Weak economic reports from China ignited a sell-off in the equity markets on Wednesday but the embers were burning well ahead of the release of reports showing a decline in Chinese industrial output and weak retail sales.
The Fed most likely triggered the pessimistic outlook for the global economy on Tuesday when it said in its policy statement that it expects prolonged weakness in the economy and loosened its monetary policy by shifting assets from mortgages to long-term debt in order to keep its balance sheet from expanding.
U.S. stocks are were down sharply, threatening to take out key bottoms formed less than two weeks ago. Concerns about a worldwide economic slowdown were the main catalyst which drove down demand for higher risk assets.
With both the U.S. and Chinese economies critical to the global economy, many investors are beginning to worry about the world’s growth prospects.
Last night the U.K. also contributed to the equity market weakness after the Bank of England lowered its growth outlook. With new austerity measures ready to kick in along with higher taxes, investors are worried about the strength of the British economic recovery.
Stocks lost more ground early Wednesday morning after the U.S. said its trade deficit widened to $49.9 billion in June, more than many analysts had anticipated. This news caused some experts to revise downward second-quarter growth.
After seven days of rangebound trading, the September E-mini finally broke out of its range to the downside. This type of pattern usually indicates impending volatility which we saw on Wednesday. If volatility continues to expand, then look for the market swings to become exaggerated.
Technically this market broke through a 50%/uptrending Gann angle combination which triggered stops into the mid-1090’s. So far this index is holding a swing bottom at 1083.50, but downside momentum is building which could see this level taken out. This would change the main trend to down. Ultimately, the E-mini is set up for a minimum correction to a 50% level at 1065.25.
All of the commodity-linked currencies were down hard on Wednesday. The Australian Dollar was down the most because of its strong link to China. Downside momentum is building in this market which could trigger a test of the last main bottom at .8904. Ultimately, this market seems destined to test a major 50% price level at .8644.
U.S. Treasury debt continued their acceleration to the upside as money fled equities for the safety of U.S. debt. The action by the Fed to buy Treasury Bonds was partially responsible for Wednesday’s rally. The Treasury complex continues to be the best indicator for the state of the U.S. economy. As long as the economy continues to cool, expect more upside pressure.
December Gold continues to be the most interesting market. Investors are trying to decide whether to follow the Dollar, deflation or equities. I believe that gold and equities are competing for the same Dollar so I’m expecting more upside action. Gold has been sitting in a range for a few days which means impending volatility. This market is either going to explode to the upside through $1215.00 or correct back to $1186.30.
The flight to safety rally sent investors into the Japanese Yen. Buyers stepped in however after the Yen reached a 15 year low. Talk is circulating that the Japanese government may attempt to intervene. Its biggest concern at this time is that a rise in the Yen will hurt exports. This expectation coupled with talk of lower demand from China and the U.S. will hurt the economic recovery.
The British Pound was down over 1% on Wednesday as worries about a slowdown in the economy forced investors to wonder if the U.K. economic recovery was slowing down.
Overnight the Bank of England lowered its forecast for growth expectations in its quarterly inflation report. The BoE cited declining confidence, tight credit conditions and the government’s planned austerity measures as the main reasons for the reduction in its outlook. In May, the central bank forecast about 3.6% growth. The revised number is 3%.
Although the U.K. Gross Domestic Product was more than expected during the second quarter, a key central bank official indicated that the total growth for the year would most likely average out.
In a statement, BoE Governor Mervyn King said, “business and consumer sentiment have shown signs of softening, measure of financial fragility remain elevated, and there is great uncertainty about the outlook for both the United States and our most important trading partner, the euro area.”
This statement cast on pall on the British Pound and the Euro, triggering hard sell-offs in both of these markets.
The Sterling changed its daily trend to down on Tuesday when it took out its last swing bottom at 1.5819. Today this market tested a key 50% level at 1.5635. Although an intraday technical bounce took place, triggering a small short-covering rally, this level is not likely to hold. The major downside objective is an uptrending Gann angle from the 1.4229 bottom at 1.5429.
The slide in the Euro continued on Wednesday with this pair losing over 2%. A slowdown in the global economy is expected to hit the Euro Zone particularly hard especially since it is barely recovering from the sovereign debt crisis from sixty days ago.
Technically, the main trend on the daily chart turned down earlier in the week. Downside momentum is strong and selling pressure hard, but short-term indicators are indicating this market is getting close to oversold. The bigger charts indicate this market is likely to continue down until it reaches a major retracement level at 1.2605. Short-term, however, there may be a technical bounce at an uptrending Gann angle at 1.2836. This angle is being tested overnight. If profit-takers come into the market, then watch for a snapback rally to 1.3085 before the selling resumes.
Continue to look for the mass exodus out of higher risk currencies to continue, however investors should watch for quick short-covering rallies in most of the major currencies because of short-term oversold conditions. This first break in the British Pound and Euro may be only long liquidation. The chart patterns suggest there may be one more rally to test their recent highs. This move will give fresh shorts an opportunity to re-enter the market.