Looking for Three Signs of a Market Bottom (Lewenza)

Looking for Three Signs of a Market Bottom

by Ryan Lewenza, CFA, CMT, U.S. Equity Strategist, TD Wealth

In May of this year, we turned cautious on U.S. equities given: 1) weak seasonality from May to September, 2) the end of
Quantitative Easing 2 (QE2) in June, and 3) the extreme bullish sentiment that we witnessed in Q1/11 which, from a
contrarian perspective, was negative. Weā€™ve maintained our cautious and defensive posture since that time and will
remain so until we see the following signs:

- S&P 500 Index (S&P 500) breaks above key resistance of 1,260/70
- 10-year bond yield breaks above 2.7-2.9% range
- Gold prices pull back, following its huge run

In the recent sell-off, the S&P 500 broke through key support of 1,260/70. We are now witnessing an oversold bounce with the S&P 500 closing in on the key 1,260/70 level. This level is important because: 1) the 50-day MA currently intersects at 1,260, and 2) this level was previous support in March and June of this year. When key technical supports are broken they become resistance levels on the way back. Therefore, if we see the S&P 500 break back above this now resistance level, it will signal a stronger market to us, and that the correction could be over.

- Readers of our work know that we watch the bond markets closely to help us isolate turns in the equity markets. With the U.S. 10-year bond yield falling to record lows of around 2%, clearly the bond market is pricing in slowing economic growth, and potentially even a recession.

- For us to get more positive on equities, we will need to see the 10-year yield bond move higher, breaking above the 2.7-2.9% range, which would signal to us that the growth scare is over and investors are moving back to more risky assets, such as stocks.

- We remain long-term bulls of gold, but believe that the recent parabolic move in gold prices has been negative for U.S. equities. Said differently, as investors grow more concerned over sovereign debt issues and the prospect of a recession, investors have been moving funds out of equities and into gold, given its safe haven status in times of distress. Essentially, some investors are growing wary of paper assets, and as such, are moving funds into hard assets like gold.

- We believe a pullback in the overbought gold market will be necessary for U.S. equities to stabilize and move higher in the coming months.

Conclusion: In sum, the confluence of these three events occurring would greatly impact our near-term cautious view, making us more constructive on equities, believing that the current market correction has ended.

***

Looking for Three Signs of a Market Bottom - September 1, 2011

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