Is the Australian stock market stuffed?

Is the Australian stock market stuffed
Australian Stock Market
Australian Stock Market

Is the Australian stock market stuffed? A sharp decline over the last month has investors worried. The ASX200 index, which represents the top 200 companies by market capitalization, and is a fair evaluation of the broader stock market performance, has fallen from a high of 5,673 on Wednesday 3rd September, to a closing value of 5,334 on the 1st of October. That’s a 339 point drop or nearly 6% in less than a month. So is the Australian stock market poised for a major correction, or is this just a mild hiccup in the long-term road to prosperity?

This recent decline has even the hardest of professionals pondering ‘what next?’ We haven’t experienced a retracement of this magnitude since Oct/Dec 2013 where the ASX200 declined a little over 7%. And the prior largest correction was 11% in May/June2013.

For the better part of this year, the ASX has slowly wavered upwards in a tight range. Year to date, as at the 1st of October, the ASX200 has actually lost 25 points or less than half a percent. This type of activity is not inspiring for most investors, but large downward movements are not the action most investors are looking for. Even if it means you can accumulate stocks at discounted prices.

Doom and Gloomers

Doom and Gloomers can always cite plenty of reasons why a market collapse is just around the corner. End of the Commodity boom, slowing property market, rising Unemployment, negative Balance of Trade figures. And by all accounts, these affects could change the economic environment and impact investor confidence.

Analysis of the ASX200 chart from a Technical Analysis perspective can also provide us some insight. The primary trend of 2014 has been broken as a new long-term low has formed. The ASX200 has not traded this low since early February 2014. So investors are certainly spooked (most likely from the above reasons).

But by taking a step back and looking at the long-term picture, we have experienced similar market movements several times since the end of the Global Financial Crisis (GFC) of 2007/08. The largest, as previously mentioned, was 11% in May/June 2013. Within a month of this correction reaching its floor, the markets had turned around. It took another 2-months to reach the previous high, and from there on in a new uptrend had formed.

But do I buy stocks now?

The Australian economy is on a solid footing. Annual GDP growth rate is 3.1% and slowly improving from lows of 2.3% in 2013. The International Monetary Fund (IMF), however, had downgraded their economic outlook for Australia from 2.8% to 2.6% in 2014, stating “Australia’s economy is likely to grow below trend as the investment phase of the mining boom passes its peak and begins to decline.” Thanks IMF … nice way to provoke fear amongst investors!

Selling sentiment could add another 2 to 5% decline in the current movement, which could take the ASX200 to 5,221 to 5,050. This also coincides with the lows established at the end of 2013/early 2014. And what a bargain stocks would be then.

Fact remains that the companies you thought were a good buy a month ago, are an even better buy now as nothing economically has changed since the current 6% retracement. It’s not severe enough (yet) to denote a Correction (>10%) or a Crash (>10% in a short period of time). But the sentiment towards investing is showing uncertainty. And that is a real reason for concern.

We first need evidence to show that selling sentiment is easing, and that buyer confidence is starting to return. For this, we need to identify a Bullish reversal on the ASX200 index and a signal from a momentum indicator such as the Stochastic Oscillator or RSI (Relative Strength Index). Couple these with a change in trend, and bobs your uncle, it might be time to buy!

International influence will be positive

One of our traders made a statement this morning that has resonated with me throughout the day. “A US stock market crash won’t be triggered by fighting in the Ukraine, Islamist activity in the Middle East, or even falling commodity prices on a global level.”

Think about it. Major stock market crashes in the US have been associated with Financial stresses, or overvalued markets caused by Boom phenomenon’s. The GFC, Black Monday 1987 and the Great Depression in 1929 being the major events that come to mind.

Currently, the US economy is slowly grinding away at a slow growth rate. Unemployment is slowly improving, as is GDP growth rate and the property market. The US stock market has mildly retraced during the same 6% decline we have experienced in the Australian stock market, by a mere 3.6%. No fear here.

So unless the US stock market plunges, our approach is to continue Buying the dips. That’s not to say we are just buying willy nilly. We have an approach to choosing stocks for our managed portfolio’s, which is based on Risk management first and foremost.

The future hinges on the present

Right now, the stock market is at a pivot point. Sentiment could send the ASX200 down just a little further, but investors are going to find value in the current stock prices pretty soon. That balance between supply and demand will start to shift and a recovery will eventually be inevitable.

In a month from now, however, I could be joining the Doom and Gloomers and writing about how stuffed our stock market truly is! But based on the data currently at hand, there is more evidence for a continuation of the long-term trend then there is for hitting the panic button. So for now, Buy the dips.

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