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The most widely anticipated depression in history has failed to materialize. In fact, by most accounts the financial crisis is contained and the global economy is attempting to get into position to recover. Unfortunately for the equity markets and a host of physical commodity markets, the recovery might not be set to materialize as quickly as recent prices might have been suggesting. In addition to classic short term overbought indications, a couple of other big picture economic developments seem to have conspired to trip up the rotation of capital toward stocks and physical commodities.
First of all, seeing equity prices forge a pattern of nine straight weekly gains and then seeing them attempt to extend the gains for another five weeks without much success seems to have confirmed the idea that expectations were indeed ahead of reality. Secondly, we also have to wonder if a temporary spike in T-Note yields above 4% didn’t siphon off some capital from equities. In short, the markets seem to have encountered a technically overbought condition in “macroeconomic sentiment”, but with some banks repaying TARP funds and the Fed seemingly content to downplay inflation and remain accommodative with policy, we don’t expect the push toward recovery to be dealt a serious blow. Certainly it could be difficult to recover quickly and without some starts and stops (because of the damage done to the consumer in most developed countries), but one only has to look to rather impressive growth figures in China and India to see that some areas of the world are indeed capable of bouncing back quickly and perhaps robustly.
We also have to point to residual strength in energy prices as a sign that inflationary expectations continue to be more easily revived than many analysts had expected. However, in the near term we expect some additional back and fill action in the equity markets and in those commodity markets that initially rushed to factor in a recovery in 2009. In the end, we would expect stock prices to find a solid bottom before the end of June, as money on the sidelines gets pulled into the market by the June correction. Our pick for a bottom will come once the headlines begin to seriously question the “green shoots of recovery” theme again. That theme has become a clich‚ and is rightly hated by many market participants, but we would suggest that is exactly the type of evidence that traders should be looking to for direction, as economic numbers aren’t going to become positive overnight. In other words, the “second derivative of slowing” argument was apparently correct thinking in calling off the “unending deflationary pattern,” and the return of a minor pattern of better economic readings ahead will probably cause stocks to rally, the Dollar to weaken and a host of physical commodities to regain their footing again.
Our pick for a key June low in the September S&P is 894; our pick for a June low in August crude oil is $65.90; and our pick for a June low in September copper is $2.17.
