Poor econ news ignites stimulus expectations

by Michael Tarsala

Bad is good, good is bad.

That’s how markets are reading the latest headlines out of the U.S. and Europe with expectations that regulators will have no choice but to prop up sagging economies following a string of poor economic reports.

U.S. GDP growth — the broadest economic measure — grew at only 1.5% in the second quarter, down from 2% in Q1 and 4.1% in Q4.

Meanwhile, consumer spending rose 1.5% in Q2, down from 2.4% in the first, with fewer big-ticket purchases.

Europe is in far worse shape, especially Spain. The very latest IMF report suggests Spain is in an “unprecedented” double dip recession. It now says that country’s economy is on pace to contract 1.2% next year, more than its previous estimate of a 0.6% contraction.

Yet the bad news is only boosting speculation that lower rates and more economic stimulus is the only logical policy response on both sides of the pond.

That’s playing out to the upside in equities.

It’s encouraging that a series of higher highs and higher lows since early June continues.

What is more intresting in the near-term is that markets are nowhere near overbought despite two days of strong rallies.

Source: Stockcharts.com 

The chart above is the McClellan Oscillator, a widely used breadth measure that also works as a signal for overbought and oversold market conditions. Extreme negative readings suggest a stock slide is overdone (like in the third week of May) and very positive ones (like in early June) point to a rally that could soon reverse.

With negative McClellan readings still, U.S. stocks are arguably closer to oversold than overbought right now.