Charted Territories

By Jim Donnelly, Olson Global Markets

A more upbeat outlook on economic conditions was apparently the reason why Fed Chairman Ben Bernanke outlined a “roadmap” for tapering back on quantitative easing over the next year or so.  This more hawkish outline of reduced stimulus, however, triggered a selloff in the bond market (which resulted in a steeper yield curve), a dive in commodity prices, and a sharp move lower in major stock indices including the S&P 500 index (SPX).

From a technical perspective, last week’s stock, bond, and commodity weakness may have sparked the beginning of deeper corrections in each highlighted by an increase in general market volatility.

In the case of the S&P 500 index (SPX), the initial “risk” is for a possible move down to a test of key trend line support at the 1,515 level, or a 4.86% drop from Friday’s 1,592 close. That would represent a 10.2% correction from the 1,687 high set on May 22^nd. The problem is, however, that in the absence of any sort of oversold condition, a break below 1,515 would suggest that a further decline down to a test of key trend line support at 1,445 could emerge. A test of that level would represent a total decline of 242 points from the May 22 high, or a 14.35% drop.

Also weighing on the U.S. equity markets are growing concerns over the banking system in China and its potential effects on manufacturing, commodity demand and the implications on commodity oriented economies such as Australia, Canada, Brazil, Russia and Indonesia. Continued turmoil in Syria with the potential to spread to other the Middle Eastern counties is also a troubling factor.

That said, bright spots include continued growth in domestic GDP (led by an upswing in the housing sector), an improving employment picture and a rise in auto sales. Lower commodity prices are also a plus for consumers and for companies that try to contain input costs.  All of those pluses, however, may lead to another market issue. While, it is clear that the threat of inflation is not a problem at the moment, some observers may raise a series of warning flags in coming weeks over the threat of deflation instead.

http://www.ogmarkets.com/

By Jim Donnelly, Olson Global Markets

As the Federal Reserve’s two-day meeting approaches (slated for Tuesday and Wednesday), equity prices have moved irregularly lower during the past week or so with wide intraday swings occurring during most trading sessions. In turn, these heightened intraday fluxuations have lifted the CBOE S&P 500 Volatility Index (VIX) above key downtrend resistance at the 14.50 level. With weekly technical oscillators on the VIX currently rising in favor of increased volatility, the real question is: By how much?

Clearly, investors are now looking for Fed Chairman Ben Bernanke to address the question of “tapering” the amount of its monthly asset purchases. If the view of the FOMC is that the domestic economy is expected to show steady improvement accompanied by a better employment climate, the beginning of a “taper” could emerge on the “sooner-than-expected” side of the ledger sheet. Such a scenario could launch the VIX to higher levels more quickly than expected. It would also suggests that a renewed round of equity “profit taking” could be triggered combined with an increase in bond dumping.

On the other hand, if the Fed’s post-meeting announcement is more tempered, the rise in the VIX could be restrained. In any event, the current technical set-up on the VIX suggests that it is likely to move higher in coming months. The incentive to “lock in” profits prior to the end of Q2 is clearly a factor. The direction of the U.S. dollar index (DXY), the path of commodity prices, a monitoring of Japanese markets as well as to economic conditions in Europe and China are part of the equation. Most eyes, however, will be looking toward Q2 earnings which begin to be announced in three weeks as an important indication of how U.S. businesses are currently faring.

Weekly charts nevertheless suggest that even a “tempered” outlook by the Fed could result in a rise toward key resistance at 28 on the VIX accompanied by an extension to the current correction in equity prices. On the other hand, an unexpected or unforeseen event of a global nature could rocket the VIX above the 28 level to a possible test of key trend line resistance currently sitting at 43. This type of move, of course, would likely be a byproduct of a more violent downturn in equity prices.

For now, the “tempered on the taper” scenario appears to be the best bet.

http://www.ogmarkets.com/