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Si, Oui Oui, Jawohl



The equity market continues to move higher as the level of fear mounts and the "wall of worry" is scaled. The only thing that is different over the recent couple of weeks is the reason for fear. Prior to the recent market surge, the fear surrounded "not giving back" the first gains in three years. Now that just about every equity market index is printing 52-week highs, the fear has become underperforming your benchmark. Those fears are being met with prayers for a correction, so the short players can cover at better prices and long players can have an opportunity to buy at better prices. No matter how you slice it, traders and investors alike want to buy at lower prices, which should act as a supporting factor thus limiting any pending overbought correction.

The more the equity market rallies without a pull back, the greater the fear and angst becomes. As we approach the end of the 3rd quarter and estimates are being guided higher (which is rare in the second half of any year), what could be the next driver for stocks. We are closely watching the Euro versus the Dollar.

It seems counterintuitive because so many believe higher deficits will translate into a weak currency and ultimately lead to disinterest in U.S. based financial assets. While that could very well be the case over a prolonged period of time, the action in the Euro, 10-year Note and S&P 500 (SPX) this year suggest something different. Since the above thesis became popular (as surplus turned to deficit), the various financial vehicles have done the opposite. The historic rally that brought U.S. Bonds to generational lows and the initial thrust off the bottom in stocks began with a rally in the Euro (Exhibits 1-3). In addition, periods of consolidation or weakness in the Euro has brought the same for stocks.

Exhibit 1 - Watching for a trend change in Euro could help be predictor for U.S. financial assets

Exhibit 2 - 10-year Note yields made a historic drop during the surge higher in the Euro against the Dollar

Exhibit 3 - And the surge in the SPX also corresponded with the Euro rally

Again, it is important to note this is something to watch closely versus acting on immediately. The Euro has yet to change the current trend and the equity market is overdue for some level of consolidation. As indicated above, any weakness would likely be met with short covering and opportunity buying, which should make any correction mild.

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