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Bank Index Leads S&P 500 Index

bank-index-comp-to-sp-500-index

One of the things I always like to watch to tell me where the stock market is going is the Bank Index. The chart above compares the bank index to the S&P 500 index. Since 1994 when data became available, the Bank Index (the red line) has always led the S&P500 index (the green line) going up first and going down first.

As you can see from the chart above, the bank index is going down now. The question is, will it again show its predictive capabilities OR has QE2 altered the normal relationships between the asset classes and economic sectors?

As the Fed pumps more and more money into the system, it is finding its way into the investment world. And, given the low (and surprising to the Fed, rising) yields on bonds a lot of that money is going into large cap stocks. However, investors seem to be buying specific areas of large cap stocks and not simply the broad market – if they were, banks and the S&P would be rising in tandem, but they are not. There is an explanation for this – first the mortgage foreclosure scandal announced a few weeks ago and now the insider trading scandal that is just breaking into the news.

I have no answer for this, but in spite of the engineered impact of QE2, I think the historic relationship between the two indices is substantial enough that it should at least give investors caution.

We sold into the rally in the broad market and are sitting on cash in the money market fund waiting for a sign on which way the market is headed. There are lots of signs that show the market should be headed down (a rising dollar and a falling bank index are two big ones).

usd1

The chart above of the dollar shows that we have been trading in line with the Fibonacci retracement levels and have moved solidly through several of the moving averages. My best assessment is that we are headed for a test of 80 on the index, which represents a fairly serious overhead resistance level represented by the 89 day moving average and the 61.8% Fibonacci retracement level.

If we break through that noise, then there will be significant pressure on the S&P 500 index to retreat – and we may see that the predictive properties of the bank index remain in tact.

Mark