The Australia 200 index has broken the line in the sand. The index is now outside the sidways trading range that guided active investors over the previous financial year. On the face of it, this is pointing to higher levels for the share market.
The chart shows this is not the first time the index cracked the 5400 level this year. The July break out failed in the late August sell off. However, technical traders will treat this as a break to higher levels until proven otherwise. While the index holds above 5400 risks are on the upside.
The timing of the move is supportive of a “real” break out this time. The ides of October pass this week. Statistically, the period from October to April is a time of outperformance for the market. That doesn’t guarantee a rally in any given year, but does make it more likely. Perhaps the most important near term event is the US election. A scenario that sees Hilary Clinton elected and US markets rising in response would support the local bourse as well.
This co-incidence of technical and fundamental factors could mean a Santa Claus rally is on the way.
The concern for many investors is the Federal Reserve, and the potential lift in US interest rates. Stronger recent activity data and consistent jobs growth means the market is now saying a December rate rise is more likely than not. However, this does not necessarily mean a sell off in the share market.
The Fed has made it clear that the normalisation of interest rates will be slow and gradual. The major impact of higher interest rates is in valuation. As interest rates go up the value of future earnings is reduced in analysts models. There is also potential for competition for investment funds.
Given a slow and gradual path for rates, neither of these factors is particularly significant. Remembering that the higher interest rates have no impact on liquidity, and that even the most hawkish of central bankers are not contemplating withdrawal of accommodation, the “easy money” that supports all asset prices will be around for a considerable time to come. The yield curve is flatter than normal, meaning long rates are lower relative to short term rates. At current lower levels, a rise of 1% will have little valuation impact.
Other investors will point to risks. Threats to European growth. Concerns about rising commodity prices. Worries about emerging markets. While these are all real and worth considering, the existence of risk is not in itself a bar to buying. Risks are always with us, yet the bias of the share market over the long term is upward.
My year end call remains 5900 for the Australia 200 index. For active investors subscribing to this view, the imperative is clear. Investors could add to current holdings. The commodity cycle has turned, and heavy engineering stocks are under takeover offer. Investors who are underweight miners, energy stocks, industrials and mining services still have value opportunities – but they won’t last forever.