Global Outlook

The New Year Begins on a Positive Note

Contributed by eResearch

By Bob Wier

We would like to wish our subscribers a healthy and prosperous 2012.

While observing the way the media portrayed 2011, one would get the impression that it was a year to  forget. But was it that bad? Certainly there were large doses of dramatic events on the economic and political fronts: the Euro-zone saga, rising debt, political and economic instability, and social unrest, to name just a few. However, despite all the chaos and negativity, the North American markets  finished the year much better than news sources reported. In fact, the S&P 500 remained flat throughout the year, reconfirming our belief that investors must go beyond headlines and fundamental reporting to succeed in this market. For answers, they must turn to the market itself.

There is no better way to “read” the market than through technical analysis. While the market volatility and negative atmosphere discouraged many from participating, those who filtered out the market noise and focused on strong stocks did quite well. It was technical analysis that kept us away from stocks such as Royal Bank or Sino-Forest and it is technical analysis that lets us begin  2012 ready and prepared for new opportunities that are emerging as we write.

What’s ahead in 2012?

The S&P/TSX composite entered 2012 in the worst shape of all the North American indices and while Toronto still has a falling 200-day moving average (200dMA), there is light at the end of the tunnel, although a lot more base-building will be required before a full reversal.

The U.S. indices appear one step ahead of their Canadian counterparts. The rally of the last few days rose above the downtrend line and brought the DJIA and the S&P 500 above their 200dMAs. The 50dMA of the DJIA rose above its 200dMA this week, a positive development, and the S&P 500 is not far behind. The indices must fortify their positions above their 200dMA and these MAs must turn up decidedly, just as the Exponential Averages have done recently.

Where are the markets heading now?

The rally of the last few weeks has been impressive. The most recent lift above the 200dMAs came on the back of a new 21-day cycle, which, together with the longer 105-day cycle should mature around January 20th. Therefore, it is important to watch the market’s ability to build on the recent strength. Both markets could weaken toward this maturation date, but what happens next will set the tone for the entire 2012. A weak start to a new 105-cycle could put the North American markets on a weak path. However, our preferred outcome, a decisive rally in February on the back of the new 105-day cycle would put the U.S. market well above the major trend gauges, would turn the 200dMAs up and even help to send the Toronto market on a recovery path.

Where should investors concentrate?

Careful selection of stocks that display strong technical characteristics should continue to be the best strategy. It is a boring but effective method of resisting daily market noise. Focusing on stocks that are in clean uptrends or are breaking out from lengthy base patterns should continue to bear fruit this year. For many it may come as a surprise that despite the market tumult, strong stocks exist. Last year proved once again that technical selection works and produces profits despite a weak market. Look for our up-coming stock reports for selections.

Such a selective approach is a win-win situation because even if the markets  continue to tread water, strong names should still provide the best protection. On the other hand, if the market decides to surprise us in 2012 and stage a strong rally, the same technically sound names will still lead the markets higher. As a general rule: strong stocks usually remain strong and vice-versa.

In our last Market Comment we said that the falling 200dMA and the price  resistance in the 1,270 to 1,300 zone were proving to be major obstacles to any further advance for the S&P 500. The trend line that joins the high points in the Index from last summer, now in the 1,260 area, acted as a further impediment. We classified it as the immediate upside battleground zone between bulls and bears.

It seems the bulls got the upper hand in this battle. The S&P 500 not only moved above its 50- and 200-day moving averages, but also moved above the declining trend-line (dashed line). This brought a new positive outlook and made the 1,270-1,300 resistance zone less important. In addition, there is a new, solid up-trend line and support near the 50- and 200-day moving averages.

In sum, the S&P 500 took one step in a bullish direction, and a move above the 1,300 level would further strengthen the bullish case.

As anticipated in our last Market Comment, Toronto rallied from its extremely oversold conditions. However, while there were positive developments, such as a move above the rising 50dMA, the core trend, as defined by the declining 200dMA, average, remained down. The Index is now flirting with its falling trend-line that connects all previous highs since April 2011. A decisive move above it would be the first step in a long and challenging recovery. The next objective for the bulls is the area between 12,300 and 12,500, which could provide some resistance. Finally, the 200dMA awaits the Index at roughly 12,700.

Toronto is lagging behind its U.S. counterparts and, at this point, the S&P/TSX Index remains a much weaker market. However a decisive upmove by the S&P 500 will certainly help Toronto to change its tune.

The FTSE 100 Index is almost the exact replica of the S&P 500 Index (or vice versa). Both have risen above their respective down-trend lines and their 50- and 200-day moving averages. They both have a visible uptrend line connecting recent lows. This is not surprising, but encouraging, since it is usual that they confirm each other. Only the opposite, a divergence or non-confirmation, would be a problem.

Of course the FTSE, like the S&P 500 still has a lot of work ahead of it, but a strong beginning to the next 105- day cycle will be a decisive victory.