World risk markets have held their ground since the weekend but failed to build on Friday’s strong moves.
This suggests that the initial impetus for Friday’s rally had a lot to do with short covering by traders positioned for a failure of the Euro Leader’s Summit. Spanish 10 year bond yields which are a benchmark risk markets indicator at present are an example. Yields fell from 6.94% to 6.33% on Friday but were basically steady last night closing at around 6.37%. This takes us below the "red alert" levels of 7% but is still a worryingly expensive rate if sustained over the medium term.
The Australian share market is likely to reflect this tone with steady trading today.
Trading may be fairly subdued over the next couple of days with the RBA meeting unlikely to have much impact on investor sentiment and the US markets heading into Wednesday’s July 4 holiday.
Initial technical resistance in the Australia 200 CFD is between the mid June peak at 4171 and the 200 day moving average at 4203.
Not surprisingly, manufacturing indices released yesterday around the world reflect soft conditions with most major indices coming in between 45 and 51. However, markets have already positioned for deteriorating conditions in world economies throughout May and June as the European crisis weighed on consumer and business confidence.
From here, market direction from here is likely to depend on the extent to which confidence and economic activity levels are able to settle down and recover at least moderate momentum over the next couple of months.
Investors will be focussed on the possibility of an ECB rate cut on Thursday. Following on from the Leader’s summit this may be another step in lifting short term confidence from recent “emergency settings” and providing a platform for some improvement in economic activity levels over coming months.
Provided investors see at least a reasonable chance that the broad principles announced by the Leader’s summit will be enacted over coming months, it is likely that the rally that started on Friday will push beyond the initial short covering phase with new buyers extending it.
This would push the Australia 200 beyond immediate resistance levels around 4200. In technical terms, this would see a more significant correction of the decline from the early May peak of 4457. A 61.8% correction would have a target of 4275 while 78.6% would get us as far as 4355.