The Top Ten Signals That Global Stock Markets Have Topped
By Frank Barbera CMT. June 19, 2007
This week we continue in “wait and see” mode as our analysis continues to suggest that global equity markets are in the process of building an important top. Over the last few weeks, share price action has become, by and large, very erratic, with prices moving up and down in wide swings. This type of high volatility is a classic hallmark of topping action wherein the construction of a market top always takes several wild swings up and down over a period of time (usually weeks) to complete a distribution process. We have been mindful of this probability, and have tried to respect the powerful nature of this prior six month bull trend anticipating that the bull will not yield readily. In last week's comments, we noted that the S&P appeared to be near another important short term low, and that a rally looked in the offing. We said,
“While we know that the market moved down aggressively today, (Tuesday, June 12th), we also believe that last week's lows saw a sufficiently near-term, oversold reading on the major indices in order to establish a reasonably solid short-term low. Today’s action looks, thus far, very much like a ‘retest’ of last week's lows. As a result, we expect that the major stock indices should hold here and begin a counter-trend advance. In our view, a near-term rally should allow the market to continue to “hold up” over the next 5 to 8 market sessions and that rally should begin fairly soon likely over the next day or two. On the upside, the island reversal gaps on the S&P near 1530 look like a ‘reasonable’ objective with 1530 likely very strong resistance.”
Not only has the market come back up across the range but the S&P ended up closely approaching its former high near 1540. Will it break through to new higher highs? Well, believe it or not, that type of behavior is still quite possible and it would not change our view that the market is topping in the slightest. In our technical studies, we see “potential’ for the S&P to press higher toward the 1560 area, which would be a likely maximum for the next few weeks, and likely for the entire move. That’s our “BEST CASE” outcome, and we would not give that more than a 25% chance. If, more likely, the S&P breaks back below 1520 any time over the next few days, odds will be increasing that the double top highs at 1540 will do it for this bull run, and that market will be running into more trouble in the days and weeks ahead. Of course, we continue to eyeball global markets, and we fear that the upcoming correction-bear market in stocks will be a global decline, a global bear. At present, we do not expect to see major downside fireworks before mid-July. At present rates, stock markets still have enough upside momentum to hold up a while longer. It is our best judgment that the month of July will see the downside action ‘kick off’ and run its course through the months of August, September and October. It looks like it could be a long disappointing summer. Of course, time will tell.
For now, we thought that a quick review of some of the many bells and whistles that could go off in the days ahead would be helpful in terms of allowing investors an analytical framework with which to gauge how close we are getting to the proverbial stock market cliff. With this in mind, we give you “The Top Ten List of Things to Watch For Signaling That Stock Markets Everywhere Have Probably Topped.”
Number 10: Goldman Sachs (GS)
In our view, Goldman Sachs has become one of the ‘bellwether’ financial stocks to watch as profits in this cycle from proprietary trading, M&A, Private Equity have propelled this bluechip higher, spearheading the rally in the S&P. The stock has congested up over the last few weeks in a range between $218 and $234. A breakdown below $218 would carry the stock below horizontal support dating back to the highs of January of this year and would also decisively violate the 50-day average at $223. MACD on Goldman is now rolling over, leaving a very bearish divergence on the daily chart. Thus, from here, a break down below $218 is warning sign Number 10 on our list.
Number 9: India - the Bombay Sensex Index
India has been a key component of BRIC (Brazil, Russia, India and China) — the big four economic engines that have been driving economic growth this cycle. In that vein, the action of the Bombay Sensex Index has to be seen as extremely disturbing in that India is no longer confirming higher highs in South Korea and China. The Indian economy sells large quantities of goods to China, and the decoupling with China’s Stock Market sounds like a bell ringing quite loudly in our view. Note the large Double Top with a “left side” peak of 14,.652.09 on February 8th, and a more recent “right side” peak of 14,683.36 on June 4th. Since the high on June 4th, the Sensex Index has been quietly sneaking lower and is now in proximity to its rising 50-day average. That average closed last night at 13,895.02 and will be rising toward 13,950 over the next few days. Any close below 13,950 in our view turns this market medium term bearish, and is a huge red flag for an approaching global market top.
Number 8: Philly Homebuilding Index- HGX
Housing is our prime candidate for leading the path into recession here in the States, and in light of yesterday and today’s dismal reports, we see no sign that this sector has bottomed. On the contrary, the next leg down appears to already be well underway which is probably leading a more generalized downturn in the major indices. Here, we are watching the 221.50 level on the HGX, the Philly Homebuilder Index which closed last night at 224.87. A close below 221.50 would break the rising trendline connecting the July 24th, 2006, April 12th, 2007 and June 12th, 2007 market bottoms and would signal downside acceleration back to prior lows (and beyond?) in this sector. Another key area to watch is Housing, and right now, a breakdown is looming
Number 7: NASDAQ Composite (US)
Hopes are rising high that a recovery in CAPEX spending for items like MS Vista coupled with continued robust spending on new products like the Apple I-Phone will continue to support the US economy. The NASDAQ has performed well, and will normally turn down ahead of the S&P. As a result, we focus on the 50-day moving average and rising trendline combo for the NAZY, which over the next few days will see both of those support lines moving higher toward the 2560 to 2575 zone. A break below both of these in coming days would be quite negative.
Number 6: Powershares Basic Materials Sector Symbol (PYZ)
A huge part of this cyclical bull market has been the enormous growth in the Chinese economy and the upward price pressure that China’s growth has exerted on Natural Resource prices of all kinds. The Powershares ETF tracks a number of different basic industries including Base Metals such as Copper and Aluminum, Steel, Chemicals and Uranium. The ETF has been on a tear since it launched late last year, and is a good proxy for the strong cyclical sector here in the US. As we have noted in recent weeks, many of the stocks within this sector are moving in parabolic blow-off type patterns. In our view, any close below key support at the $32.25 level for PYZ would be bearish and would suggest that the cyclical sector has made an important peak.
