Risk Off - Is it coming to an end?? + GBPUSD FX update.

Over the past few weeks I have outlined a number of possible bearish scenarios, and more recently I have posted some possible more bullish outcomes. The market has now taken us to a neutral/pivotal zone where direction is likely to be determined by which ever side of this zone makes a solid breakout. I believe 1070 - 1100 defines this pivotal zone for now. - In the meantime I have outlined two further pieces of analysis which argue both the possible bearish scenario and make a case for a more bullish outcome.

Firstly I have decided to look purely at the trend, as defined by the direction of highs and lows at reaction points. As the chart below shows, the past 2 months has seen a series of lower lows and lower highs since the end of April. This simple analysis supports the notion that the SP500 may have entered a downtrend in the past 2/3 months. - Until and unless 1130 is exceeded, this would suggest the odds favour a move to lower levels.

With regard to the more bullish possible outcome: The recent risk-off episode appears to have largely abated over the past couple of weeks. Stock markets have rallied, European currencies have rallied versus the USD and some of the periphery European yield spreads versus German yield spreads have eased. I have noticed looking at a number of charts, strong similarities over the past couple of months with the previous risk-off episode at the end of 2008/early 2009 in the wake of the Lehman's collapse, albeit generally on a much smaller scale. I will highlight this with a series of charts, in these charts I have defined the Post-Lehmans risk-off period as 'Risk-off 1', and the more recent period in the wake of the ratcheting up of the Greek crisis as 'Risk-off 2':

Firstly - Equities via the SP500 Index. (Top Chart) , UK FTSE (2nd Chart)

 

Then via FX in the form of the USD Index (Top Chart), AUDUSD (2nd Chart), AUDJPY (3rd Chart), EURJPY (4th Chart).

This can also be seen in may yield markets: German 10 year yields. (Top chart), US 10 year yield (2nd Chart), Spread of Belgium v German 10 Year Yield Spread (3rd chart) and 2 Year German Swap Spread (Libor v Gov yield) (Lower Chart),

 

The comparisons are not exact, and clearly other factors particular to each asset class or currency have their own effect. For example the USDJPY has behaved very differently, and commodities have also not shown a similar pattern. but by and large there is a strong similarity across a number of markets between the 6 month period following the Lehman collapse, and the past 2 and half months in the wake of the Greek crisis.

What does that mean going forward. Personally I believe in the short-run (over the summer) I guess it favours further reversal of the flight away from risk: In other words further recovery in stock markets, further USD weakness, and a slight backing up in longer yields. Beyond that the outlook is cloudy, though I struggle to see how markets could remain buoyant in the face of strong deleveraging headwinds.


Further to my GBPUSD update yesterday (That analysis can be seen at the bottom of yesterday's posting by clicking here) . The currency pair surged further yesterday, and the odds still favour some more upside, however it is likely to face some tough resistance around 1.5500/50.  This is where there some old highs from April are lurking, and is just below the 50% retrace of the downtrend which began last November.

S&P Correction

This morning the S&P futures have posted a quite dramatic turnaround from their overnight lows. Currently they stand at 1026 having been as low as 1003 overnight. On the daily chart this is potentially signalling a bigger bounce. If we can close around here or higher, then the futures will have completed a western 'Key Day Reversal'. This would also create a potential short-term double bottom with, the first part of which is a Doji Candlestick. Additionally this all occurs in the wake of Bullish momentum divergence. I do not think this is likely to change the bigger picture bearishness, however the futures have sold dramatically lower in the past 2 weeks by almost 130 points almost without a break, and a pause/correction is probably overdue.

Looking at the bigger picture, a correction would fit perfectly within the overall bearish outlook. I have posted two sets of charts below showing the larger bearish potential. The first is a set of comparison charts. The upper chart is the Weekly S&P Continuation Futures 2001 - 2008, the lower chart is the Daily S&P Continuation Futures Sep 2008 - July 2010. If u click to enlarge these charts, you should be able to see a very strong similarity between the 2 charts. (Note: this is different to the Fractal charts I posted in recent weeks). The current phase we are in, i.e. divergence at a new correction low, keeps the strong synchronisation of this comparison intact. If this comparison continues to unfold in a similar manor, this suggests the risk of a pullback towards 1060/65, though a break over the old support at 1040 may be a struggle. Followed by a a deep and strong bearish move with potential much lower.


The next set of charts show a Fractal pattern, which has occurred pre-the 1987 crash, and pre- the fall 2008 crash (and is therefore part of the above weekly chart). The current pattern over the past 2/3 months has unfolded in a very similar manor. A short correction from the current levels would be totally in keeping with this fractal pattern. - ( Obviously this does not mean a crash is coming, however it does highlight a favourable set-up is forming. )

TIPPING POINTS ???????!

Overnight markets across the board saw significant moves. Chinese equities dropped sharply, the various indices posted declines of around 4-5%, this has seen follow through in other Asian indices, though not as steep as the Chinese decline. In Europe the move has seen declines of around 2 - 3% thus far, and S&P futures are currently down around 1.3%. Elsewhere global bond markets rallied, leading to a further declines in yields, with the US 10 year yield breaking below 3%. It now appears that Japan, Europe and the US 10 year government yields have all broken key levels... Meanwhile the USD has posted gains versus the Euro and the USDJPY has dropped and is moving close to the spike low posted on the night of the Flash Crash. -- Also worth noting that European spreads PIIGS v Germany have continued to back up following recent declines......
I have posted a selection of charts showing significant markets and the current move in a wider context... FWIW, I believe we are possibly approaching the end of this corrective phase on equity indices, though until the lows of late-May/Early June are clearly broken, this still has the ability to confound me and prove me completely wrong.