Broad-based selling in U.S. equities continues today, after inflationary CPI data triggered yield rallies across the curve. Traders and investors alike are spooked- and the benchmark S&P 500 appears to be piercing through our support zone of 4100-4120 after several attempts beginning back in mid-April.
Our short-term call for elevated volatility in Q2/Q3 has materialized, and we are still looking at the potential of a correction in the magnitude of -10-15% for the S&P. If 4100 fails to hold on a closing basis in sessions ahead, we are looking at next levels toward the 3800-4000 zone, which is a combination of the SPX's 50-day MA and a 23.6% Fib retracement from the panic bottom established in MArch of 2020 (the crash lows).
What We Are Watching
The S&P 500 breaks below initial support at 4100-4120…
After several tests of the 4120 zone, the SPX is breaking below 4100 in broad-based selling-
SPX: 4081.21- Oversold right now, but this break is concerning for the short-run...
The next level to watch for as potential support on the S&P 500 resides within the 3800-4000 range. This represents a combination of the SPX's rising 50-day MA (blue line) and a 23.6% Fibonnaci retracement off the panic lows set in place last year-
SPX Daily Chart: 4085.21- Watch the 50-day as next potential support on the SPX…
As we can see on the daily chart above- the S&P is fast approaching its 50-day moving average (blue line; red circle)- and against its current decline is now becoming very oversold on a short-term basis. Therefore we expect a strong counter-trend rally very soon- where resistance may come into play as high as 4240 (the recent highs).
After the 50-day, the 'megaphone' pattern and rising 200-day are also still in play as potential support zones for the S&P 500 ahead. These generate a range of 3600-3700, which is roughly -15% below the recent all-time highs (and hence our correction target of -10-15%)-
SPX: 4089.14- 200-day MA (green) still some ways away…
Remember- it is also important to watch the NASDAQ Comp Index, as tech has been the downside leader thus far in this correction cycle. We continue to watch for support on the COMP within the 12,450-13,000 zone (adjusted slightly from 12,500).
COMP: 13088.94- Watch the 200-day (green) for potential support ahead…
The daily chart above shows the double-top and negative divergence that recently formed on the NASDAQ- we continue to believe that the index should find some support as it approaches its rising 200-day moving average (green line) within the 12,450-13,000 range.
Current selling pressures are broad-based, and are registering north of an 80% downside day thus far today. This, when combined with yesterday's extreme tick readings (see our report from yesterday afternoon) implies that investors are starting to flush out of stocks- an indication that we could see some type of capitulation (i.e. a bottom) soon.
Bottom Line: Stay buckled... we continued to expect a very bumpy ride as the NASDAQ targets sub-13K and the S&P breaks below initial support today. Short-term- watch for violent counter-trend action very soon, as markets are now getting very oversold.
Inflationary Disruptor: We have seen this movie before, believe it or not…
One of the four market disruptors we have been highlighting in this recovery has been TSY yields- where we believed sharp rallies or 'spikes' in rates could disrupt the stock markets temporarily. Today's data-driven technical action between equities and TSY yields is a good example of what we have been talking about, as the stock / yield relationship has de-coupled somewhat from what we have been used to seeing.
In the past, stock declines have been typically aligned with rotation into TSYs as a safe-haven, suppressing yields (even pushing them notably lower) against elevated equity market volatility. As we have made our way through this reflationary recovery however, the relationship has started to invert- where most recently we have seen equity de-risking come against rallying TSY yields. It has many folks now asking the question: have we completed the reflationary expansion cycle, and are now moving into the next secular trend (inflationary contraction)?
In our view- based on our long-cycle work- the answer is no. We believe the U.S. remains in a liquidity-fueled recovery cycle that will migrate toward reflationary expansion /growth, similar (though certainly not identical) to what the U.S. experienced in the late-1940s through 1960s period. But while in this current transition period, investors are likely to see traditional inter-market correlations continue to break away from prior patterns, before 're-coupling' again into new correlations and secular paradigms.
The following chart shows the last major reflationary transition period here in the U.S., which came after the deflationary contraction cycle / bear market (the Great Depression)
S&P Index Reflationary Bull Market 1944-1960 vs the Russell 2000 Present Day (bottom):
In the chart above we present the last reflationary secular bull market in the U.S. This occurred after the deflationary 1930’s contraction cycle and lasted from the late-1940s into the early 1960s. Our belief is that the most recent period of volatility we experienced from 2018-2020 resembles that of the 1946 reflationary correction cycle. The resulting breakout (white circles) is the signal for resumption of an inflationary expansion cycle in the U.S. Differences in monetary policy account (in our opinion) for the massive breakout of the Russell last year (bottom panel)- where we now expect a correction or 'pullback' before resuming the secular uptrend (red arrow).
History gives us an analog to watch if interest rates continue to decouple from equities in the weeks and/or months ahead: the 1946 stock market correction saw equities decline in excess of -20% against sharply rallying yields as inflation fears gripped the U.S. economy (newly recovering from the Depression and WWII)-
Stocks vs Yields: 1946 Correction
In the chart above, we plot long-dated yields against the S&P Index from 1940 thru 1949. Note the top and correction of 1946: equities declined just north of -20% against a dramatic rally in long rates (red circles).
More importantly however, once the 1946 correction cycle was completed, stocks and yields then re-coupled to enter a long secular uptrend into the 1960s (the reflationary expansion cycle or bull market we often refer to)-
Secular Bull Market in Stocks against Rising Interest Rates: 1949-1960s
So while today's inflation data (surprise CPI numbers) has investors questioning the start of a stagflationary contraction period ahead, we believe the market's long-cycle is simply playing itself out naturally- where we expect the transition from recovery to reflationary / inflationary growth and the resumption of our current secular bull market. This should come against higher interest rates, as the economy reopens and evolves toward growth against favorable liquidity conditions & demographic profile here in the U.S.
As such, our next target zones for both the S&P 500 and the 10-year TSY yield remain on track once we pass through our current correction cycle (where they may continue to see distortion over the short-run):
S&P 500 to 4,500-5,000 in the coming years
10-Year TSY Yield to 2.50-3.00% in the coming years (possibly sooner)
Back with more as things develop…
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