Yet again the markets are zooming around on the back of comments from our fearless leader Ben Bernanke.
First, the release of the minutes from the last FOMC meeting managed to confuse just about everyone with their opaqueness. Some people think this, others think that, so all up we might do this or that at some point in the future.
As a result, the stock market gyrated up and down and closed scratching its head.
But then Ben got on the pulpit and started to wax lyrical about the difference between tapering Quantitative Easing and raising interest rates. Bernanke said that even if unemployment did fall to his target of 6.5% it wouldn’t definitely mean that he would start raising rates from that point.
The stock market was closed at this stage, so the futures markets took off like a rocket on the back of these dovish comments from the king. But I have to ask. Why? What has changed?
The answer is nothing.
Basically Bernanke wanted everyone to know that it was going to be a long time until he raises interest rates.
The minutes from the FOMC are hinting loud and clear that tapering is on the table and it’s coming soon.
If they do start to taper then bond yields are going to continue rising. They have already spiked by over 1% in the last few months. That’s a huge move in the yield curve and it’s not going to stop because Bernanke has promised not to raise interest rates for the foreseeable future.
Did anyone think he could possibly start raising rates soon?
The other interesting thing to note is that the stock market has been rallying for months on the back of falling interest rates. The dividend yield on stocks was looking tempting when 10 year US Treasury bonds were yielding only 1.6%.
With bonds now yielding about 2.6%, a 2% dividend yield on stocks isn’t looking so great. If tapering does get started and yields continue to rise then the stock market should come under selling pressure.
But for now everyone is cheering his words. Not actions, not fundamentals – but words.
What a world we live in.
So how far can this market rally go, and when should we start to look for opportunities to get short for the next leg down?
I’m going to give you a detailed technical view of the ASX 200 and where I see it going from here.
I realise how confusing it can be reading a technical analysis view of a chart because there are so many moving parts and squiggly lines rushing all over the place. I will be as clear as possible in my analysis.
I am using the terms L1, L2 and H1, H2 to describe the lower (L1,L2) and upper (H1,H2) bounds of the ranges that I make all of my calculations from.
The POC1 and POC2 terms relate to the Point of Control of each distribution in the chart, which is the midpoint between L1-H1 and L2-H2.
On the 16th of May (the day after the high was reached), I wrote to you and said:
‘Our stock market has traded in a pretty tight range for years. The gravity of the point of control at 4,700 is very strong and I would expect to see us revisiting that level at some point.
‘The first thing I need to see is a close under the 15th March high of 5,163. From there we should see a retest of 5,025-5,040. If the market can’t hold above that level then we’ll be re-entering the major long term range and we could expect to see a pretty quick trip to 4,700.’
The sell-off in late May and early June was certainly quick and we saw the retest of 4700 as expected.
From there we went into a sideways distribution (L2-H2), which has been shaking both the bulls and the bears out of their positions.
The interesting thing to note is that prices found support in an area which was 0.618 (Fibonacci level) outside of the upper range.
The way to think about that is that prices are still under the gravitational influence of the POC1 even though prices have broken below L1.
Most share traders would think that prices have ‘broken out’ of that upper range when prices fell below L1.
The fact is that even though prices may be below the extremity of the range they can easily reverse course and re-enter the range. That’s why I call them ‘distributions’ and not ‘ranges’. A range sounds concrete, whereas a distribution is more fluid.
Distributions form because traders place ‘stop losses’ outside the extremity of the range, so the thing that will stuff up the most people is a ‘widening distribution’ that shakes everyone out of their position before the market is ready to have its real move.
Before the real move occurs though, you will often see a return to what I call the Point of Control. It acts as support or resistance, and then prices will shoot higher or lower out of the distribution and start trending again.
The rally from the lows at 4632 could possibly be a move such as this. The POC1 sits at approximately 5025, so we may see the ASX 200 rally all the way to that level. That is the upper bound of my ‘sell zone’ in the chart.
The lower bound of my sell zone is the bottom of the L1-H1 range at 4883. We have already busted above that level in the last few days.
So I am currently on red alert looking for potential selling opportunities.
The line at 5100 which is the ‘possible extent of rally’ in the chart, is the 76.4% retracement of the whole sell off from 5250.
Not many people look at the 76.4% retracement zone, but it is well worth keeping an eye on because the market will often reverse in that zone.
So I’ll let the market cheer Bernanke’s empty words, but I’ve got my eyes on some concrete levels where I believe we will find resistance. On the first signs of a reversal I will be jumping on board some short positions to ride the next leg down.
Murray Dawes+
Editor, Slipstream Trader
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