Thursday, 9 December 2010

STOCKS: Shanghai Blues signals New York State of Mind

Now let's take another angle on the theme from my previous post.  In the past few weeks, Chinese investors' worries have pulled their stock index back down into the mire from which it had only just managed to escape.  If past patterns persist, this is not good news for our markets.

The chart above shows the bearish channel Shanghai's exchange has been travelling down during 2010.  A burst of excitement over Bernanke's quantitative easing 2.0 and their own strong growth figures propelled the index above its upper trendline, suggesting escape velocity had been reached. Then the rocket boosters failed.

Now Shanghai shares are teetering on a technical ledge at around 2800 (yellow line), under which there is nothing but empty space until support appears approx. 4% below (blue area).  I'd expect that to stop the rot; however, if the index breaks down further, a potentially horrible vista opens up in which there is little or no technical support until several hundred more points are incinerated and the summer lows are tested.

Making money is as easy, just follow the Chinese fella.

Shanghai has led western markets for more than a year; hardly surprising, since China's continued growth is a major crutch for the rest of the world's economic recovery, such as it is.

If the recent correlation holds, expect a top in US, European and UK markets in short order.  

There are plenty more reasons to expect indices to struggle here, however I'm doubtful a deep correction will follow as the Fed is continuing to force-feed QE2 dollars into the stock market through its banking 'black ops' team.  

My baseline expectation is for a zig-zagging sideways-to-down correction over the next few months, a great environment for short term technical traders but a potential deathtrap for long-term investors, whose newly-found bullishness may lead them to sink their savings in at the top.  Over the next few months, indexes are unlikely to be able to extend significantly higher than the recent highs during up-moves, but should be limited on the downside to around 1150 on the S&P500, 5450 on the FTSE100.  

More coming up on this situation - and how to be confident of winning in the long run whether I'm right or wrong - this Sunday 12th December.