Sunday, November 02, 2008

Watching For A Bottoming Confirmation

``For October 10 to be the bottom it is necessary for the sequence to continue. We believe that it will but to raise confidence we need to witness the proof of more credit spreads tightening and bonds rallying. So the best answer we can give today is, it’s likely October 10 was a bottom but it is also too soon to say decisively yes. We will position accounts as if it is the bottom and we will be vigilant and reverse those positions if we see a reason to do so. The Ned Davis database offers some help. They measure 42 global stock markets; all made new lows in recent days before their rallies. All declines qualify as “bear” markets. 11 of their 12 bottoming indicators have reached extremes that suggest October 10 was the bottom. Retests of those lows have been on declining volume; that is a good sign. Breadth indicators suggest it was a bottom. There are many more pieces of evidence in favor of the October 10 bottom conclusion. I will stop listing here.”-David Kotok, Cumberland Advisors, Tinker to Evers to Chance

The global stock markets have remarkably rallied from the lows of last week. But one curious development is that while the many measures of credit stresses seem to be narrowing (see Credit Spreads: Some Improvements But Not Enough), US mortgages appear to be inching higher. These extrapolate to the still significant economic risks to the US economy.

From market action perspective, the present rally could be construed as merely a bounce off from the latest lows than to imply of a BOTTOM yet.

Besides the rollercoaster market action suggests of a mixed message, while we see some semblance of history possibly repeating itself by a significant recoil from its lows typical of the 1973-1974 bear market bottom, the market volatility of over 4% swings in a day seem reminiscent of the actions of the great depressions (see Global Markets: A Wild, Wild October!).

Markets seem to have already priced in the outcome of the US presidential elections considering the tremendous gaps in survey polls and prediction markets months going into November. And as we have stated earlier, the bear markets and deteriorating economic conditions may have even induced the Americans to embrace the opposition as alternative or as a vote against the present administration than for the opposition (Remember, Republican Senator John McCain grabbed the lead from Senator Barack Obama in August-to suggest that it wasn’t totally dominated by the latter-until the US stock markets melted following the Lehman bankruptcy). It now seems likely that the outcome of the Presidential election will be a lopsided affair infavor of the Democrats.

Unless we are considering a return to a new millennium version of the Great Depression, the main focus will be on how the new US president will deal with the woes of US and global markets and the US banking system.

And our guess is that the US markets should probably be in the process of forming a bottom, as they may already have factored in much of the ongoing but unofficially declared recession in the US and elsewhere.

Figure 3: US Global /Credit Suisse: Market Performance During Recessions

The steep drop to the previous recession levels probably points to a possible bottoming out formation in figure 3, albeit we would like to see lesser intraday volatility swings to accompany the coming sessions as a sign of stabilization.

Frank Holmes of US Global Investors also notes of the large chunk of institutional cash waiting at a sidelines as potential drivers of a recovery in the market. But this would actually depend on the scale of losses that has already been priced in, meaning that if there will be less degree of forcible liquidations, then markets may attempt to gradually regain its confidence levels.

No comments: