Relief Rally is Now Overextended

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Rabbie Gill

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Equity Relief Rally is Now Overextended

The S&P 500’s “V’ shaped recovery from the December 2018 low is now topping with daily bearish trend change.  The monthly and quarterly swing highs in the fall of 2018 signal we have likely seen the 4-year cycle top for the S&P 500, while the larger 4-year cycle low is likely still approximately a year away.  TRI expects the S&P 500 can hit the 2,800+ level before rolling over and falling to the 2,100 to 2,200 level into the 2020.

The Bank of Canada and Fed interest rate hiking cycle is likely over.  TRI has been warning of the risks of higher inflation are unlikely to materialize as economic headwinds mount.  Central bank capitulation implies a flat yield curve, consistent with TRI’s expectation of lower interest rates and flat yield curve.

Market Trends

  • The S&P 500 will likely have another 1 or 2 daily cycles higher into May to July 2019. The structure of current daily cycle low and subsequent price action will be important in determining the potential final upside targets and timing.
  • Government of Canada 10-year rates topped in October 2018 marking daily, weekly, monthly and 3-year cycle tops. Bonds currently have daily and weekly bullish trends in place.
  • The USDCAD is consolidating in a rising wedge formation.  While the USDCAD will ultimately move higher, the TRI believes that USDCAD will likely have medium-term weakness on a weekly cycle degree beginning late February.

TRI Cycle & Trend Signals*

The TRI Cycle and Trend Signals are shown below.  These signals are as of market close on February 8, 2019.  Please see the TRI Overview document for further information.

Source: Fieldhouse Capital Management

Equity – Markets Short-term Overextended

The S&P 500 “V’ shaped recovery from the December 2018 low is now topping with a daily cycle high in place.  On February 7, the S&P 500 completed a daily swing high and the cycle turn indicator turned down creating a daily bearish trend change.  The timing band for the next daily cycle low is between Feb 4 and Feb 24. We will expect lower prices into this time frame until we see a daily swing low and turn up in our indicators. The daily cycle is right translated, and we expect the current daily cycle to bottom above the previous December cycle low.

Source: Tradingview.com

The monthly and quarterly swing highs in the fall of 2018 signal we have likely seen the 4-year cycle top for the S&P 500.  The December 2018 low also marked the most recent weekly cycle low and potentially the monthly cycle low.  We do not have confirmation yet if December 2018 marked the monthly cycle low, while the larger 4-year cycle low is likely still approximately a year away.

TRI’s expectation is the S&P 500 will have another 1 or 2 daily cycles higher into the May to July 2019 time.  The bottoming of the current daily cycle and the move out of that low will be very important in determining the potential upside targets and timing.  Currently, we expect the S&P 500 can hit the 2,800+ level before rolling over and falling to the 2,100 to 2,200 level into the 2020.

Investor Sentiment

Investor sentiment fell to extreme fear and hit a low reading of 3 in late December 2018, as measured by the CNN Fear and Greed Index.

Source: cnn.com

Fast forward a month, and by the end of January investor sentiment had rebounded to Greed levels as equity markets bounces upwards of 10-15% from previous lows.  Does this mean everything is ok and the growth scare is over?  TRI believes price action and technicals lead the fundamental transition of the business cycle.  Just as important, investor sentiment oscillates from Fear to Greed and back several times throughout the business cycle.

Business Cycle

TRI’s indicators continue to point to lower economic growth and high probability of lower levels in equity markets and risk asset valuations into early 2020.  We also know nothing moves in a straight line, and from now until the bottom of the business cycle markets will see increased volatility and many counter-trend bounces higher. In fact, there is a potential of new all-time highs in equity markets, albeit currently a low probability, before the larger down trend ensues.

In our January 2019 commentary the TRI anticipated a strong relief rally from deeply oversold conditions.   This was a result of extreme fear and bearish sentiment and as seen in the chart below, our indicators for the relative change in the cost of money and cost of goods anticipated better economic prints for in the first quarter/half of 2019.  Combining the improving short-term economic backdrop with capitulating central bank, the conditions were set for higher equity prices in January.  This short-term economic strength, along with central bank dovishness, can last into mid 2019. Perhaps a resolution to the US-China Trade War will be another catalyst for strength into the summer.

Source: Bloomberg

Fixed Income – Rates are Consolidating

Government of Canada 10-year rates topped in October 2018 marking daily, weekly, monthly and 3-year cycle tops.  From October 2018 to December 2018 interest rates fell into daily and weekly cycle lows.  In early, January Can 10- year rates had a short counter-trend move higher touching the bottom of the 3-year down-trend channel, before rolling over.

As of February 8, we have daily and weekly swing highs in place and indicators pointing to lower interest rates over the next several months.  Any bounces higher are opportunities to add to long positions or extend duration further.  A break below the 1.81% level on the Can 10-year bond will be a signal of a potential acceleration lower in interest rates. Additionally, any bounce over 2% would be a good opportunity to add longer term (duration) government bonds.

Source: Tradingview.com

Central Banks

The Fed interest rate hiking cycle is likely over. The markets drive Fed policy which drives the economic cycle.  TRI has been warning of the risks of inflation unlikely to materialize in the current global environment with rising interest rates and economic headwinds mounting.

The Bank of Canada & the US Federal Reserve have capitulated on further short-term interest rate hikes for the foreseeable future. The Bank of Canada has also stood pat on interest rates at their most recent meeting.  Canadian GDP shrunk 0.1% in November, the 2nd contraction in the last 3 months.  The Fed’s January 2019 statement stated its current policy path is of “patience amid muted inflation and global economic and financial developments.”   The statement also removed the commentary about “some further gradual increases”.

Central bank capitulation should imply a flat yield curve, consistent with TRI’s expectation of lower interest rates and the yield curve to re-flatten.   The yield curve should flatten or slightly inverted until central bank rate cuts are in sight. A trend lower in short-term interest rates (2-year bonds) will be the signal of the beginning of the larger risk-off phase and central banks lowering policy rates.

 

Currencies – USDCAD Consolidating

The USDCAD weakened in January hitting our 1.30 to 1.32 target towards the bottom of the down-trend channel, before bouncing higher in February.  The USDCAD latest daily cycle low was on Jan 31, which may have also marked the weekly cycle low.  The USDCAD appears to be consolidating in a rising wedge formation.  Investors may be lured into trading for a direct breakout and move above the 1.36 to 1.38 range. While the USDCAD will likely ultimately move higher, the TRI believes that USDCAD will likely have medium-term weakness on a weekly cycle degree beginning late February. There is a good probability the USDCAD completes a head fake lower before a larger bout of strength.   TRI expects a trading range for the USDCAD between 1.28 to the 1.37 range.

Source: Tradingview.com

 

Disclaimer: This material has been provided solely for information purposes for the use of the recipient and Fieldhouse Capital Management Inc. (FCMI). This material does not constitute an offer or an invitation by or on behalf of FCMI to any person to buy or sell any security. It should not be assumed that the methods, techniques, or indicators presented in these pages will be profitable or that they will not result in losses.  Any reference to past performance is not necessarily a guide to the future and the value of investments may fall as well as rise.  FCMI accepts no liability for any direct or consequential loss arising from investments made in accordance with the attached material. The research and analysis contained in the attached material has been procured from sources which are believed to be reliable and accurate.

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