The last quarter of the year began with strong demand that has led to many international bourses returning to their highs by the end of October. To quantify; the S & P 500 index, reached 2600 points while EuroStoxx 50 approached 3700 points. From the technical point of view, these levels represent the optimistic target for the current year, suggesting that the consolidation in progress the last two weeks may be the beginning of a distribution phase. In short, the traditional year-end rally could have already started, due to the modest exposure of institutional investors’, which, starting from September, felt they had to increase their exposure in a year that should close with most stock exchanges in positive territory. Given the absence of viable alternatives to stocks, the correction could already be largely exhausted, with support levels of 3520 points for EuroStoxx and 2520 for the S & P 500 expected to hold. It should be noted that in addition to the marked liquidity in various countries due to several rounds of monetary stimulus, huge amounts of fixed income securities will begin to mature, which were purchased in 2013 / 2014 due to an anticipated return of inflation, which did not occur; leading investors to select three to four year maturities. At present, it is impossible to reinvest this capital at acceptable returns, especially with regard to the Euro, and therefore either one invests in stocks or awaits a correction in the bond market which, albeit, does not appear imminent. Indeed, the recent inflation data on both sides of the Atlantic registered a slight downturn, eliminating the likelihood of the central banks correcting the prudent approach they are implementing in the current monetary policy normalization phase.
Powell’s nomination to chair the FED entails the continued pursuit of Governor Yellen’s strategy, with no great increases in the cost of money, much to President Trump’s full satisfaction. At the end of October, Governor Draghi, as well, indicated the road which the ECB will follow, which is also cautious in terms of base rate increases, not foreseen before 2019 – if necessary.
Another element that leads us to conclude that the stock markets are in a sideways trend in order to absorb recent gains without risking corrections exceeding 5-7% from the recent highs comes from observing what is happening in the two leading economies of Asia. In fact, since January 2016, the Chinese People’s Bank, after three years of restrictive policy, has embarked on a credit expansion phase that has led it, today, to be the most important central bank in terms of budget. Contrary to what happens in all western financial markets, the PBOC has full control over what occurs in the credit system it governs. Therefore, so as long as this accommodative policy persists, international markets, especially Asian bourses, will be able to rely on a strong demand for stocks. The unexpected strength of the Chinese economy is also helping the Japanese economy, suggesting an increase in exposure to stocks of the Rising Sun, taking advantage of the recent correction toward the psychological support level of 22,000 points on the Nikkei 225 index. The steady flow in international capital to the Asian economies, which are then partially neutralized by issuing new local currency, is mainly funded through the realization of US dollar lending, explaining the decline of the greenback since fall 2016. This process does not seem to be destined to be interrupted in 2018; instead, the US currency is expected to fall further to 1.25 against the euro, indicated also by the recent difficulties experienced by the dollar witnessed in the recent bounce assisted by seasonal technical elements. The vigor of the Chinese economy and the recovery of Japan’s economy, occurring during a consolidation phase of the dollar, pose the thesis for rising industrial commodity prices and even of oil, after the prolonged downtrend that paused during the summer.
Nicola Bravetti Data Source: Bloomberg