The “buy the dips” philosophy is still very much in force among investors. Equity markets looked like rolling over for the much-anticipated correction early last week. By the end of the week though, yet another piece of positive newsflow hit the screens and the buyers stepped in once again. The Dow, S&P 500 and the UK’s FTSE all pushed to fresh current year highs. The Australian index is currently around its high.
Given the large percentage gains over the past six to seven weeks, combined with momentum indicators deep into overbought territory, we believe that the risk of a more prolonged corrective phase is increasing.
Should a correction unfold from current levels, we would expect previous resistance (marked by the thin blue line) to provide the first level of support. More specifically, interim supports are 8877 to 8600 for the Dow Jones, 4520 to 4360 for the FTSE 100 and 4080 to 4000 for the ASX200.
Meanwhile, the news in question was the existing US home sales data for July, released last Friday. The data revealed continued improvement in America’s housing market, with the fourth consecutive month of growth taking home sales to 5.24 million units. Although the market had anticipated a positive result, the 7.2% gain from June outstripped consensus forecasts and served to recharge investor enthusiasm.
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There is no doubt that the data is indeed positive. The collapsing US real estate market is a central component of the GFC and tangible evidence of its stabilisation therefore supports the wider recovery hypothesis. Of course, the data hasn’t improved entirely of its own accord. The US Government’s stimulus efforts include an US$8,000 tax credit for first-home buyers.
The Government’s efforts have clearly played a significant part in the sales rally, given that some 30% of the month’s sales were indeed to first-home buyers. Just as critics heaped unjustified scepticism on the cost-cutting driven US results season, there has been some commentary that the stimulus effect invalidates the data.
Certainly, the result would not have been so positive in the absence of the stimulus efforts. We do not however view this as a negative in itself. A central role of government through the crisis has been to bridge the demand gap from the slowdown to the eventual recovery. Bringing forward some future demand in order to achieve this, as they have done, is perfectly valid.
The impact of so-called “stimulus fade” will cause a degree of future softening, but likely from a considerably higher level than would otherwise be the case. The receding stimulus is also likely to coincide with a stronger market environment.
Having said that, the US housing market remains in the early stages of its recovery and there is a long road to travel to full health. The chart below shows the Case-Schiller US property index, which is just tentatively beginning to turn up.