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International Market by Martin Pring’s InterMarket Review (September 2014)

The Stock Barometer fell to 82% in August because the 3-month Commercial Paper Yield held above its 12-month MA for two consecutive months. Since the Fed has indicated it will be keeping short-term rates close to zero for several more quarters, we are not treating this signal as indicative of a new uptrend in yields. Were the economy beginning to speed up and if industrial commodity prices were rising sharply, that would be another matter. Having said that, we notice that the S&P KST, another Barometer component, is likely to go bearish soon.

This series is shown in Chart 11, where it is fairly evident that any perceptible downside crossover would result in a negative 12-month MA crossover. We estimate that a close in excess of 2050 would be required to avoid a bearish KST MA crossover. Not all such signals result in declines. Two false negatives developed in 1998 and 2005, for instance. In last month's issue we also noticed that the Coppock Indicator had started to roll over from a lower level than its 2010 peak for the second time this cycle. The dashed red arrows indicate that secondary peaks of this nature which follow a failure of the indicator to fall below its equilibrium level are usually a sign of major vulnerability. Our point is that the Barometer is currently bullish, but some of its components have begun to deteriorate so it is not inconceivable that an actual sell signal could be triggered some time in the fall, not a prediction, merely an observation.

Chart 12 looks at it from another aspect, this time using a 48-month ROC. The sell signals are triggered when the indicator moves above the red danger level and subsequently falls back to result in a reversal in the red 12-month MA. Six such signals have been triggered since 1929 and all were followed by a bear market of some kind. This is not a precise timing device, as you can see from the 1998 signal, and current one that developed earlier in the year. The high reading therefore warns that equities have reached a danger area that could render the S&P vulnerable should it experience some kind of modest trend break. Ironically, the MA has started to turn up again, suggesting, but by no means guarantees, that the market will continue to experience a very high risk advance for a brief period.

Another long-term warning sign comes from the ratio calculated from the Shiller P/E (the return on equity earnings) and Moody's BAA Corporate Bond yield (the current return on bonds). The red arrows (Chart 13) indicate when the ratio, having reached the overvalued equity line, subsequently moves back below it. Such action is typically followed by a bear market of some kind. The lower set of arrows point out that this kind of setup is usually confi rmed by a peaking action in the KST. There have only been two false signals, one in May 2005 and another in June of 2013. August saw this indicator down slightly from the record reading set in July. However, the ratio is still above its overvalued line and the KST remains in a rising trend. Therefore, a signal has not yet been given, although obviously risks remain elevated.

The Economy

The KST for ECRI Weekly Leading Indicator is extremely close to a negative KST MA crossover. Previous instances have been fl agged by the vertical red lines in Chart 14. In every previous instance such action has been followed by some kind of a decline or consolidation in the indicator itself and the equity market. We cannot say that every signal was followed by a recession, but it is true that all recessions since the 1960's have been preceded by a decline in the KST. The trend of the indicator itself (134.8) is currently positive because it is above its 2009/14 up-trendline and 12-month MA (133.6). The average is rising by approximately .3 per month, so it would not take much in the form of weakness to result in a reversal in trend.

We also note that in Chart 15 all three momentum indicators have violated 2009/14 up trendlines, offering another sign of loss of upside momentum.

At this point, there are several things to bear in mind. First, the uptrend for both the ECRI and S&P are both intact. Second, given the leading tendencies of equities, a peak in the ECRI would likely develop close to a topping out period for stock prices. There is not suffi cient evidence to conclude of an impending recession yet.

Indeed, our Recession Caller, introduced last month and featured in Chart 16, is still some way from dropping below its red recession line.

Bond Market Confi dence and Equity Prices

The ratio between government and Moody's corporate BAA bond yields usually rises in tandem with equity prices, as bond investors confi dently move into these lower quality instruments as economic conditions improve. It is when the ratio diverges from equity prices in either direction that we are alerted to a possible trend change. In this respect, Chart 17 shows the ratio was deteriorating prior to the 2007 equity peak and improved ahead of the 2009 bottom. A small divergence also developed between the 2010 and 2011 peaks. Another negative discrepancy has recently arisen as the ratio topped out in early 2014 and has been working its way lower ever since. It has even completed a 1-year top and violated its 65-week EMA. There is nothing in the rule book that says that it will not move even lower in the face of rising equities. However, experience shows that the longer this type of disagreement goes on, the greater the ultimate pain is likely to be.

Intermediate Technicals

Chart 18 shows red moving average calculated from the number of a basket of Dow stocks currently experiencing a rising intermediate KST has started to turn up from a depressed and bullish level. The arrows show this is almost invariably positive, but by varying degrees. This action holds out the probability that the current rally will extend. However, the longer-term indicators remind us that such strength is likely to develop as part of an overall topping out process. That is obviously a speculative comment. However, until some of the major trend indicators, such as the 9-month MA for the S&P Composite and the monthly bull market trendline dating from 2011 are violated, it is wiser to assume that the line of least resistance remains positive. That benchmark, by the way, stands at around 1900 on the S&P Composite.

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