Currently the Australian stock market is in the midst of a correction along with markets in Europe, Asia and the U.S. How much longer this correction will last nobody can say for sure but for the Australian economy and stock market the signs are not good. Meanwhile it’s becoming clearer that the Chinese economy is struggling to maintain growth of around 7.5% and it may be that the era of stellar GDP growth in China is coming to an end.
As I have discussed before, economies move in cycles whether we like it or not. The problem the Australian economy now faces is that the nation has collectively forgotten that reality seems. Now as the mining boom fades many economists and business reporters are writing about the Australian economy being in transition which is complete nonsense.
The Australia economy is reacting to falling commodities prices, a decline in manufacturing and low interest rates amongst other things. It is not a transition or a planned adjustment, it’s an economy drifting along without direction and being bumped around by external factors.
At the moment however there is much excitable coverage of the housing boom just as there was about the commodities boom a few years ago. But as sure as night follows day this boom will fade and probably sooner than most pundits seem to expect. I am not suggesting a housing market or property market crash is imminent, but a correction is brewing.
As for the Australian stock market, well this is getting back down to the trading ranges I outlined in December 2013 in: ASX All Ordinaries Index: Charts, Analysis & Trading Ranges
Although the All Ords/ASX 200 have not fallen back to 5200 yet I expect they will, and if they fall further then perhaps some good blue-chip bargain stocks will be available. Certainly when the market is above 5400 I am more of a seller than a buyer and that will remain my share market investment strategy for remainder of this year at least.
But the market outlook can change pretty quickly and near the end of August it looked to some as if the market would make a run towards 6000. Now the short term trend has reversed as we can see in the chart below and the All Ords has fairly quickly fallen to the 5400 support level.
ASX All Ordinaries Index (XAO) 3 Month Candlestick Chart
The current correction has taken the market back to July levels but as we saw in August, the All Ords has bounced back from a correction before and revered the decline in a just matter of weeks. So will that happen again this time?
Of course I don’t know for sure (nor does anyone else), but my reading of the tea leaves leads me to think that this correction has further to go. To explain this view let me use a few charts.
First a look back on the chart of the All Ords for the last 12 months.
ASX All Ordinaries Index (XAO 1 Year Candlestick Chart
There are many ways to look at this chart. For example of you pick a low point say in December 2013 and draw a line to the high point in September 2014 then you would have a nice bullish trend. A couple of weeks ago plenty of market watches and commentators were doing just that. But as I have consistently written about, I believe that when the market is above 5400 it is over-bought and at 5600 it was a correction just waiting to happen.
So my analysis of the chart above is that the peaks in July and August are market aberrations and that investors have been simply ignoring the market risks, of which there are many.
So what may drag the market down lower from here? In a word – banks.
To illustrate my point let’s have a look at the All Ordinaries Index, BHP Billiton, Rio Tinto and the Commonwealth Bank over the last five years.
All Ords Index, BHP, RIO & CBA 5 Year Chart
I basically view the chart above as two halves. The first half up to around early 2012 was the reign of the miners and those stocks were supporting and pushing the overall ASX All Ords and ASX 200 higher. You can also see fairly clearly that BHP Billiton (BHP) and Rio Tinto (RIO) stocks peaked late in 2011 and early 2012 and the fell back. Since then they have both basically drifted sideways.
Then from mid 2012 it has been the reign of the banking stocks which have been buoyed by low interest rates and the rise in lending for home loans. As a result the big banks and other financials have helped push the All Ords/ASX 200 higher despite weakness in the mining and resources sector.
But I don’t think this trend will continue and at some point within the next 3-6 months, I expect the banks stocks to slide back and bring the overall market with them. In fact maybe this is already happening as the chart below may be indicating.
All Ords Index, BHP, RIO & CBA 2 Year Chart
However at this stage I expect the stock prices for the major mining stocks to stabilise (and mining companies cut costs) and this will hopefully provide support level of support for the All Ords. Having said that, I expect 5200 will be tested before the year is through although rumours of further economic stimulus in China may give the market a short term bounce.
This article was written by Greg Atkinson who is the Managing Director of Ohori Capital. Greg is from originally from Sydney but now works and resides in Japan. He can be followed on twitter via GregAtkinson_jp