This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. See full non-independent research disclaimer and quarterly summary.
Strategically, the ASX’s 2016 path has a distinctly ‘tubby’ and ‘squat’ profile – a historically wider trading range (tubbiness) with relatively low aggregated capital growth (squatness).
The ASX has suffered from this for the past 7 months; the Chinese devaluation in August has seen this ‘stout’ and ‘tubby’ strategy becoming ingrained as the short term norm.
Where to from here?
One of two things may happen:
- Markets (including the ASX) will collapse and become fundamentally ‘cheap’ – the six and half year bull market only ended six months ago, the correction in January had distinct characteristics of being overvalued in the current cycle and is looking for structural weakness.
- Markets will remain volatile and trade in a directionless manner with a tubby and stout 2016 profile. Macroeconomic fundamentals, the oil price and inflation will leave markets in a state of flux if it doesn’t break down.
What’s more likely?
Three things that we have noticed in these first weeks of 2016:
- Correction in January was based on one of the bigger fears in macroeconomics – an emerging markets crash, with China as the driver. Macroeconomists see the financial crisis as a three-pronged event, starting with US sub-prime, then European sovereign crisis, and followed by EM devaluations and capital outflows.
- Earnings, while ahead of market expectations to the earnings per share (EPS) line (beating 55% of the time for the ASX its slightly better for the S&P), have declined half on half (or quarter on quarter) with the majority of 2016 guidance releases being ‘cautious’ to ‘negative’ due to ‘uncertain conditions’.
- The rebound over the past 10 days appears to be positing rather than a fundamental change in the underlying markets – the ASX particularly has a structural ‘fear’ trade which is why I see volatile range trading as a more likely scenario due to the fact that banks and materials control its direction.
On the financial side of the ASX, banks are under sustained pressure. This is due to it being ‘overvalued’, ‘housing bubbles’ and ‘lower growth’.
On the materials side of the ASX, firms are mere shadows of their former selves. This is due to cyclical bear markets in commodities, emerging market demand evaporating and cost out strategies being initiated.
With this as a base, my strategy for the ASX is trading a ‘tubby’ and ‘stout’ movement with a possible capitulation trade as the end game. A break below the February 10 level means that ASX is moving towards its ‘fundamentally cheap price’, however it’s more likely it will range trade until the end of the financial year.