The US Dollar index gained 0.3% last week marking the first positive week in the past three. The Euro fell just one-half of one cent to close the week at $1.293. For the year, the Euro/US Dollar value is now essentially unchanged. A report in the Wall Street Journal suggests that the US Dollar index has become a barometer on the direction of equity markets (WSJ Dollar Index Shows the Way for the Stock Market, December 7, 2012, by Stephen L. Bernard and Vincent Cignarella). According to Bernard and Cignarella, “the current 60-day correlation between the WSJ Dollar index and the Dow stock index is currently negative -0.91 where 0 means there’s no correlation at all and negative -1 means a perfect negative correlation where one rises while the other falls.” So recently when the US Dollar has strengthened (risk off), the stock market has subsequently fallen. While there is no likelihood this relationship will last or is one which I would develop a trading strategy upon, I do believe that it shows how the “risk on” and “risk off” mind-set has become a major feature in today’s markets.
The CBOE Volatility index (VIX) remains at a subdued level closing Friday at 15.87. Since the start of the year, the VIX has ranged from a high of 27.73 on June 4th to a low of 13.45 on August 17th. The VIX is an important indicator of investor nervousness and fear of increased negative volatility. To help put the VIX in perspective, the VIX reached 89.53 at the height of the 2008 market on October 24, 2008. The VIX can move sharply, however, for now it is not flashing major fear signals.
The Dorsey Wright & Associates analysis of the markets remains unchanged as it has for most of the year at this point. Data indicates that US stocks and Bonds are the two favored major asset categories followed by Foreign Currencies, International stocks, and Commodities. Middle capitalization stocks are favored, as is growth over value, and equal-weighted indexes over capitalization-weighted indexes. Equal-weighted indexes are those where each stock in the index is weighted the same, while in capitalization-weighted indexes the larger stocks have the largest weighting consistent with their size relative to the other stocks. On a relative strength basis, the top three major economic sectors are unchanged: Consumer Discretionary, Health Care, and Financials. Consumer Staples, Real Estate, and Information Technology are in positions four through six. Energy and Utilities are in the bottom two sectors. US Treasuries and International Bonds are favored in the Bond category, while US and Developed Markets are favored within the International stock category. Energy and Agriculture are the favored sectors within the Commodity category.
As a reminder about how event driven the markets have become. Overnight Sunday (December 9th), the Italian Prime Minister, Mario Monti, announced he would step down as soon as the 2013 budget was approved. The Italian stock market has fallen more than 3% on the news as of this writing. Event driven markets make investing challenging because traditional economic factors can take a back seat to headlines.
My next Market Update and Commentary will be published in two weeks. I hope everyone is wrapping up their holiday shopping and plans are in place for your family’s celebrations.