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A long-time line of resistance has turned to solid support for Japanese stocks.

One of the objectives of Sun Tzu’s Art of War philosophies is to transform one’s enemy’s strength into weakness -- and, thus, transform one’s own weakness into a strength. One might argue that the technical analysis version of this philosophy is “resistance, once broken, becomes support”. If we can make that reach, then the Japanese Nikkei 225 is executing the Art of War with military precision.

The recent generation in financial markets has seen 2 dominant trendlines. The first is the Down trendline stemming back to the early 1980′s in long-term U.S. Treasury Yields, which remains intact. The other was the Down trendline in the Japanese Nikkei 225 stock index, which contained the secular bear market since its blowoff top in 1990. We tracked the Nikkei trendline for decades as it served as impenetrable resistance at multiple major tops over that time.

3 years ago, the Nikkei was at long last able to break above the multi-decade resistance, as we noted at the time (Stick A Fork In The Nikkei’s 20-Year Downtrend). This was a monumental event for a number of reasons. First, it marked the end of an epic piece of charting analysis which served technicians well for decades. Secondly, it removed the obvious and formidible resistance that had held the index in check during that time, finally opening the door for substantial upside. Indeed, the Nikkei would follow through to the upside after the breakout, to the tune of about 30% over the next 7 months.

Lastly, the broken trendline also potentially transformed what was epic resistance into staunch support, i.e., a weakness into a strength. The first test of this “support theory” would come in February 2016 as the Nikkei, caught in the global equity selloff, lost all of its post-breakout gains and found itself testing the top of the broken trendline. As we posted at the time, the theory passed the test as the Nikkei bounced immediately up off of the trendline (Nikkei Passes 1st Test Of Broken Epic Trendline).

After a few months of a bounce, however, the Nikkei found itself headed south again. And by June, the index was again testing the top of the broken long-term trendline. In what appeared to be a key market juncture for Japanese equities, the question again, as we posted, was Will Epic Line Of Resistance Turn Support For Japanese Stocks?

While is was discouraging to see the trendline tested again so soon, we reminded readers that “the trendline was the dominant force upon Japanese equities for over 2 decades, so its potential role in supporting the index now should not dismissed.” Should, we continued, “the Nikkei hold the top of the broken trendline, it could well serve as a springboard to a substantial rally.”

Fast forward about 15 months and we see that the former Nikkei weakness did prove once again to be a newfound strength. The index ended up bouncing immediately off the broken trendline once again. And, as today’s Chart Of The Day shows, just closed at a 20-year high, breaking above its 2015 high.

So with the resistance-turned-support/weakness-turned-strength issue settled, the question now is -- is this move in Japanese equities for real?...like, for the long haul? Certainly this recent development is a big technical win for Japan. However, economically, fiscally and demographically, the nation definitely has its challenges. Where do we come down? In a premium post at The Lyons Share, we clearly choose a side -- and lay out the important support and resistance levels to watch.

If you’re interested in the “all-access” version of our charts and research, we invite you to check out our new site, The Lyons Share. TLS is currently running a 30th anniversary 1987 Crash Commemoration SALE, offering a discount of 22.6%, or the equivalent of the Dow’s 1-day drop 30 years ago. The SALE ends October 22 so considering the discounted cost and a potentially frothy market climate, there has never been a better time to reap the benefits of our risk-managed approach. Thanks for reading!

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After successful tests of its broken multi-decade downtrend, Japan’s Nikkei 225 has a chance to commence a new upleg.

We’ve been pointing out the thinning nature of the stock market rally of late. In fact, as recently as yesterday we noted that just one of about 150 Dow Jones industries, Toys, was hitting a new high. And while the technology sector continues to make some strides, the stock rally is going to need an infusion of new fuel if the rally is to be perpetuated. One area of potential fuel could be international markets. We have seen a resurgence in various regions around the globe, including Latin America and emerging Asia. One more established market may also have an opportunity to join that mix: Japan.

