Tuesday, May 25, 2010

Market Correction or Bear Market Redux?

Volatile is the only way to describe all markets during the month of May. With the S&P currently hanging at 1060, up from the morning open where it gapped to down 1040, the obvious question is are we watching a good old fashioned market correction, with a kick, or the beginnings of a more sustained bear market leading to losses of more than twenty percent (S&P 973) from the recent high. The kick is that on any day, everything you observed in the stock markets gets a complete reversal during the final twenty minutes of trading!

Last night I was observing the trends of currencies illustrated along the left panel of this blog. The overnight activity was a departure from yesterday, showing the US dollar strengthening against everyone except the Yen. This is not good for stocks or commodities. It is a clear indication of risk avoidance. In the morning, I will observe the currency trends since the markets opened. If the dollar strengthening is continuing, then I need to decide if the other fundamental and technical signs show support or weakness. (See chart at the end of this post.) Whatever I find, I feel the dollar is the clearest indicator of market sentiment and gets double respect from me until further notice. The other signs need to convince me to ignore the currency exchange rate charts.

First thing this morning, I see that the currency charts are reflecting a weaker dollar than I saw last night. It is just past noon, eastern time. Looking at other indicators I compared the CDS index for high and mid grade bonds to their recent levels, using my Market Data posts. Comparing to last week, the CDS price index shows 123 to 123 for high grades and 183 to 173 for mid grades. Another useful indicator is the VIX index. Today the index is currently at 39.75, which is up 3.74% so far on the day, and compares with 40.10 seen at the close of last week. I see a related post today on The Big Picture, linked along the lower left panel of this blog, titled Volatility Index Twenty Year Chart. That adds some interesting perspective.

There was some evidence building last night that my clients need me to recommend that they move out of most stock funds to prevent a larger loss of value. Last night, it seemed that a cyclical bear market could be forming. Never-the-less, today I am still thinking that the weak condition of the markets is a reflection of a necessary price correction. This correction can create a new foundation for another leg in the cyclical bull market. If this is not a correct conclusion, it will be reflected in the currency charts, and I am certain about what I will recommend to move from and into. Scanner