US Market Outlook as at March 10, 2016

With signs of higher inflation index ahead and improved employment data, the US stock market rebounded back from its low after the December decline. From Chart 1, we can see that DJIA broke its long-term uptrend line, SS at 18000 in June 2015. The current technical rebound will face stiff resistance from the intermediate downtrend line, RR at 17600-17700.


Chart 1: DJIA & S&P500's weekly charts as at Mar 10, 2016 (Source: Stockchart.com)

Yesterday, Zero Hedge published an article entitled "This Is Jeff Gundlach's Favorite (& Scariest) Chart". The chart is question (reproduced below) shows S&P500 index against the indices of High Yield Bond and Leverage Loans. It is generally acknowledged that weakness in the economy would normally first shows up in the weaker sectors of the economy, which are the HY bonds and the leverage loans. The chart clearly shows a divergence between S&P500 index and the other indices. How long can this persist?


(via  ZeroHedge)

We cannot come to a strong conclusion based on one cycle of data. We need to look at previous instances of HY bonds and leveraged loans giving similar early warning signal. I did my own study by looking for HY bonds index/ETF and leveraged loans/bonds index/ETF. I can't find any leveraged loans/bonds index/ETF that stretches back more than 10 years. I referred to this list from TheStreet.com (here). I also looked for HY bonds index/ETFs and I came out with 1 ETF, Columbia High Yield Bond K ('RSHYX'). I also included another ETF which has HY bonds in its portfolio- Thrivent Diversified Income Plus A ('AAHYX'). The charts for the paired index of DJIA and the ETF are presented below.

This is what we can conclude:

• RSHYX and AAHYX peaked earlier than S&P500 in 2000 & 2008
• The 10-month SMA crossed below the 20 and 30-month EMA lines earlier for RSHYX and AAHYX than S&P500 in 2000 & 2008. 

With the past 2 confirmation, we are more assured that S&P500 index is likely to see its 10-month SMA crossing below the 20 and 30-month EMA lines since both RSHYX and AAHYX have witnessed the negative crossover. That could only happen if there is further price drop in the market.


Chart 2: DJIA & RSHYX's monthly charts as at Mar 10, 2016 (Source: Yahoo Finance)


Chart 3: DJIA & AAHYX's monthly charts as at Mar 10, 2016 (Source: Yahoo Finance)

In the short-term, the fear of a bear market in the US could be mildly positive for some emerging markets. Malaysian stock market may be benefiting as some funds are re-positioning themselves since our market has dropped quite significantly in USD term. However, a sharp fall in US markets will not spare anyone. Thus, we can take a constructive position in the market but we must avoid overexposure lest the US markets come tumbling down on us. Good luck.