Now we have been tracking the Japanese equity market for decades. Following the bursting of its bubble in 1990, Japan’s stock market went nowhere but down for the next 2 decades. In the process, one of Japan’s main stock indices, the Nikkei 225, formed one of the most epic trendlines of the modern era. This Down trendline stretched from 1991 until late 2014 when the Nikkei finally broke out above the trendline.

That breakout would see the index follow through to the tune of another roughly 25% by the summer of 2015. From there, the Nikkei commenced a pullback that would last for the next 12 months. Along the way, the average would test -- on 2 occasions -- the top of its broken multi-decade Down trendline. We covered these tests in February and June. Both times, the index would successfully hold above the trendline.

Our contention was that, given the dual successful tests of the epic broken trendline, the Japanese equity market had the potential to re-ignite its post-2012 bull market and begin a new, durable leg of advance. Of course, potential is nothing without action and the bounce in Japan’s stock market has been less than inspiring, so far. That said, the market has hit its stride a little bit just recently. However, this recent bounce has the Nikkei 225 testing its post-2015 Down trendline (on a log scale) at the moment.

This post-2015 Down trendline could pose at least a short-term obstacle for the Nikkei and we’ll assume the line holds until it doesn’t. If the index is able to break out above the line, it would suggest that a more durable intermediate-term rally may be in the works. It could also provide an influx of new fuel to a global equity rally that appears to be running out of gas.

That all remains to be seen. But as we have stated before, given the multi-decade secular bear market in Japan, followed by the break of the bear market downtrend and 2 successful tests of the breakout level, the potential for a longer-term bull market would appear to be in place, from a technical perspective.

First things first for the Nikkei, however, and that’s to rise above its post-2015 downtrend.

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More from Dana Lyons, JLFMI and My401kPro.

The Japanese Nikkei Index is testing the top of its broken decades-long trendline; will it be as reliable as support as it was as resistance?

It’s quickly shaping up as Trendline Week in the markets. And while that may not sound as cool as Shark Week, it can be pretty exciting for those of us who dwell in the charts. We say this on account of the myriad of significant trendlines that are being tested or breached this week across global markets (by the way, expect a special edition of Trendline Wednesday on Twitter tomorrow; follow us @JLyonsFundMgmt). Today’s version features one of the most prolific trendlines in the modern era, although it has certainly flown under the radar this past week given the tremors elsewhere in the world. We are talking about the decades-long Down trendline that held Japan’s Nikkei 225 in check following its blowoff top in 1990.

The trendline extended from the mid-1990′s until it was finally broken in October 2014, as we noted in a post back then. After popping higher by another 30% following its breakout, the Nikkei has settled back down since peaking last summer. In the equity selloff that gripped the globe early in the year, the Nikkei fell all the way down to test the top-side of the broken 20-year trendline. It successfully held back then, bouncing some 20% into April. Presently, the index finds itself again testing the top of the broken trendline.

So will the trendline hold again? We shall find out. On the one hand, it is a bit discouraging to see the trendline already being tested again given the considerable rally throughout much of the global equity world since February (minus the past few days, of course). If the recent Brexit-induced selling is the start of something more ominous and durable, the fact that the Nikkei is already testing this key potential support is not an positive development.

On the other hand, the trendline was the dominant force upon Japanese equities for over 2 decades, so its potential role in supporting the index now should not dismissed. We know many market observers will question whether Japan’s stock market can mount a longer-term rally in the face of potential headwinds elsewhere in the world. Specifically, should the secular bear markets re-engage in Europe and the U.S., would it still be possible for Japan’s market to rally?

The answer is, yes, anything is possible in markets, particularly when there is so much skepticism towards the possibility of a particular event. So it appears to be with respect to Japanese equities. Whether due to the county’s demographics, economic state or whatever, there seems to be no shortage of rationales for why it will be impossible for the Nikkei to rally. Don’t get us wrong, we are not making that prediction. We are simply saying it is possible.

