GLOBAL DECOUPLING IS A MYTH -- THAT'S WHY PROBLEMS IN EUROPE AND ELSEWHERE IN THE GLOBE WILL HURT US STOCKS -- MARKET APPEARS HEADED TOWARD FEBRUARY LOWS IN BIGGEST CORRECTION SINCE LAST SPRING -- GOLD RALLIES AS COPPER TUMBLES -- VIX BREAKS JANUARY HIGH

NOTE: THIS MESSAGE WAS WRITTEN BEFORE THIS AFTERNOON'S STOCK PLUNGE...PLEASE SEE FOLLOW-UP MESSAGE... Toward the end of 2007, the media started talking a lot about "global decoupling". At the time, U.S. stocks were being pulled lower by subprime mortgage concerns and a collapsing housing sector. That led to a misguided view that foreign stocks were relatively immune to U.S. problems. I wrote about the myth of global decoupling in a January 2008 message and warned that foreign markets could start to suffer as well. At the time, I was writing the second edition of the Visual Investor and included a paragraph entitled: " Global Decoupling is a Myth". Since that has some relevance to today's situation, I'd like to repeat part of that paragraph here: "Most of the major global markets are pretty closely correlated. In other words, major bull and bear markets are usually global in scope...When the U.S. stock market started to weaken during the second half of 2007, a new theory circulated through Wall Street and the financial media that foreign stocks were relatively immune from a U.S. stock market drop and possible U.S. recession...That theory violated one of the key principles of intermarket analysis which is based on tight global linkages. And it didn't take long for it to be proven wrong. Between the fourth quarter of 2007 and the first quarter of 2008, many of the world's stock markets fell even further than the U.S. market. Little more was heard about global decoupling". At least until now. I've been hearing a lot of the same reasoning lately, except this time it's the other way around. We're now being asked to believe that the U.S. market is relatively immune to problems in Europe and elsewhere. I didn't believe it at the end of 2007, and I don't believe it now. And neither should you.

Chart 1

FOREIGN STOCKS FAIL TEST OF JANUARY HIGH ... U.S. and foreign stocks had been rising together from the March 2009 bottom. After a first quarter correction, both turned up in February. Chart 1 shows the S&P 500 (top line) exceeding its January high to resume its uptrend. Foreign stocks didn't. The MSCI World Index (ex USA) failed to exceed its January peak and has fallen sharply since then. In fact, the MSWorld Index (plotted through yesterday) has already broken its 200-day average and is headed for a test of its February low. At worst, that sets up the possibility of a "double top" if the February low is broken. Even if it isn't, there's little doubt that weak foreign stocks are starting to pull U.S. stocks lower. Anyone who preaches that the U.S. market is immune from foreign problems is misguided (or, in the case of Wall Street, dishonest). Adding to concerns is the fact that the global rally is in the fifth wave of an apparent "five-wave" Elliott Wave advance which has taken it close to a 62% Fibonacci retracement level. At such times, "negative divergence" become especially meaningful. In this case, that negative divergence is taking place between foreign and U.S. stocks.

Chart 2

S&P TESTS JANUARY HIGH ... I've been operating on the premise that the rally off the February bottom was the fifth wave in a five-wave Elliott Wave rally. That makes the market vulnerable to a more serious downside correction. Chart 2 shows the S&P 500 having already broken its 50-day average, which has turned its "short-term" trend lower. A close below its January high (which appears likely) would signal a more serious correction toward its 200-day average. In Elliott terms, it's normal for a market to correct back to the bottom of its fourth wave which would be the February low. Needless to say, any drop below that support level would be a lot more bearish. At the moment, I'm inclined to view this is a serious downside correction and not a major bearish reversal. Either way, it's time to take a more defensive stance.

Chart 3

Chart 4

MOST COMMODITIES TUMBLE... I recently expressed the view that commodities should start playing catchup to stocks. Unfortunately, it's been the other way around. Most commodities have fallen sharply over the last week. As a result, energy and material stocks have actually helped pull the rest of the market lower. [A lot of that has to do with the collapsing Euro and the U.S. Dollar Index hitting a new 14-month high]. The two charts above show the DB Commodities Tracking Fund and the United States Oil Fund falling below their 200-day averages. Chart 5 (below) shows copper prices tumbling as well. Their recent plunge is a sign of global weakness and is being reflected in falling global stocks (which include China). [Copper is closely tied to the trend of Chinese stocks and has shown a close correlation to global stocks over the last year]. I wrote last Thursday that one commodity exception was gold, the reason being that gold is viewed a both a currency and a commodity. The fact that gold is also viewed as a safe haven is keeping a strong bid under that market (Chart 6). The visual difference between copper's recent drop and gold's rally is striking and therein may lie another message.

Chart 5

Chart 6

GOLD TURNS UP VERSUS COPPER... As is often the case when looking beneath the surface for answers, relative strength analysis is especially helpful. The orange line in Chart 7 is a ratio of gold divided by copper. The green line is the S&P 500. When the orange line is rising, gold is outperforming copper. That happened during the second half of 2008 when plunging stocks prices made gold a stronger asset than economically-sensitive copper. After the stock market bottomed in spring 2003, copper did much better than gold on hopes for a global recovery. As a result, the gold/copper ratio fell. To the bottom right of Chart 7, however, the gold/copper ratio has rallied to the highest level in nine months. That new preference for gold over copper carries a number of messages. One is that investors are turning to safe havens like gold (and U.S. Treasuries). Another is that investors are turning a lot more cautious on the outlook for global growth and global stocks.

Chart 7

VIX BREAKS JANUARY HIGH ... Another warning that this stock correction could be bigger than any seen over the last year comes from the VIX Index which has just broken through its January high. This is the biggest gain in the VIX since the stock rally began last spring. A rising VIX is usually associated with falling stocks. That calls for more defensive stock action including purchase of inverse stock ETFs to help ride out the correction. Chart 9 shows the ProShares Short S&P 500 Fund (SH) breaking through its 50-day line on rising volume. Chart 10 shows ProShares Ultra Short QQQ (QID) doing the same. Inverse funds are designed as short-term trading tools and are not recommended as long-term holdings. They're especially helpful during market corrections either as short-term trading tools or to protect existing stock holdings.

Chart 8

Chart 9

Chart 10