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Back at the races

Nikkei jumps

S&P's real deal

Could this be a mere 'dead-cat bounce', as the top-callers are generally saying? After such a strong sell-off, which left many markets oversold, it is only natural that they claw back at least some lost ground. My view is that the correction is most likely now over and done with. The move higher looks sharp and convincing. Were it a phoney, it’d likely be shallower, like the S&P’s mid-June move last year.

Dead-cat bounce last year

Of course, nothing is guaranteed. If the S&P and at least one of the Dow Industrials or Dow Transports now goes on to close beneath the recent lows, then the primary trend on Wall Street would switch from upwards to downwards, according to Dow Theory (www.thedowtheory.com). That does not mean we would have a bear market, however, although it would raise the odds of one.

The current mood adds to my case for our being in the early stages of a new leg upwards in equities. Thanks to the sell-off, retail investors in the US had become noticeably more bearish as of last week. The AAII survey had bears outnumbering bulls by a gap of almost ten points. Over here, spread-betting positioning data also shows traders to be somewhat cool on the FTSE 100 right now. Such scepticism makes an ideal backdrop for ongoing gains.

FTSE's saw-tooth climb

Rather than fixating on the timing of the next downtrend, I think the more relevant question is what sort of uptrend we are going to see. In the case of the FTSE 100, it has been an exasperating, saw-toothed climb since last June. While I do reckon it will reach new nominal all-time highs above 7000, my worry is that it continues to make headway in this erratic fashion. For that reason, I am still more drawn to the FTSE 250.

FTSE 250 recovery

The mid-cap index’s ascent has been much steeper than the large-cap index’s since last summer. The rallies have been sharper and the retreats gentler. The latest move upwards - which began right at its 100-day moving average, just like the previous two - has followed this pattern too. I think the fundamentals - which I discussed in my recent report (http://bit.ly/LU5byd) - are in line with the technical case here.

Mid-caps at past tops

It is true that the FTSE 250 looks overbought on the monthly timeframe. It currently sports a relative strength index on this chart of around 75 per cent. My main observation would be that it has got much more overbought at previous major highs, such as in 2007 (85 per cent), in 1998 (83 per cent) and in 1987 (87 per cent). A similar case can be told around valuation: the mid-cap index is somewhat dear but not yet eye-wateringly so. How much higher might it go? I notice a cluster of swing-projections exist around 17880. That’ll do me as a target for now.