DAX China growth concerns could revive and haunt stocks

It has been a very quiet first day of the week with the economic calendar being extremely light and US markets closed in observance of the Labor Day. That being said, we did have some European data released in early morning trade which saw the latest German industrial production figure and the Eurozone investor confidence survey by Sentix both disappoint expectations. On the positive side of things, the European stock markets have managed to close higher, despite the fact China’s benchmark Shanghai Composite index relinquished earlier gains overnight to close some 2.5% lower in its first trading day following the public holidays at the end of last week.  The latest drop means the index remains in deep bear territory, now down some 40% since hitting a record high just a few months ago.

While today’s firmer close in Europe may be a relief, it should be noted that trading volumes have been understandably lower and the gains were in part driven by individual company news. The UK’s FTSE 100 for example was boosted by a 7% increase in shares of Glencore. The mining and commodities trading firm announced a plan to cut its debt by $20 billion by the end of next year. This will be financed in part by the issuance of new shares and also cost cutting measures including plans to shut down loss-making mines. The news boosted the price of copper and lifted other mining stocks including Antofagasta, which rallied 7.5%.

In fact, concerns about an economic slowdown in China could come back to haunt investors by as early as tomorrow. That’s because China is set to release its latest trade figures in the early hours of Tuesday, which may show another set of disappointing figures. Indeed, it was the weak trade figures for the month of July that had prompted the People’s Bank of China to sharply devalue the yuan a few weeks ago, which helped to trigger a “risk off” response from traders around the globe. Thus, if the latest numbers disappoint yet again then stocks could lose further ground. Conversely, if the numbers come out surprisingly strong then one should expect to see a positive (initial) reaction.

As well as China, investors will be closely monitoring the Federal Reserve’s much-anticipated policy meeting next week at which the US central bank may increase interest rates.

Due to on-going uncertainty over China and the murky short term outlook for US interest rates, sentiment is likely to remain cautious for now. Worryingly for the bulls, the major stock averages are also showing signs of technical breakdown and the German DAX index, which has many constituents with direct exposure to China (e.g. car manufacturers such BMW), could be the next domino to fall.

Although for the time being, the long-term bullish trend line, around 9320, has been defended, the German index is not out of the woods just yet. While the momentum indicator MACD on the daily is suggesting that the bearish influence is weakening, this may only be true in the very short-term outlook. The index last week failed to break above the key resistance around 10400 and for as long as it remains below here then there is a risk that another sharp sell-off could be underway – the trigger could be a decisive break below long-term support at 10,000, a level which held firm again today. A break below here could give rise to further follow-up technical selling.

But regardless of what the index does in the immediate term, some of the longer-term technical indicators have turned bearish. The 50-day moving average, for example, has now crossed below the 200 to create a so-called “death cross.” When the moving averages are in this particular order, some momentum traders would be looking to sell the rallies rather than buy the dips. What’s more, a clear bearish trend line has now been established. So, it could be that the top has already been formed.  But at this stage of the sell-off, and with the long-term bullish trend line remaining intact, there is always the possibility for a sharp rebound. So, watch your technical levels closely and trade what you see, not what you want to see.  And don’t forget your risk and money management strategies.