Thursday, July 29, 2010

We Shall See

"A string of Europe's largest firms issued surprisingly upbeat profit reports on Thursday, bolstering an abrupt renewal of investor confidence in the region after months of debt turmoil and fears for the euro."
Reuters, July 28, 2010

The two charts to your left illustrate the 350 largest companies in Europe (IEV). The first chart shows the long-term Mega Trend over the past 5 years, while the second chart shows the past twelve months.

The first chart shows that once the Mega Trend (the interplay between price, 50 day, and 200 day moving averages) is set it tends to remain intact for as long as several years and as short as many months. You can see in the second chart more clearly how the Mega Trend went bearish in mid May. However, the recent summer bounce has lifted the price above both its moving averages and, in the process, turned the 50 day upward toward the 200 day while also enabling the 200 day to stop its descent and go flat.

It is possible (but I would argue unlikely) that the good news noted by the Reuters quote will result in a whipsaw of the mid May bearish signal. Possible is just probable with a very low percentage of occurring. We shall see.

Investment Strategy Implications

Much of the technical analysis reasons for the cautiously bullish view that I have expressed these past few months (between 60% and 90% in equities) is rooted in a deterioration of the longer-term trends, specifically the confirmed bearish Mega Trend calls of the past few months (e.g. IEV) and the standing at the precipice to join the bearish parade by nearly every other index tracked.

Should the fundamental picture improve and the economic deceleration in developed economies turn out to NOT dissolve into a recession and economic conditions in the Eurozone turn out to be not all that bad, we should see continually improving technical analysis readings that reverse the bearish signals generated since mid May. Until that occurs, the advisable investment posture of cautiously bullish will produce stock market gains but lose alpha.

Some may disagree but there are times (this being one of them) when making money on the upside courtesy a perceived counter trend rally but losing relative performance (alpha) due to a less than 100% equity exposure is an acceptable price to pay pending the resolution of the multi month unresolved trading range of stocks.

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