OIL PULLBACK BRIGHTENS A GLOOMY VISTA
THE equity market sell-off which began in May has seen most major global stock indices break below significant technical support levels. The S&P 500 and Russell 2,000 are now both trading near their 200-day moving averages (MA). For the S&P, this comes in at 1,260, with a break below here suggesting a test of 1,246 – the 2011 low-point hit back in March. For the broader-based Russell, the 200-day MA comes in at 776, with the next significant support at 735. The tech-heavy Nasdaq 100 closed below its own 200-day MA last Wednesday, and so far it has been unable to make back this lost ground. The UK’s FTSE 100, China’s Shanghai Composite, Japan’s Nikkei and Spain’s Ibex are also looking vulnerable from a technical standpoint.
Given the protracted nature of the sell-off, traders may try to engineer a bounce from here to get a corrective rally going. However, they will be wary of taking on too much long-side exposure given the deterioration in market fundamentals. Global growth is slowing; economic sentiment is turning negative, while inflationary pressures continue to raise costs and curb consumption. In the US, unsustainably high levels of public and private debt are weighing on the economy and pushing the prospect of an improvement in unemployment and housing well into the future. China continues to tighten monetary policy as it fights inflation imported through its dollar peg. In Europe, the debt crisis continues unabated.
But one bright spot is the ongoing sell-off in oil prices. This pull-back in crude should result in lower fuel prices and consequently lower costs for companies and consumers alike. The imminent conclusion to the Fed’s second round of quantitative easing (QE2) is therefore providing some benefit, as investors continue to head back to the relative safety of the US dollar, putting pressure on speculators who have sold/borrowed the dollar as part of a yield-seeking, “risk-on” carry-trade.
Hopefully the pull-back won’t prove to be transitory. But while a fall in crude should help to stimulate economic activity, it is worth noting that average prices still remain elevated. To completely unwind the damage done since QE2 was announced back in August, Brent would need to drop by 33 per cent and WTI by 25 per cent from current levels.