- Unusual sector rotation indicates markets remain out of whack
- Will the Fed hike truly be priced in?
US monetary policy and its impact on markets should take center stage this coming week, but Russia's war in Ukraine and its effect on Europe and the world could capture most of the headlines.
The US Federal Reserve is expected to increase interest rates by a quarter percentage point this coming week, after years of rates hovering near zero. Because the head of the Fed, Jerome Powell, has prepared markets as to the central bank's intentions, analysts aren't expecting a substantial reaction. However, policymakers could surprise in their forecasts for future rate hikes, or their take on the path of inflation, or their views on the US economy in general.
Or alternately, market reactions could surprise policymakers and pundits. Either way, the Fed's first rate hike since before the pandemic is newsworthy. Coming on the heels of yet another 40-year high for the Consumer Price Index in February, which was hot at 7.9% YoY, policy tightening is even more noteworthy.
Given that policymakers are also reducing the money supply, along with increasing borrowing costs after the most accommodative monetary policy in history, creates the potential for an even stronger reaction from markets, hike anticipation notwithstanding. Adding pressure to the situation: the current, persistent inflation spike follows years of low to no inflation—a situation that's been in place since 2008.
Now, with a new generation of investors who've grown used to operating within a market that had come to depend on easy money from central banks, essentially creating an artificial economy, the upcoming effort by central bank policymakers intends to wean markets off ultracheap money, which means that in truth it's anyone's guess how investors will react.
With earnings season basically over, traders may feel the need to fill the news vacuum with other headlines. And if rate hike news is too predictable, there's always the conflict in Europe. And if not the conflict itself then the knock-on-effects of supply disruptions due to the war and escalating US and EU sanctions on Russia, along with retaliatory bans issued by Moscow. Still, at this point the most punishing injunctions may just be soaring energy prices and market upheavals.
Death Crosses Already In Play For All Indices But The S&P
With equity volatility in play throughout last week, the S&P 500 Index fell 2.88%, closing at its lowest weekly level since the week of June 14.
The broad benchmark developed a pennant, considered bearish after the earlier plunge. The pennant's location—right on the neckline of an H&S top—increases its ominous signal. However, the pattern is not yet complete, as the price found support right on the neckline. Also, though it looks like this will occur, the S&P 500 is the only major index whose 50 DMA has yet to cross its 200 DMA, which would trigger a Death Cross.
Of the SPX's 11 sectors, on a weekly basis Energy was the only one to finish in green territory, rising 2.15%. Consumer Staples was the worst performer, falling 5.84% for the week. This is worth noting since Consumer Staples stocks tend to outperform during a market rout, given that these companies provide consumers with essentials they can't do without.
The above provides just one example of how the current market is out of whack. Though sentiment is clearly risk-off, the safest of haven sectors, Staples, underperforms.
Still, the S&P 500's technicals are not as bad as those for its peers.
The mega cap Dow Jones Industrial Average declined 2% for the week, closing at its lowest since the week of Mar. 15. The 30-component index was also developing a bearish pennant, but it had already topped out after forming the dreaded Death Cross.
The tech-heavy NASDAQ 100 dropped 3.87% for the week, making it the underperformer among major US indices. The benchmark is down 19.74% from its Nov. 19 record, now hovering a mere 0.26% from a confirmed bear market.
The NASDAQ 100 is developing a second consecutive bearish pennant after having completed an H&S top, which included a Death Cross.
The Russell 2000 retreated by 1.06%, to its lowest close since the week of Dec. 7, 2020. Still, among the four major US benchmarks, the small cap index was the outperformer last week.
The small cap Russell 2000's superior performance versus the big tech 'flagship' index is reminiscent of the cyclical rotation we saw following the pandemic lockdowns and a restarting economy. However, at this stage, this relationship is due more to the underperformance of small cap equities which had been at a disadvantage compared to large caps shares. Now, with higher interest rates looming, the higher valuations of technology companies have triggered an exodus ahead of the hikes.
The Russell 2000 is already in bear market territory having officially lost 20.94% from its Nov. 8 record peak as of Jan. 27. We expect the small cap index to continue slumping. It's developing a symmetrical triangle, bearish after topping out and triggering a Death Cross.
