The recent declines in equity markets over the past couple of weeks have prompted some investor nervousness about the sustainability of the recent rally of the last 14 months.
We’ve certainly seen corrections similar to this over the past few months, and the market has proved remarkably resilient to these, however there are a number of concerns that this particular downward move may be a little different.
Concerns about prospects for future growth in the Eurozone, due to the implementation of austerity measures by the most indebted economies, has seen a significant dilution in risk appetite over the last week or so.
Investor sentiment has been further eroded by the implementation of the unilateral short selling ban by Germany, which seems to have been motivated more by political considerations than by any concerns about irresponsible speculative behaviour.
If any reminder were needed of the problems facing the Eurozone then it was provided by Spain at the weekend when the Bank of Spain stepped into rescue one of its biggest regional banks (Cajasur) as a good portion of its property loan book went bad.
This move followed last week’s action by the Bank of Italy to suspend mark to market requirements on Italian bank exposure to Euro government bonds. This has fuelled market concerns that an Italian bank may have significant bad sovereign debt exposure.
These actions raise concerns about what other nasty surprises may be in store over the coming weeks.
The fractious and divided response by European leaders over the past few months has seen investors lose patience and head towards safe haven assets like gold, the US Dollar and to a lesser extent the Swiss Franc.
In the past few weeks gold has posted fresh all time highs against the Euro and Sterling, as well as the US Dollar.
Commodities such as copper and crude oil have also slid lower with copper falling nearly 20% in the past month from its recent peaks around $8,000 on the LME.
Crude Oil has dropped a similar amount from its peaks at $87 and a number of technical indicators on equity indices are now starting to show early indications of a turn around in sentiment.
Certainly the Reuters CRB is showing early signs of a formation of a classic bearish signal in the form of a “death cross”. This is where the 50 day moving average crosses below the 200 day moving average.
A similar signal in the EUR/USD price in February this year saw the Euro fall quite sharply soon after the signal was posted.
We will be keeping a close eye on the CRB over the next few days for evidence of further weakness in commodity prices.
Moving on to equity markets and the Dow Jones Industrial Average, the S&P500 and the FTSE 100 have all fallen below their 200 day moving average which is historically viewed as a long term indicator of bullish or bearish sentiment.
A daily close below 10,000 on the Dow and 5,000 on the FTSE 100 could see further corrective moves lower in the short term.
With copper and crude oil also having fallen through this long term average the outlook for equity markets continues to looks unsettled.
While concerns about growth and sovereign risk continue to weigh on investor sentiment upside potential for equity markets in general will remain limited.
It needs a significant turnaround in sentiment and a move back above their long term averages for these highly correlated markets to turn around in the short term.
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Article approved by CMC Markets. CMC Markets is authorised and regulated in the UK by the Financial Services Authority, registration no. 173730.
Note - Spread Betting carries a high level of risk to your capital and you can lose more than your initial investment, it may not be suitable for all investors. Ensure you only speculate with money that you can afford to lose and that you fully understand the risks involved and seek independent financial advice where necessary.
'Spread Betting Markets Looking Bearish', Feature by D. Jones, last update: 25-May-10
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