Previous posts suggested switching from a neutral to defensive stance on equities in response to a fall in a global leading indicator derived from the OECD’s country leading indices. The thinking was that such a decline would confirm the monetary forecast of a slowdown in global growth from the spring, implying increased headwinds for risk assets.

The signal was duly delivered last week – see here – and has been followed by a 4.3% decline in global equities, as measured by the MSCI World index in US dollars. Stocks, however, had already fallen by 6.1% from a 19 March peak, probably reflecting a reescalaton of the Eurozone crisis. Euro woes, in other words, may have advanced and exaggerated the expected risk sell-off.

This, needless to say, complicates investment decision-making. Current equity prices may already discount likely economic weakness – global real money is still expanding, suggesting a slowdown rather than anything worse. A full meltdown of the euro would warrant further falls but the probability of such a scenario is unknowable, depending on the psychology of Spanish and Italian bank depositors as much as, or more than, any decisions by political leaders.

Stocks look short-term oversold based on the put / call ratio and other indicators, while further monetary easing is in train: Chinese repo rates, for example, this week fell to their lowest for a year – see first and second charts. G7 12-month real narrow money growth has yet to cross beneath industrial output expansion, a development that usually precedes major bear phases. There may be a better opportunity to undertake a further defensive shift.

Footnote: An interesting curiosity is that fluctuations in US stocks so far this year resemble those 25 years ago in 1987. A spring sell-off that year bottomed on 21 May and was followed by summer strength before much greater weakness in the autumn – third chart.