Number 5: S&P 500 (Initial Supports)
No list can be complete without including the most widely watched and quoted index, the S&P 500. Here we note that the S&P is currently above its rising medium term trendline and its rising 50-day moving average. Together, they form an initial zone of support for the S&P in the range of 1503 to 1513 over the next two to three weeks. A close below the low end of that range would break both the trendline and the moving average, so a close below 1503 would be our next important signal to watch for.
Number 4: Brazil — Bovespa Index
The next market has been the runaway train leader of Latin America, Brazil with its Bovespa Index. In a near vertical blow off move, this index can knock off 10% to the downside in just a few days. However, it is not a 10% decline in Brazil that has us concerned. Far more likely is a 25% plus decline in coming months once this relentless uptrend is exhausted and decides to reverse. We track the 10-day and 50-day exponential moving averages on Bovespa and would regard a downside crossing of the 10-day below the 50-day as a sure sign that a major top has been seen. Extrapolating the exponential 50-day, that moving average should be up to 51,500 fairly soon with the Bovespa Index ending last night at 54,730. In our view, any back to back closes below 51,500 from here would be very bearish and would argue that the major trend is exhausted and ready for a medium term 20% plus type decline.
Number 3: South Korea — The Kospi Index
Just over the last 72 trading sessions, South Korea’s KOSPI Index has advanced a stunning 31.34% from a low on March 6th of 1375.84 to a recent close on Monday of 1806.88. The advance has been led by major steel producers such as POSCO (PKX), which over that period of time has advanced 36% and has more than doubled since the lows of July 2006. In this index, we tighten up the moving average to a closer tracking 20-day moving average which last night closed at 1702.55 with that moving average rising approximately 10 points per day. Within the next 5 to 8 days, that moving average will be closer to the 1750 mark and may break below that over the next few weeks, which would be yet another bearish indication.
Number 2: S&P 500 and “1490”
Since late April, the 1490 level has been approached on three separate occasions, at the lows of May 10th 1491.42, the low of June 7th 1490.37, and on June 13th 1492.65. In our view, any two consecutive daily closes back below 1490 would be a very bearish indication and would suggest that the S&P has left in place a very major cyclical high. At the moment, it is still possible to see the S&P advance a bit further from here, although the resistance at 1540 is quite strong and any downturn below 1520 would probably mean that the highs are already in place. A little more time is needed to tell.
And the Number One thing to watch for, signaling a major stock market decline is dead ahead: The Shanghai Composite Index and its 50 day Moving Average!
Number 1: Shanghai Composite
Through last night, it has been 193 trading days during which the Shanghai Composite has remained above its rising 50-day moving average. The index last moved above the 50-day average back on August 24th, 2006 at a reading of 1623.02 with the 50-day average at 1622.05. Since that positive cross-over, through last night, the Shanghai Composite has gained 2,646.50 index points, or 163% in just 10 months! With the index closing last night at a reading of 4,269.52, the 50-day moving average closed at 3786.16, up from its prior day reading of 3,766.99. The 50-day average is now rising approximately 19 points per day.
Last week, with the Shanghai Index at a close of 3,995.68, we suggested that the index was very likely to continue its advance on course for a final and very major (epic?) high near 4,500. We said, “On this chart of the Shanghai Composite Index, the space on the graph separates actual data from our �sketched in’ idealized scenario. Looking ahead, we believe a final high on this market could be seen on June 25th, plus or minus 1 market day at approximately the 4,500 level.” Since then the market has continued to advance, gaining an additional 273.84 index points in just the last 5 days for a gain of 6.85%.
As of last night's close at 4,269.52, the Shanghai Composite is now only 65.40 index points or 1.53% away from matching its prior all time high seen on May 29th at a close of 4,334.92. Anyone wanna' make a bet that this baby is headed to a new high from here? In our opinion, the odds appear pretty good. At this point we are sticking by our target of 4,500 within the next 5 to 6 days, -- our June 25th plus or minus 1 day time target for a final peak. It just has the right feel, and we have spent many years studying parabolic price structures. We rate Shanghai as our Number One indicator because a CRASH in the Shanghai market could have a very negative psychological effect on the Chinese people and bring on an economic slow down within the Chinese economy.
Quoting Northern Trust,
“To understand the repercussions of a prolonged dive in the Shanghai Index, the make up of its investors should be understood. The Shanghai market, which for domestic investors, is estimated to have a capitalization of about $2 Trillion, with 1.2 Trillion held by individual investors who are believed to account for 80% of market turnover on particularly active trading days. These people and their families, representing as much as 170 million people are mostly members of the growing middle class that has developed over the past 15 years of profound growth. There is a body of evidence to suggest that many of these individuals are taking out debt through various means in order to make a few extra yuan on the domestic markets. While it is nice to see the Chinese people learning about the joys of leveraging, the lessons of wealth destruction and negative net worth would be painful for these people to endure.”
While we believe that sheer upside momentum will probably lend the Chinese market a lease on life for at least a few more days, when the index does turn down and closes below the rising 50-day moving average, that will be as much confirmation as anyone should need to understand that a serious trend change is taking place. We will try to keep track of these Top Ten trend change signals for you over the next few weeks, and encourage readers to keep there eyes peeled and make sure to be moving up protective stops on long positions that are moving in vertical fashion.
© 2007 Frank Barbera