Yields for the 10-year Treasury managed to push above the critical and psychological 2% mark but closed on Friday below it, at 1.997%. Yields rise when investors sell bonds, something that generally occurs when their appetite for risk increases and they rotate into stocks. But given that equities are currently seeing their worst rout in years, that's not what's happening right now. Rather, the outlook for higher rates via the Fed renders current Treasury payouts in longer-dated bonds unsatisfactory.
We have been monitoring yields, noting in posts that they're a critical indicator of investor mood and a potential leading indicator for stocks. We've also pointed out that yields may be developing a small H&S top. However, recently we put our chips on the preceding, more significant, bullish Symmetrical Triangle. And sure enough, yields bounced off the triangle, aided by additional support from the 200-week MA.
However, nothing is inevitable. The failed H&S top could still turn out to be a double top. Notwithstanding, in the final analysis, we maintain our position.
The dollar added 0.48% for the week, extending its rally to four out of five weeks.
The greenback successfully retested an H&S bottom supported by the 200 WMA, bouncing off the neckline.
Gold continues to rise despite a stronger dollar. The precious metal gained 0.94% in value over the course of the past week.
Having reached within 0.28% of the yellow metal's weekly closing record, registered during the week of Aug. 3, gold trimmed a 5.18% weekly advance to just 0.94%. Traders should be cautious after a potential bearish weekly candle, with a very long upper shadow, which realized the preceding oversized symmetrical triangle's implied target.
Bitcoin dropped 1.5% for the week, after the preceding week's dramatic 15.85% surge on an intra-week basis when crypto enthusiasts were excited after leaked remarks by the Biden Administration, which alluded to constructive oversights.
However, after the kneejerk trader reaction, crypto apologists realized that the US government intends to regulate the leading digital token, whose primary selling proposition is freedom from government interference.
BTC/USD could potentially be developing a rising triangle, bullish upon an upside breakout, signaling buyers will have absorbed all available supply at these levels and are seeking additional tokens at higher prices. However, we remain steadfast on our earlier call of a much larger H&S top, accompanied by a Death Cross to boot.
Oil surged around 3% on Friday, an impressive jump at any time, though less so perhaps after the energy commodity lost a whopping 14.3% in the previous two sessions. At the end of the week, WTI was down 4.3%.
From a technical perspective, we're betting oil will continue heading lower, possibly as low as $80. Crude completed a rising flag, bearish after the preceding straight line down. If the flag's implied target is realized, it will also complete an H&S top on the 4-hour chart.
The Week Ahead
All times listed are EDT
Monday
21:00: China – Industrial Production: seen to drop to 3.9% from 4.3%.
Tuesday
2:00: UK – Claimant Count Change: expected to edge up to -28.0K from -31.9K.
5:00: Germany – ZEW Economic Sentiment: likely to plunge to 10.0 from 54.3.
8:30: US – PPI: to slip to 0.9% from 1.0%.
Wednesday
8:30: US – Core Retail Sales: forecast to plunge to 1.0% from 3.3%.
8:30: US – Retail Sales: anticipated to plummet to 0.4% from 3.8%.
8:30: Canada – Core CPI: previous print came in at 0.8%.
10:30: US – Crude Oil Inventories: last week's release showed a drawdown of -1.863M.
14:00: US – FOMC Economic Projections, Statement, Interest Rate Decision: forecast to rise 25 basis points to 0.5%
14:30: US – FOMC Press Conference
Thursday
4:30: Eurozone – ECB President Lagarde Speaks
6:00: Eurozone – CPI to remain stagnant at 5.8% YoY.
8:00: UK – BoE Interest Rate Decision: predicted to rise to 0.75% from 0.50%.
8:30: US – Building Permits: likely to have decreased to 1.850M from 1.895M.
23:00: Japan – BoJ Monetary Policy Statement
Friday
8:30: Canada – Core Retail Sales: to edge higher to -2.0% from -2.5% MoM.
10:00: US – Existing Home Sales: expected to have slipped to 6.16M from 6.50M during February.