Morning Notes – 6/16/2022

Good Morning:

• The market reacted somewhat favorably to the .75 bps increase yesterday, though short-covering likely drove the gains.
• Given how short the street is going into quarterly expiration tomorrow, I was surprised that there wasn’t more short-covering of the rip-your-face-off variety after the Fed announcement.
• So like a drunken spree the previous night, everything looked good at the time. The Fed is aggressively fighting the inflation they caused!
• But with the morning hangover, everyone asks, “How high are mortgage rates again?” “How high is inflation?”
• The answer on mortgage rates is – 5.54% on average,  double the rate from January. The response on inflation? 20% under the old calculation and 10% under the new formula.
• So the market (S&P 500 Index) tested new lows in Globex at 3695, erasing all of yesterday’s gains.
• Recall that 3700 is short-term armageddon headquarters. It is our “Put Wall,” and It is preferable to maintain that level through tomorrow’s expiration.
• Given the open interest at 3700, there is at least an even chance of pinning there. There is a longer-term support structure at 3688 to give the market some breathing room, but 3620 is the next stop after that.
• On the upside, it gets complicated around such significant options/futures expirations. Out-of-the-money puts from yesterday are suddenly profitable this morning.
• Even if investors roll the puts ahead of tomorrow’s expiration today, the exchange creates an imbalance for Dealers. It forces them to buy futures, thus triggering a move back to resistance at 3800 up to 3850.
• Don’t forget that the WEM low can still draw prices back up to 3800 as it did yesterday.
• On the other hand, dealers may have already taken the last clear chance to avoid catastrophe by hedging at 3800 yesterday.
• If prices stay below 3700 for long, volatility increases, and sparks could fly.
• It all depends on the confidence of the shorts. If the shorts are making money, their incentive to cover wanes.
• I don’t typically recommend trading around Fed Meetings, especially when combined with quarterly expiration. Distortions can arise through dealer rolling and hedging activity.
• The best time to position will likely develop late Monday or Tuesday morning after the dealer books clear.
• Keep in mind that the market may be temporarily vulnerable on the downside as the hedges come off tomorrow through Tuesday.
• If the S&P 500 decides to follow the NASDAQ 100 down into a 50% retracement, the next significant support is at 3400, which is (i) the highest volume node below us, (ii) where the Covid Rally from March 2020 had fully recovered from the crash and broke out to new all-time highs, and (iii) lies smack dab in the middle of the 38.2% and 50% retracements of the entire Covid Rally.
• That would be a 30% decline from the peak.

Stay nimble. We remain in cash.

A.F. Thornton