Stock market sentiment has reached a pessimistic extreme, which has historically been favourable for stocks over the next three to six months, as we explain in more detail below. With all three of our tactical rules supportive of stocks (don't fight the Fed, don't fight the trend, beware the crowd at extremes), we have been reluctant to raise significant cash based on fears of political gridlock that we believe will prove unfounded. We expect the S&P 500 to find support in the zone between 1330 and 1370 and move higher as current fiscal cliff negotiations are successfully concluded.

David Fuller's view I am in general agreement but at the risk of sounding like a pedant, the short-term trend on Wall Street has been downwards since early October, although it established a bottom last Friday. Fed action remains highly stimulative and is more or less mirrored by most other central banks. Sentiment is generally cautious.

The most important short-term development for the US market, in my opinion, is that Obama's tax hikes for 2013 have brought forward profit taking in 4Q 2012. This will keep the Fed accommodative and a significant portion of the yearend sellers are likely to buy back in 2013.

Meanwhile, a bigger concern, albeit not an immediate one, will be the eventual bursting of the genuine bubble in US government bonds. However, do not ask me when that will occur because I do not know and perhaps no one does, at least not today. Hopefully, it will coincide with the next clear evidence that the US economy is firming. We may see similar action across a number of western government bond markets plus Japanese and Australian bonds.

I suggest we keep an eye on these total return charts found in the 'Bond Yields' section of the Library. The Merrill Lynch 10yrs+ US Treasury Total Return bond has risen for approximately 30 years and has had persistently small setbacks over the last two years. Consequently, any break in the progression of rising lows and / or bigger downside move will be an important warning.


Please note - Eoin is travelling but reaches London for The Chart Seminar on Thursday and Friday.