Ahead of this week’s ECB meeting, the DAX finds itself at a critical juncture in determining its future direction. The German economy continues to struggle, with its manufacturing sector, a cornerstone of Europe’s industrial power, showing concerning trends. Germany has now seen 28 consecutive months of manufacturing PMI readings below 50, indicating a prolonged contraction in manufacturing activity. 

For a time, the services sector kept the economy afloat, but this resilience is also starting to wane. The composite PMI has been below 50 for five months, signaling overall economic contraction, and the most recent services PMI has also dipped below 50. 

Despite these challenges, the DAX managed a two-week rally, reaching the upper boundary of its trend channel. After seven consecutive green daily bars, the index finally posted a red bar yesterday. Now, several factors are likely to influence its price action moving forward. 

This week’s ECB meeting will be a critical event. While a rate cut is widely expected, the focus will be on the updated economic forecasts. Revisions to inflation and GDP expectations will play a key role in shaping market sentiment. Additionally, China’s Central Economic Work Conference, starting tomorrow, could have global implications. If this conference signals substantial stimulus measures or changes in monetary policy, it may boost bullish sentiment in stock markets worldwide. 

(DAX / S&P 500 Daily Chart) 

Over the last two years, the DAX and the S&P 500 have exhibited an exceptionally high correlation of nearly 97%. Despite this strong correlation, the DAX has been gradually losing ground relative to the S&P 500 during the period. The ratio between the two indices has established a clear downtrend, and with the recent rally, the ratio is now testing the trendline. 

In the three previous instances when this occurred, the DAX lost its advantage over the S&P 500, forming a local top that led to at least a few days of negative performance. On the most recent occasion, it took over two months for the DAX to break above the local top. 

Simultaneously, the DAX index itself is testing the upper boundary of its bullish trend channel. As long as the 21,000 resistance level holds, there is a strong likelihood of a minor correction in the index. The first critical support level to monitor is 19,725.