Dow ends above 14,000 1st time since Oct, 2007.
US equities are currently situated at a very interesting place, both technically and in terms of overall market sentiment. Let me begin by saying that I don’t believe the previous high levels in the Dow or S&P are of much relevance in the current market. The Russell 2000 in in new all-time high territory, the financials are well below their all-time high, the transports are in new all-time high territory, etc. So you can see that the current market dynamic is very different from 2007 in terms of its composition and leadership.
A lot of technicians will be pulling out the monthly chart of the S&P and state that the previous long held “double top” is in jeopardy. Since there is really no such thing as a triple top, the armchair technician will proclaim that the S&P is on its way toward making new nominal all-time highs. Basically my point is to pay no attention to these guys; I would rather use Fibonacci extension levels on the Russell 2000 than focus on the old nominal price highs on the Dow or S&P.
Now to attempt to make some sense of what is currently going on across global financial markets, let’s take stock in bullet point format:
- Equities are rallying aggressively
- Bonds are selling off (high-yield corporate, investment grade, and Treasuries)
- The above two bullets seem to indicate that the market is expecting strong economic growth and rising inflation expectations (when all classes of debt securities move in unison it is always due to significant changes in the market's interest rate expectations either via central bank moves or inflation expectations, or both)
- The yen is experiencing an epic decline (in terms of rate of change) as the BOJ seeks to reinvigorate Japan’s export economy, meanwhile, traders are piling back into the ‘carry trade’ (short yen vs. long any other asset that offers a good return) – we have witnessed the powerful effects of the carry trade before (see 2002-2007 equity bull run)
- The euro has moved from a large speculative short position over the summer to a speculative net long position currently – the euro has been the most important currency to watch over the past couple of years, now the yen is the preeminent “risk currency”
- Volatility (both realized and implied) continues to contract as market participants become increasingly convinced that the threat of an equity market correction is minimal
- Gold continues to baffle market participants as it oscillates between 1650 and 1700 - the gold/euro chart is quite bearish, whereas, the latest COT data is bullish as speculators exit their longs in droves and commercials aggressively cover their shorts
- The primary bullish meme is now one of “retail is still heavily underinvested and they are just getting hit with headlines of Dow 14k etc.”
I find the final bullet point to be most interesting. While I certainly agree that most average Americans are not heavily invested in the stock market, I highly doubt that a Dow 14,000 newspaper headline will prompt them to get more invested. An entire generation of investors has lost all confidence in financial markets and they aren’t coming back anytime soon. The irony of the current bull market is that the vast majority of ‘retail little guys’ that have been involved in the market, have been long the wrong names (see AAPL and FB). The market is tricky like that……while AAPL lost 40% over the last 6 months, you could have caught a cool double in a boring company like United Rentals (URI).
In summary, the animal spirits are strong and growing stronger. As best I can tell we are somewhere between the latter part of the acceptance stage and the opening kickoff of the euphoria stage. If this market is indeed on its way to becoming a full frenzied bullish euphoria then there could be several more months and another 100 SPX points before the bullish boat sinks from its own bloated weight. The 95 level on USD/JPY is of major importance as it represents that the last major peak in 2010 and a great deal of price memory going back many years (see chart below) – given that the SPX and yen are currently running at about a 90% correlation I would expect the equity rally to at least take a breather when USD/JPY runs up against the 95 level which could happen as early as next week.
Charts
Click to enlarge
