The good, the bad and the ugly | FT Alphaville

The good, the bad and the ugly

At Fulcrum, we scan the behaviour of asset markets each week to make sure that we are not missing what the markets are trying to tell us. It is surprising how often this forces us to focus on a pattern of developments which we might otherwise overlook.

Among the many things we do, we throw up ideas by segregating assets into “the good, the bad and the ugly”, by using various measures of market momentum. We also look for signs that momentum has gone too far, or that assets are in overbought/oversold territory.

I want to emphasise that the following are not forecasts for expected asset price changes. Please do not take them as such. They are intended only as food for thought.

1. Global Equities

The asset class as a whole still seems in reasonably good shape from a technical point of view, despite the setback in the last couple of weeks. Short-term momentum indicators have turned somewhat negative, but medium- and longer-term indicators are still positive. Many equity markets were technically overbought (a contrarian signal) a few weeks ago, but these signals have now disappeared. In fact, if anything, markets were looking a bit oversold at the beginning of this week.

Relative to the global market as a whole, equity assets that are categorised as being in “good” territory on momentum grounds include the energy and industrial sectors, US midcaps and the Norwegian stockmarket. “Bad” assets included the Nasdaq and the technology sector. “Ugly” assets include the Dax, many other European equity markets — and of course the Nikkei. However, because the Nikkei was so massively oversold, a short-term contrarian investor would probably like the look of it.

2. Commodities

This asset class of course registers very well on momentum indicators. At one point immediately after the earthquake in Japan, short-term momentum almost turned negative, but it never actually got there and it has since recovered.

There are no contrarian signals from the overbought models. Hence the technicals seem to favour commodities over equities — and remember that the two asset classes have been negatively correlated recently, which would argue that long positions in both assets might hedge each other better than usual.

“Good” commodities include silver and lead. “Bad” ones include wheat and sugar. And, according to these momentum scores, there are no ugly commodities!

3. Foreign Exchange

The big news here, which isn’t really news at all, is the continuing weakness of the dollar. All of the momentum indicators have been nicely in negative territory for the dollar effective index since last November, so they have correctly picked up a decent sized downward move in the currency. There are some near-term signs that the currency is oversold, but not dangerously so.

Among the “good” assets versus the dollar are the Swiss franc, the Czech koruna and the Swedish krona. The “bad” include the Chilean peso and the New Zealand dollar. And there are a few “ugly” crosses, including the Euro/Swiss, and NZD/JPY rates.

4. Global Bonds

There have been some very interesting fluctuations in bond markets recently.

Yields generally rose with the global economy and equity prices until Valentine’s Day (February 14), and have been declining since, as the markets have taken the view that higher oil prices will dampen economic activity and delay Fed tightening.

So where do we stand now?

Momentum scores are now split, with short-term signals being bond bullish, but medium- and longer-term indicators remaining bond bearish. In bonds, there is a tendency for shorter-term signals to work better than they do in other asset classes, so overall this is probably a modestly positive signal for bond prices, but it is not decisive.

5. Conclusion

Overall, then, these technical models have not yet indicated that the major moves in risk assets which have been in place since last September have yet been punctured. Commodities and equities are still emitting generally good technical signals. Bond signals are more mixed.

I should end by re-emphasising that these are not formal forecasts for asset prices, which would require additional input from fundamental economic models and policy analysis.