Interactive Investor

The Monday morning (Brexit) call

27th June 2016 10:45

Lance Roberts from ii contributor

Caution advised

I want to note that despite all of the rhetoric, the "Brexit" related meltdown on Friday took the markets all the way back to where they were just one month ago. Yes, tragic for the "bulls" who bought the run-up, not so much for portfolios holding extra levels of cash.

As noted in the chart below, there are some warnings to pay attention to going into next week:

• The volume spike on Friday is very similar to volume spikes in the past which have preceded further sell-offs in the market. This is particularly the case when the spike in volume occurs when there is a negative divergence between market price action and the MACD.

• While the market is oversold on the short-term following Friday's carnage, which bodes for a short term bounce on Monday, the previous downtrend support line has been broken. That resistance suggests that any bounce seen early next week could be fairly short-lived and should be used for rebalancing risks in portfolios as discussed above.

Furthermore, volatility has picked up markedly over the last week. More importantly, as shown in the chart below, volatility is trending higher on a monthly basis which has historically spelled trouble for the markets in the short-to-intermediate term.

One interesting point is on a daily basis, the market appears to be completing a "head and shoulders" formation as shown below. While these patterns are important warnings, on a short-term basis there is a tendency to provide "false flags."

While there is a history of these short-term formations to provide misleading information, they should not be readily dismissed as there is also a history of these signals being correct. As always, it is easier to add capital to rising markets rather than spending time making up previous losses.

As I stated last week:

As shown in the top part of the chart [below], when the markets are as overbought as they are now, it has generally been at, or near, a short-term peak in the market.

The short-term outlook continues to suggest more vulnerability to selling. The failure of the markets to hold support at 2,080 now sets the market up to test support at 2,040.

Stop loss levels remain in place at 2,040 currently. A break of 2,000 will initiate a market-neutral hedging strategy to reduce overall equity exposure and related portfolio risk.

graph 4

It will be important the markets hold support next week. Risk is extremely elevated at the moment so caution remains advised.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Lance Roberts is a Chief Portfolio Strategist/Economist for Clarity Financial. He is also the host of "The Lance Roberts Show" and Chief Editor of the "Real Investment Advice" website and author of The "Real Investment Daily" blog and the "Real Investment Report". Follow Lance on Facebook, Twitter and Linked-In

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