Recall that the market languished badly during the 1990′s, even as most global equity markets were soaring. Furthermore, the Nikkei continued to make new lows into the 2008-2009 financial crisis, making it roughly 2 full decades of lower highs and lows. That is a brutal secular bear market that accomplished what secular bears are supposed to, i.e., remove the excessive conditions that existed at the end of the preceding secular bull market (e.g., P/E ratios dropped from around 90 in 1990 to the low teens).

Thus, Japan’s equity market is arguably in a position to support a durable, or secular, bull market. Whether it transpires or not we don’t know. What we do know is that investors  -- bulls and bears -- presently have a line in the sand, in the former trendline, that they can use to direct their investment posture. Should the Nikkei hold the top of the broken trendline, it could well serve as a springboard to a substantial rally. Should it break back below the line, the Nikkei could find itself back in the subterranean doldrums where it spent the better part of the past 2 decades.

We should get resolution on that shortly.

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More from Dana Lyons, JLFMI and My401kPro.

Japan has struggled over the last couple of years to create sustained growth and inflation despite extraordinary monetary policy measures. The goal has been to achieve 2% inflation with growth—a goal that has eluded Japan ever since the monetary policy program began (called “Abenomics”). But, Japan saw signs of light in Q1, as increases in government spending and consumer spending bumped GDP by a solid 1.7%. The growth rate exceeded all forecasts and marked Japan’s fastest growth rate in a year. We wouldn’t go betting on Japan just yet, though. One data point doesn’t make this a trend, and with an aging population and debt-to-GDP at close to 300%, we think there are major structural battles ahead.

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Japanese government bond yields have slipped into negative territory close on the heels of the Bank of Japan’s (BOJ) imposition of negative interest rate on banks’ excess reserves. Japan became the first G7 nation to issue benchmark 10-year bonds with negative yields, essentially meaning the government is getting paid to borrow money. Outrageous! The BOJ recently started charging lenders to holding some of their deposits (hoping to incent them to lend) instead of paying them interest. That move eventually pushed government bond yields below zero, first in shorter maturities and then for longer-term debt (10 year). The yield was -0.015% at point of sale. Even though Japan is the most heavily indebted amongst developed countries – with debt nearly two times annual GDP – it’s also considered safe by global investors and is highly rated, ‘on par’ so to speak with U.S. or European debt.

Global Woes and Domestic Difficulties Spook Investors into Bond Buying

The BOJ’s stance in penalizing excess reserves was likely intended to incentivize banks to lend, generating economic activity and driving up demand (which could help drive inflation, theoretically). However, in reality, that money has flocked to risk-free assets like Japanese government bonds as investors seem far too spooked by the unwinding of inflation and volatility in the global marketplace. With weakening oil and massive sell-offs of Asian stocks, investors are now viewing government bonds as providers of portfolio stability.

You could argue all day that government bonds offer safety and guarantee your principle will be returned at some point, but it still doesn’t sink-in that investors would be willing to pay to do this for 10 years. Where there is plausibility in the strategy, however, is the hope that investors can generate some capital gains should the bonds appreciate over time – providing a hedge against the (very low, in our view) possibility of long-term bearish equity markets. Many expect that further bond purchases by the BOJ will drive up bond prices, translating into capital appreciation for bondholders. 

Most of these capital transactions apply to huge institutions, like banks and pension funds looking for slices of safety in a huge pie of assets. That makes sense. But, what about retail investors looking for sound, long-term investments? Buying into over-inflated bond markets should not be a logical choice. Instead, under-priced equities with strong balance sheets and sanguine prospects should be seen as the more optimal long-term choice. 

Bottom Line for Investors

The frenzy over Japanese bonds and yen appreciation should not worry U.S. markets. In fact, the recent decline of the U.S. dollar against a basket of currencies, particularly the yen, might turn out to be a much-needed correction for an already strong greenback – it builds hope of the U.S. regaining competitiveness in the global goods & services markets. Additionally, even as U.S. equities look beaten down against rising Japan bond prices, investors seeking solid returns over time should continue to look for opportunistic bargain-buying of stocks based on fundamentals.

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  Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

15 months ago, we “stuck a fork” in the Japanese Nikkei 225′s legendary 20-year down trendline; this past week, the index underwent (and passed) its first test of the broken trendline.

