The European Central Bank meets this Thursday in one of the larger events of the week. Many commentators are pushing for an extension of the current bond buying program into full blown QE, but this is unlikely at the moment. The ECB has been steadily adding stimulus in one form or another and will probably want to allow these measures some time to play out before pulling out the big guns.
Draghi has pledged to add up to 1 trillion euros to the ECB's balance sheet but not in the form of government bonds. Instead they've been purchasing covered bonds, considered the safest type of bank debt, and asset-backed securities. If these steps fail to spur the economy there is still a good chance the ECB could resort to purchasing government debt.
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Recent inflation data from Europe showed a small but important improvement that has allowed financial markets to take a quick breather. The tick up to 0.4% (seen below) marks the first upward move in price levels since May. While almost inconsequential, it at least represents a glimmer of hope that Europe may not be falling off the cliff quite yet.
Relative to the dollar, the euro is down over 1.5% since the Fed announcement last Wednesday and down over 10% since May. We often talk about how the devaluation of a domestic currency has the effect of putting its exports on sale, but there is a flip side ... it makes import prices rise. This can add to inflationary pressures and may be helping buoy price levels.
The European STOXX Index has been in recovery mode over the last two weeks, mirroring US markets in direction but not magnitude. Last Friday's global equity rally led the STOXX to gap higher, closing back above the converging 50 and 200-day moving averages. I wouldn't place much emphasis on it but we've just seen the classic "death cross" in the STOXX index. The 50-day is crossing below the longer 200-day moving average, often a signal that the trend is changing.
We saw the same death cross in the Russell 2000 back in the middle of September and that index has been clawing its way back steadily. In fact the Russell 2000 has not only made its way back above the trendline that marked the lower bound of its 2014 channel, it also appears ready to make a run at the upper trendline.
Investors look to small-cap indexes as a leading indicator and also for a read on economic momentum. These companies are typically growth-oriented firms who do better during the expansionary phases of the business cycle. The year-long stagnation of this index has plagued investors and the broader markets.
Getting back to global markets, the GDOW is also in recovery mode, though it is bumping up against strong resistance at its 50 and 200-day moving averages (which will soon produce a death cross as well). Looking at this chart of the GDOW demonstrates the uneven recovery in global equity markets during the last few weeks. While US markets have regained all the ground they lost, other markets, though positive, are well below their prior levels. This has limited the recovery in the Global Dow Index.
MoneyBeat this morning put out an interesting chart and statistic that demonstrates the incredible bullishness we've seen in the S&P 500 over the past two years. They noted that the S&P has recorded a new record high in each of the last 16 consecutive months. This is the longest streak ever in the history of the S&P.
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In this chart which accompanied the comments, they placed a red dot on each new high since the beginning of 2013. There are too many dots to even count. I've noticed anecdotally through friends and colleagues that whenever markets reach new highs there is a temptation to sell. I think a lot of this has to do with investors not wanting to press their luck, which is actually a good mentality. This natural reaction shows that they are containing their greed, which, if left unchecked, has the potential to ruin portfolios. But as I've said before, new highs are the hallmark of bull markets. I think this chart exemplifies that. The S&P has notched record highs 79 times since the index overtook pre-financial crisis highs on March 28, 2013.
The above content was an excerpt of Richard Russell's Dow Theory Letters. To receive their daily updates and research, click here to subscribe.
