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Investor optimism won't last forever

EVEN after a rally lasting 11 consecutive days, the FTSE 100 still managed to push higher last week, closing up 2.48 per cent on the week. And where the FTSE has gone, other indices have followed. The S&amp;P 500 broke temporarily through the 1,000 mark at the end of last week while the Dow Jones has consolidated its break through the 9,000 mark. <br /><br />This has astonished some market analysts, who have found it difficult to believe that markets have rallied so far from their lows and in the face of initially poor economic data and continued profit warnings by blue-chip companies.<br /><br />Admittedly, the US earnings season and subsequent bumper results for HSBC and Barclays did give indices an extra boost, but it is still difficult to see precisely what fundamentals are driving stocks so high at the moment. <br /><br />Earnings results could have been a lot better &ndash; as we have argued in these pages previously, less bad results will only satisfy the market for so long &ndash; and while economic data is showing a gradual improvement, there remain substantial risks to the global economic recovery.<br /><br />Many analysts over the past few weeks have cited investor over-optimism as a key cause of the surge in global equities and the market&rsquo;s faith in itself. This is born out by a chart drawn up by Credit Suisse analysts which shows global risk appetite (see graph below). <br /><br /><strong>EUPHORIA ZONE<br /></strong>This indicates that risk appetite for equities is hurtling towards what they call the &ldquo;euphoria&rdquo; zone, having retraced from &ldquo;panic&rdquo; at the fastest rate since the October 1987 crash. <br /><br />Friday&rsquo;s better-than-expected non-farm payrolls data from the US will only serve to extend the euphoria further. The figures showed that 247,000 Americans lost their jobs in July, a marked improvement on June&rsquo;s 443,000.<br /><br />John Hardy, FX strategist at spread betting provider Saxo Bank, says: &ldquo;For the short term here, the market is uncorking another bottle of green shoots champagne, and equities are higher, bonds are lower and the US dollar is mixed.&rdquo;<br /><br /><strong>POPPING CORKS<br /></strong>But how long will the sound of popping corks continue? As the Credit Suisse chart shows, euphoric periods are rarely sustained and are usually followed by a slide back in risk appetite towards more normal levels. Early signs of a retrenchment in risk appetite are already beginning to appear, says Ashraf Laidi, chief market strategist at CMC Markets. He says: &ldquo;Regardless of the outcome of the unemployment rate and payrolls, markets are increasingly pointing towards eroding risk appetite through retreating commodities, emerging market equities and the US dollar.&rdquo;<br /><br />It all means that, although they might have profited from the uptick, spread betters should be wary of holding onto long positions for much longer. The FTSE 100 is starting to look like it is about to top out as the enthusiasm of the investment crowd begins to wane and traders increasingly start to question the foundations of the speed at which stocks have soared over the past fortnight.<br /><br />It is probably fair to assume that we are not going to be experiencing too much more euphoria in the near future.