Are We Heading Towards a Correction?

There is one haunting issue that I keep asking myself… are we heading for another major correction in the markets? To me that would be 20-30% from the recent highs. While I don’t consider myself a prophet or prognosticator of the future, the question keeps rolling around in my head. Why? For the simple fact that the fundamental data continues to move south (decline). The challenge is knowing when or what will be the catalyst for the correction. These thoughts and others keep grounded and focused on one day at a time currently.

What has prompted this thinking and tracking? The fact that Washington has failed to implement any type of policy to deal with the aftermath of the 2008 financial correction. We have not put together policies that will work to create jobs over the long term being the primary concern. We have been focus on giving a hand out instead of providing a hand up. Giveaways don’t build sustainable growth that creates lasting jobs and a stable economy.

What do we need to watch for? The progress or lack thereof in corporate earnings growth. Third quarter earnings were the worst relative to growth in the last three years. The progression of slower earnings is forecast to continue in 2013. Even if by some grand stretch of the imagination Congress and the White House came up with a positive solution to the ‘fiscal cliff’ issue, it would take at least two years to work through the system in a positive format that would impact earnings growth. That would mean a slow down initially before progress was made on the earnings and revenue front. That would lend itself to a correction in the broad market indexes. Turning the economic trend at this point is akin to turning the Titanic after it saw the icebergs. It sounds like a good idea, but the execution would take time at best.

If we did experience another correction what would that do to the investor psyche? Think of the number of investors who didn’t return to stocks following the 2000-2002 correction. Then even less returned following the 2008 correction. If we have another one this soon on their heels it would not be likely that all investors would want to return to stocks. In other words, the problem would feed on itself. This is already a problem and another major correction would only add to the fear level investors experience of getting back into stocks.

If you think that the previous statement relative to investor psyche keeping investors out of the market is far fetched or exaggerating, look at the redemption this year from equity mutual funds being placed in bond mutual funds. The fear factor has outweighed the greed of gaining 12% or more this year in stocks. Take a minute and Google the 2011 fixed annuity sales. The number is north of $85 billion. That is just fixed/guaranteed annuities. What about CD’s, Treasury bonds, Muni bonds, etc. The outflow from stocks to fixed securities with guarantees has been staggering over the last three years. Investors are leaving the markets for safer ground and with the current outlook being cloudy at best, money continues to flow towards safety.

Enough on my nagging thoughts, what I do want to look at today is whats working now. Global markets continue to push through resistance as they reverse to up trends. A look at the chart of EFA, iShares EAFE Index ETF shows the bounce off support at the 200 day moving average near $52 and has returned to the top end of the trading range near $55.50. Now comes the big test to see if the index can move through resistance and resume the uptrend off the June lows. The leadership has come from Europe of all places. IEV, iShares Europe 350 Index ETF looks similar to the chart of EFA with the bounce off support near the 200 day moving average and now trading at resistance at $38.35. Belgium (EWK), Netherlands (EWN), France (EWQ), Spain (EWP) and Italy (EWI) have all moved towards resistance on solid volume. The outlook is for more upside as the recovery in Europe continues to progress according to analyst. We continue to watch for the opportunities as they unfold in these areas short term.

Emerging Markets (EEM) likewise have made a move off the support near $40 and moved back to the top end of the trading range at $42.30. If the momentum continues and follows through on the upside this would present opportunities to add positions to our portfolios as well.

China has been in the headlines as a value opportunity? The selling in GXC, SPDR China ETF bounced off the 200 day moving average and hit resistance at the $69.60 recently. This is the first level to get through short term and then $70.80. While some believe there is a value play in China, it is a tough call when you factor in the government ownership in companies and understanding that influence on growth is key to investing directly in the country. Due to the influence of the political structure within the companies determining value is a moving target. What one analyst may see as a value play, others may deem too risky, thus introducing volatility into the equation. From my view this leaves China as a trading opportunity more than a hold longer term. The current consolidation pattern set up on GXC or FXI both are worth watching and tracking near term for a continued move higher.

Despite the doom-and-gloom currently being discussed, there are some bright spots in the markets worthy of our attention. This is has become a traders market with short term cycles in play. The risk looking forward is economic growth, and eventually we will have to pay the price for the current policies in place. Worrying about what might happen will keep you from taking advantage of the short term opportunities. That is why we have to stay focused on what is happening now and let the future take care of itself. That keeps me grounded in taking what the market gives and keeping my focus on one day at a time.