Europe & US - Sharp Divergence! What’s Next?

There's a clear divergence that's emerged across global equity markets. If you look at Europe, for example, last week, equity markets sold off pretty hard, heavily impacted as they were by the political situation in Europe.

18 June 2024

Below is a transcript from Monday's Morning Market Hit video above.

Welcome to Shortview Trading. My name is Chris Watling. I'm the CEO and Chief Market Strategist of Longview Economics and Shortview Trading. This is your morning market hit for Monday, 17th of June. It's around 9:00 a.m. London time. If you want to think about trading equity index futures, you want to trade S&P 500 futures or NASDAQ 100 futures, or FTSE or DAX, and you want to go either long or short on that one to two-week swing time frame, what factors do you need to think about? What do you need to consider as you go about making your decision whether to go long or short those equity index futures?

The first thing you need to think about is how markets are behaving. How has the price action been recently across global financial markets? There's a clear divergence that's emerged across global equity markets. If you look at Europe, for example, last week, equity markets sold off pretty hard, heavily impacted as they were by the political situation in Europe. On the back of those European elections 10 days ago, President Macron in France called a snap French election, and that's raised a whole load of uncertainty in European equity markets. You can see that in the way the bond spreads have been trading. If you look at government bond spreads of French, Belgian, and Italian government bonds, for example, over German, as you can see in this chart in front of you now, the spreads have been widening over the course of the last week. That is a pricing in of uncertainty, that's a rising risk premium, and that translates straight through into the European equity markets, where we saw European equity markets really struggled last week, off quite sharply. As you can see in this chart in front of you now, this is a chart of weekly European performance. Italy and France were really down quite significantly on the week, indeed French equities off over 6%, Italian equity markets not far behind that. So the risk premiums that were rising in Europe caused some significant downside in their equity markets last week.

In contrast, in the States, we saw new record highs. If you look at the S&P 500, it hit a new record high midweek. If you look at the NASDAQ, a new record high towards the end of the week. What's been driving that in the States is the very strong performance of the tech and long-duration growth stock area of the market. Indeed, if you look at this chart of the S&P 500 in front of you now, we split the S&P 500 into three key areas: cyclicals, defensives, and long-duration growth. Since that sell-off in April, when we hit the low on April 19th, there's been massive outperformance, as you can see, in the long-duration growth area of the market. Indeed, that continued last week, in particular with the mega-cap stocks doing remarkably well: Nvidia up around 9% on the week, Apple up around 8%, and then the likes of Broadcom, a competitor to Nvidia, up 23% on the week on the back of its earnings mid-week. But that advance has been narrow, as illustrated by the chart we just put up, but also by the fact that seven of the 11 top S&P 500 sectors last week closed down. They closed the week down; it was really only IT that was meaningfully up, over 6% on the week.

We now have a situation where US markets are overbought and European markets are oversold. This is a pretty unusual divergence in global equity markets. How does it resolve itself? How does it play out? There are a couple of clues in the charts. Firstly, if you look at Nvidia on our overextended indicator, it's clearly overextended once again at plus two standard deviations. Where you see the red boxes marked on this chart is where Nvidia has been overextended to that extent in recent months. You can see, following all periods of that degree of overextension, the share price of Nvidia will either track sideways or sell off over the coming weeks. Nvidia looks a bit vulnerable in the near term. It's had a massive move higher in recent weeks, and it is overcooked, therefore it's not surprising it's due a period of consolidation or indeed giving back some of those gains.

Then if you look at the second key chart, where we look at the cyclical area of the market relative to the long-duration growth on a medium-term technical scoring system, which is overbought relative to the other, not surprisingly, cyclicals are shown on this chart as deeply oversold relative to long-duration growth. That provides really good insights into the fact that we may well have some pretty serious sector rotation coming soon in the US market. To see how to take advantage of all this dichotomy in markets and how to trade this equity market going forward on a one to two-week basis, please see our latest daily risk appetite gauge publication. If you're a subscriber, it would have been in your inbox around 8:30-9:00 a.m. London time. If you're interested in a trial, simply click on the link below, and we'd love to send you a trial of this product over the course of the next few weeks.

So what are we watching over the course of this week? Well, there's a number of key themes. There's a whole bunch of central bank meetings coming on the back of the Fed last week. This week, we've got the Bank of England, the PBOC, and the RBA. Secondly, there's a housing theme in terms of the macro data out of the States, with housing starts and permits, NAHB home builders index, and existing home sales. And then finally, we've got other bits and pieces of data of importance, in particular the flash PMIs on Friday, where we get a first take of economic activity this month in June across much of the globe. Added to which, we've also got the Conference Board Leading Economic Indicators out of the States on Friday as well.

So that's it from us. That's your morning market hit for Monday, 17th of June. Thank you for listening. Please do subscribe to these videos on YouTube, like and share on social media, or follow us on Facebook, Twitter, and LinkedIn. Thank you for listening. Stay safe and trade well.

FIG 1: Key European equity markets – weekly performance (last week, %)

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