Content provided by Kostya Etus, CLS Investment Research Analyst
There are many names for it and lots of stories, but it appears likely that there may actually be a substantial drop in the market. The main question is when and how severe? The market’s current overbought condition can be viewed as an unstoppable locomotive that has built up too much pressure; it simply needs to blow off some steam to make sure it doesn’t explode. Many investors actually want this to happen just to get it out of the way; it will take away some market uncertainty and be removed as a factor from investment decisions. The most important thing to note is that any weakness will be taking place in a continuing cyclical bull market and improving secular environment, meaning a strengthening period is likely to follow.
Signals of Correction
- A wave of economic disappointments this year has increased evidence of a global economic slowdown and is reflected by the strong performance of risk-off defensive sectors. Until economic outlook improves, it is more likely that risk-off sectors will decline and risk-on cyclical sectors will continue to underperform.
- Here in the U.S., corporate management made a mistake by not lowering earnings expectations for the remainder of the year, creating additional earnings risk. In fact, the overall investor optimism has been excessive, especially for the second half of the year, creating pressure for a contrarian pullback. Fortunately, a cushion has developed as consumers continue to spend, the unemployment rate is dropping, and the Fed appears be continuing its accommodative monetary policy.
- What about Europe? Well, it turns out their problems don’t have much to do with a breakdown in currency or political elections, a spreading recession is what the media has missed. The silver lining here is that Europe has not been performing as well as the U.S., making it not only a great value but also meaning it potentially has a shorter distance to fall in a market drop.
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