Is the sell-off over in the FTSE?

We’re all very aware of the normally undeniable effects of gravity: ‘what goes up must come down’; ‘all good things come to an end’ and so forth. Yet the sell-off in the various global indices, like most corrections, was quick and unnerving, and for many came as a surprise.

In the middle of May, the Relative Strength Index (RSI) was overbought from a monthly, weekly and daily perspective. This is not a signal in itself to sell, or indeed place a short trade, but it does tend to prompt caution.

Rapid correction

The FTSE 100, for example, sold off. It fell from the highs of 6870 to just below the pivotal 6400 level over a 15-day period, proving the adage that bulls climb the stairs and bears jump out of the window; it took the index twice as long to climb to that area.

After over 20% was added since mid-November of last year, many called for a correction in the early part of this year. The notion that you ‘can’t fight the Fed’ was enough to keep the market on the front foot, ensuring that most pull-backs were very shallow and regarded as an invitation to buy the dips.

We have tried to disassociate the stock market from the underlying economy, and it has worked to a point. The market is a discounting mechanism: it already knows that Europe is in recession and that growth and therefore demand in Asia is at low ebb. Even from a fundamental perspective, with the UK benchmark so heavily weighted towards the mining sector and the less-than-stellar data from China, profits must sometimes be taken.

Chart signals

FTSE 100 (DFB) chart (10 June 2013)

 

The daily candle on 22 May, when the market made a concerted effort to reach the 6900 and failed, coupled with the strong bearish price action on the following day, was a fairly good signal that we would see lower prices from that juncture.

If we take the move up from the mid-November lows to the highs of this year, the 6406 point represents the 38.2% retracement level. This area is the real key to retaining upside.

The market fell below this level nonetheless, and even fell below the 6300 level at one point last week. Now that we have recovered somewhat, it implies that the breakdown was a fake-out, and that can ultimately mean a bullish bias from here. It’s certainly an area to watch.

Remaining above the big granddaddy 200-day moving average, which is just above the 6200 level, is also a positive attribute for future moves.

Will data provide impetus?

This week will bring us some data points from the US in the form of retail sales and consumer confidence. Again, we will try and elicit some  idea as to what the US Fed will do regarding QE later this year. And, once more, the market will probably be more inclined to be equity-positive if the data misses expectations.

Add to that the update from the Bank of Japan tomorrow. The likelihood that we will see tapering or tightening of the current aggressive monetary policy, in light of the better-than-expected Japanese GDP earlier today, is slim to none.

The summer stretches before us, with the low volumes that normally entails. We can probably expect a bit more sideways momentum, but don’t rule out another surge to the topside.

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.

Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 79% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you understand how spread bets and CFDs work, and whether you can afford to take the high risk of losing your money. Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage.