Weekly Update

July 15, 2016 Update

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Initiation is a good thing

Sometimes stock investors just get things a-moving. We see big jumps in stock prices that clearly reflect a change of attitude. These big jumps can come late in a rally when investors fear of missing out (FOMO) kicks into high gear. We saw this FOMO on full display in September-October of 2007. Emerging market stocks had delivered a long and powerful run more than tripling in price over a four-and-a-half year period. Despite this huge run, the group shot higher in Fall 2007 with another +20% gain over a handful of weeks. This was the end of the run, however, as markets generally began faltering and emerging market stocks gave that +20% back over the ensuing three months. This jump in price late in a trend is referred to as an “exhaustion climax”; the idea being that sellers are just completely absent by this point in the process and buyers are willing to step in at any price. Higher price momentum begets higher prices and the price pattern goes almost vertical.

Chart 1: Emerging market stocks demonstrated an exhaustion climax in Fall 2007

Emerging market stocks demonstrated an exhaustion climax in Fall 2007

This week stocks worldwide may have kicked off a big-time rally through what technical analysts call an “initiation climax”. This is where the jump in price occurs after a long decline to initiate a new rally. In this case, the selling has run its course as market perception shifts toward the stock, sector, et al. Buyers come into the stock with high-volume force propelling price higher. This builds some confidence and momentum players quickly jump in to add to the price move. If the assumptions underlying the move bear out, we see a true end to the prior price decline and a fresh and sustainable rally.

For beleaguered emerging market stocks, that initiation climax might well have just happened. Witness the movement in Brazil over the past couple of weeks.

Chart 2: Brazil may have kicked off a new rally

Brazil may have kicked off a new rally

U.S. stocks have been leading the market move higher for years now. What a great sign it would be for stocks if another large chunk of world markets could take the baton for a while and push this market further.

They just don’t get it!

Younger people are almost always more optimistic about the future than us stodgy old folk. But never has the gap between old and young been so pronounced.

Chart 3: The optimistic young and the pessimistic old

The optimistic young and the pessimistic old

We see this playing out as a theme in this election cycle and generally among American (and world) political views. We wrote just recently about the Brexit campaign and how it was based on a fear of change. Generally, we find that type of fear very counter-productive; change is inevitable and certainly can be managed, never stopped. Note that the gap developed as a result of the financial crisis. While working age people saw their retirement balances hammered and came to view the stock market with fear and trepidation, looking over their shoulder for the next crisis, people now approaching 35 years old or younger would have had no investment balances to speak of. Thus, the financial crisis was certainly not the same event for them as for their elders. This fear of crisis and external forces versus non-fear of such things, if you will, pervades everything going on in politics today. The young people just don’t understand what the older folk are so afraid of. It will be interesting to see if this gap starts to close at some point over the next decade, and if so, what causes that convergence. Bears might note that the consumer confidence is now at a point where it peaked in the prior cycle. Will another crash bring us together again?

Market Update

Stocks built on their post-Brexit gains this week pushing to new highs in the process. The re-election of Prime Minister Abe in Japan encouraged investors Monday leading to a +0.3% gain. Tuesday it was England and their central bank fueling speculation of further monetary easing to calm investor nerves post-Brexit. Another +0.7% rise for stocks resulted. Wednesday was a flat day ahead of a flurry of bank earnings beginning Thursday morning. JP Morgan beat estimates to give a kick to the financial sector. Another +0.5% was added to the rally. Stocks closed a successful week flat.

Warm wishes and until next week.