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This is the million dollar question that everyone wants to know after stock markets across the globe suffered heavy losses last week in the wake of the French and Greek election results. Europe is still at the epicentre of the sell-off and although risk markets seem calmer as we end the week, market nerves remain frayed.
From a fundamental perspective the future direction of stock markets could go a couple of ways in the next week. If Greece can magic together a coalition that is fairly moderate then we could see a relief rally, which would be positive for stocks. However, if it needs to go back to the polls then we could see risk sell-off once again as markets adjust to a world of persistent political uncertainty in Greece and the Eurozone. However, US economic data next week could help determine if the Fed will do more QE. Expectations of future Fed actions have a strange effect on the market. Usually more QE is felt first in the gold market, so if the gold price manages to rally in the medium-to-near term then we could see stocks stage a turnaround.
From a technical perspective, there are a few lead market indicators in the stock market. The Dow Jones Transportation index tends to lead the larger US stock indices. It sold off last week along with other risk assets and fell through some key support levels at 5,200 - both its 50 and 100-day smas. However, this index is still in an uptrend and the recent sell-off looks like a normal pullback. We would need to drop below 5,000 before you could conclude something more sinister is going on. Thus, the sell off probably got rid of some weak longs and may put the index in a better position to rally going forward.
The Nasdaq is also a good lead indicator as the technology sector is very sensitive to risk sentiment and the global growth cycle. Since tech is all about the future it is a good snap shot of investor confidence about expectations for the strength of the business cycle. It has fallen 7% since reaching a high in early April, but managed to find support at 2,900 - the 100-day sma. This index is at a crossroads - if support doesn't hold that suggests the bears have got control and the sell-off in risk assets may not be done yet. But if this level holds then we may see further gains, as you can see in the chart below.
Thus, the lead indicators in the markets are not yet suggesting that we are in a downtrend, but if they can't muster a rally from here then the bears have probably got control and risk could sell off even more.
Nas 100 INDEX :
This index has dropped along with other stock markets, although it is finding good daily sma support just below 1,350. If we manage to stay above this level then we could see a return to re-test the highs of 1,380. However, if we have a weekly close below 1,350 then we may see more sustained losses towards the 1,300 level. In the current environment, I think the balance of risks is fairly neutral at the moment. However, the 1,400 level seems a stretch too far for this index, thus there could be further to go on the downside than there could be gains on the upside if risk manages to recover in the coming days.
The European stock indices have come under more downward pressure than their US counterparts of late and the UK 100 index has not escaped unscathed. The FTSE 100 is down more than 7% since reaching a peak in April, while the SPX 500 is down approx. 4.5% over the same time period. The UK index is getting hit harder than sterling, which has been attracting safe haven flows of late. The UK 100 index is more exposed due a couple of reasons: 1, its economic proximity to Europe and 2, the concentration of financial and commodity firms in the UK 100, which have both been affected by the sell-off in risky assets.
A weekly close below 5,556 would be very bearish for this index as this is the 200-day sma, a significant support level. This could open the way to 5,430, then towards 5,400. 5,550 is now key resistance.
Kathleen Brooks| Research Director UK EMEA | FOREX.com
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