The S&P 500 has already shot to the Weekly Expected Move low right out of the gate in this shortened trading week. It is another test of the demand line and intermediate trend, the fourth since the year began. It is also a test of last Monday’s low.
One would expect the market makers to mount another rescue operation here. If they fail, the selling could accelerate as market makers sell futures to neutralize their portfolio deltas. The put/call ratio has climbed to significant fear levels as it did Friday so that one could hope for another short-covering rally later in the session.
The problem this morning, of course, is the breakout in interest rates and the inflation-driven campaign for a reversal of friendly Fed policy. The Fed meeting is next week. Market participants will hang on every one of these meetings for the foreseeable future. It promises to be a rough ride for equity investors.
As you can see, the critical 10-Year U.S. Treasury rate is breaking the long-term Head and Shoulders reversal pattern we have been watching for many months. This breakout is a monumental event—nearly every loan in the country keys off this rate. It won’t help the deficit either.
The chart pattern projects a near doubling of the rate up to 3%. The pre-covid rate was about 3.25%. While the higher rate would indicate a return to normal conditions, it is still a massive adjustment for lofty equity markets when combined with the higher inflation we have been experiencing. Of late, the higher rates punish growth stocks (e.g., technology and the NASDAQ 100 the most).
Save for bank stocks and energy, the broad markets are already fragile. We had a lot of breadth divergences on the December high. If interest rates cause the big cap names to cave, there is not much to help the markets hold their current ground. A move to the October lows on the S&P 500 futures (4260) is not outside the realm of possibilities.
It has been a few years since we saw the kinds of corrections that would give us capitulations and spike lows, but one has to assume that such corrections (which are normal) will ensue again. It will be a treacherous environment for equity investors for now. A bear market could undoubtedly follow, but only time will tell.
Investors should not initiate longer-term equity positions until we have clear evidence of the cyclical low, likely to come in after the Fed meeting and towards early February.
In the meantime, there should still be some good, short-term trades in both directions,