off in the next week or so as there are not that many fundamental drivers to move the markets. This is also supported by the Nasdaq’s daily RSI, a momentum indicator, which is not yet in overbought territory, suggesting selling pressure may be light.
Nasdaq: daily chart
The GER 30: catching up with the US
Germany’s Dax index has followed US stocks higher in recent weeks, but like its US counterpart it is also starting to show signs of having put in a temporary top. There was a clear rejection of 7,000 – a major resistance level (akin to the 1,400 level in the SPX 500). However, although unwilling to push the index above 7,000 it did not reject this level outright and currently the bulls and the bears seem to be in stasis. This has been confirmed by a doji candle stick pattern forming on Thursday. When we approach big levels the markets tend to do one of three things: 1, bust through the level and make a new high, 2, reject it outright leading to a sharp sell off or 3, hover around the level as the market makes up its mind where to go next, which is what the Dax seems to be experiencing right now.
In the absence of many fundamental drivers next week (Europe is in full holiday mode in August) we could be stuck in a fairly tight range between 6,600 – the low from early July and 7,020.
GER 30: daily chart