If we had to pick the most dominant chart patterns of the modern markets era, 2 of the candidates would certainly be the lengthy down-sloping trendlines in the 30-Year U.S. Treasury Yield and Japan’s Nikkei 225. The latter began its formation in the early 1990′s following a bubbly blowoff that ended the Nikkei’s lengthy secular bull market. After the initial bubble “pop”, the index would travel in a well-defined downtrend for 23 years, beginning in 1991, until it finally broke above the trendline in November of 2014. We marked that noteworthy event with a post on November 3, 2014 titled “Stick a fork in the Nikkei’s 20-year downtrend”.

In the 10 months following the trendline break, the Nikkei would go on to rally an impressive 30%, give or take, before getting caught up in the global equity selloff as it accelerated last August. And as most often occurs at some point to trendlines after they are broken, this one got tested for the first time over the past few days. By tested, we mean that prices came back down to “tag” the top side of the broken trendline. Thus far, the Nikkei 225 has passed that test with flying colors, jumping over 11% in just 2 days following the trendline tag. 

A couple of stray thoughts regarding this development:

We should not be surprised that a trendline of such epic proportions would be successful at holding prices up. Look for the trendline to continue to serve as stout support in future tests, albeit while sloping down away from prices. Should the trendline be breached in a meaningful way, and in short order, it will likely be associated with a further deterioration in the global equity landscape. Such a breach would be particularly unwelcome news for Japanese investors.

Should the trendline hold up, especially in the face of further weakening of other developed markets around the world, e.g., the U.S. and Europe, an emerging secular bull market should not be ruled out in Japan. In a increasingly connected, and correlated, financial world, it may be difficult to imagine “decoupling” taking place to any great extent. However, remember that Japanese stocks topped out 26 years ago on a secular basis. One may have their doubts about the prospects of the Japanese market based on demographic and fundamental reasons but, cycle-wise, the market has satisfied any reasonable standards of corrective action. Therefore, we’ll keep an open mind about the possibility of an emerging secular bull market in Japan, even as most other global markets are headed the other way (in our view).

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More from Dana Lyons, JLFMI and My401kPro.

Growth, contraction, inflation, deflation, lots of debt and stimulus, and an alarmingly aging population. I’m not a huge fan of Japan for its inconsistencies and my concern is over future growth, given an aging population and a younger generation that is marrying less and staying home more. I stay wary, and it makes me warier when Japan's economy contracts at an annualized -1.2% in April-June vs. an initial estimate of -1.6%. 

At the same time, however, Japan’s Nikkei 225 stock market index rose by 7.7% in one day last week, the most since October 2008. It’s difficult to add it all up. Apparently, the rally was propelled by the prospect of looser fiscal policy in China and a promise from Shinzo Abe, the prime minister, to cut corporate taxes next – he has pledged to cut rates by 3.3% from 35% (too high) next year and wants to eventually lower tax into the twenties. Tax cuts on corporations are great, but Japan just feels like they’re in a cycle of desperation for growth and inflation that never seems to stick.

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Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

Zacks Investment Management, Inc. is a wholly-owned subsidiary of Zacks Investment Research. Zacks Investment Management is an independent Registered Investment Advisory firm and acts an investment manager for individuals and institutions. Zacks Investment Research is a provider of earnings data and other financial data to institutions and to individuals.

Today's ChOTD looks at the Land of the Rising Sun, a.k.a., the Land of the Falling Trendline. On April 1, we noted the Nikkei 225 appeared to be following its 2007 precedent whereby it suffered a failed attempted breakout of its post-1990 down trendline. Indeed, the Nikkei has failed to trade back above the trendline and is now forming a potential head-and-shoulder formation at the trendline.

While we rarely mention head-and-shoulders formations due to their subjectivity, complexity and inconsistency (we'd rather simply take note of lower highs), this development in the Nikkei is too potentially consequential to overlook. The fact that both (potential) shoulders on the chart (weekly) are occurring precisely on the trendline both raise the significance of the formation and validate the importance of the trendline.