Is It Time for a Summer Rally?

Last week I had warned of a top the previous week near SPX 4170 and a decline into FOMC Tue/Wed with Thur a med Bradley turn date or essentially a reversal of the prior week.  However, int rates (TNX) screamed higher Mon-Wed creating a much larger drop than expected, bottoming near 3640 on Thur that was retested again on Fri.  Much of the late decline in the SPX was due to the larger than expected rate hike of .75% which increased the possibility a recession.  Bonds did settle down with the TNX dropping to 3.24% on Fri from an earlier high of 3.48%, and this may set up another rally over the next few weeks, especially in the NDX.

ST sentiment has also turned supportive of a rally, possibly to SPX 4000-100 by mid-July when recent weakness in oil prices may lead to an improvement in next months CPI.  In Tech/Other a look at the 10yr/20yr T-bond ratio indicates that higher rates are still likely by the EOY, and an update of the VIX call indicator is now showing the strongest Buy of the last two years.

I. Sentiment Indicators

The INT/LT Composite indicator (outlook 3 to 6+ months) has three separate components. 1st is the SPX and ETF put-call indicators (30%), 2nd the SPX 2X ETF INT ratio (40%), and 3rd a volatility indicator (30%) which combines the options volatility ratio of the ST SPX (VIX) to the ST VIX (VVIX) with the UVXY $ volume.

Update.  There is a wide dispersion between component indicators where ETF and volatility are bullish while options are bearish.

Update EMA. Overall, EMAs show strong bearishness, but weaker than the Mar lows.  A rally to about SPX 4000 is possible.

The ST Composite as a ST (1-4 week) indicator includes the NYSE volume ratio indicator (NYDNV/NYUPV & NYDNV/NYDEC) and the UVXY $ Vol/SPX Trend. Weights are 80%/20%.

Update.   ST bearish sentiment has reached an extreme matching the Dec 2018 selloff and almost a reverse of the Jan Sell.  A strong ST rally is likely, possibly thru mid-July.

The ST/INT Composite indicator (outlook 1 to 3 months) is based on the Hedge Spread (48%) and includes ST Composite (12%) and three options FOMO indicators using SPX (12%), ETF (12%), and Equity (12%) calls compared to the NY ADV/DEC issues (inverted). FOMO is shown when strong call volume is combined with strong NY ADV/DEC. See Investment Diary addition for full discussion.

Update EMA.  Options FOMO remains a drag, but composite sentiment has reached a ST Buy at the highest level of the last two years.

Bonds (TNX).  Bearish sentiment in bonds jumped sharply early in the week, reaching a ST Buy.  Following the IHS, this may mean a consolidation for a couple of months as in early 2019.

For the INT outlook with LT still negative, the gold miners (HUI) bearish sentiment is presented in a new format using the data mining software to add the inverse TNX rate to the ETF ratio.

Update.  Bearish sentiment retreated slightly as prices consolidated near recent lows.

II. Dumb Money/Smart Money Indicators

This is a new hybrid option/ETF Dumb Money/Smart Money Indicator as a INT/LT term (outlook 2-6 mns) bearish sentiment indicator. The use of ETFs increases the duration (term).

Update.  Weakness in options sentiment shows here as lower bearish sentiment than either the Mar or May price lows.

With the sister options Hedge Spread bearish sentiment as a ST/INT indicator (outlook 1-3 mns) has reached the highest level since mid-2020, but remains well below the levels of previous INT lows.  Any rally is likely to be only a bear market rally.

Taking a look at the ETF ratio of the INT term SPX (2X) ETFs (outlook 2 to 4 mns) as bearish sentiment, sentiment increased strongly, but remains below that seen in early Mar.

Taking a look at the ETF ratio of the ST term SPX (3X) ETFs (outlook 2 to 4 mns) as bearish sentiment, sentiment here seems to be a more accurate gauge of ST sentiment which does show stronger ST outlook than the 2X ETFs.

Using the TNX plus ETF sentiment as the NDX sentiment with the interest rate effect.  The INT term NDX ST 3x ETFs + TNX (outlook 2 to 4 mns) bearish sentiment using the faster EMAs also shows a new high and may mean a tech-lead rally is ahead, especially if int rates consolidate.

III. Options Open Interest

Using Thur closing OI, remember that further out time frames are more likely to change over time, and that closing prices are more likely to be effected. Delta hedging may occur as reinforcement, negative when put support is broken or positive when call resistance is exceeded.  This week I will look out thru June 24. A text overlay is used for extreme OI to improve readability, P/C is not changed.   A new addition is added for OI $ amounts with breakeven pts (BE) where call & put $ amounts cross plus $ volume.

With Fri close at SPX 3675, options OI for Tue is very small with put support at 3600 and call resistance at 3800.  A move to 3750 looks possible.

Wed has somewhat smaller OI where SPX shows strong put support at 3400 and call resistance at 3850, but Fri puts from 3600-3700 are likely to provide support.

For Fri stronger put support between 3600-700 shows a move to 3750-800 is likely.

For EOM strong put support from SPX 3600-700 is likely to limit downside, and there is little call resistance so 3800 or higher is possible.

IV. Technical / Other

After the surprisingly strong (.75%) hike by the Fed which seemed to catch most by surprise (including me) given the Feds propensity to support stock markets since Greenspan in the late 1990s, Thur decline (into Bradley turn) seemed to be a recognition of the new reality. Bonds appeared happy, after a scorching run up to 3.48% (TNX) Mon-Wed, rates settled back to 3.24% by Fri.  Below is a chart of the 10/20 year T-bond yield curve ratio (YCR).  Last week I showed the YCR back to 1990 where int rate cycles seemed to continue up until the 10/20 YCR reached 98%+.  Last week only reached 94%, so higher rates are still likely.

Last week was the first .75% rate hike since late 1994, rates were much higher then and over an 18 mn period of rising rates the TNX rose from 5%+ to 7%+.  It is possible that we are at the Apr 1994 rate peak which consolidated into Sept-Oct before a year-end push higher to the 98%+ level.

Below is the SPX over the same 1994-95 period where the SPX was mostly positive from Apr-Sept 1994 while rates consolidated, then made a final low near the 10/20 YCR peak in Dec 1994.  More significant is the 40% rally in the SPX during 1995 after the 10/20 YCR peaked .

The following is an update for the VIX call indicator which has now moved to its strongest Buy of the last two years.

Conclusions.  As was apparently the case for many, I had my personal doubts about the Feds resolve to "do whatever it takes" to fight inflation given its history of the last 25-years to take the side of supporting the wealth effect whenever the stock market dropped more than 10%.  In this case higher rates really don't even make sense since they dampen demand and in this case inflation is due mostly from supply-side constraints, not excess demand.

The sharper than expected decline has now increased bearish sentiment to the point where a greater than expected 200-300 pt rally is likely although a rounded bottom seems more likely than a v-bottom and may depend on a consolidation in int rates (TNX) between 3-3.5%.  A potential target is SPX 4000-100 around mid-July when another bout of weakness may occur due to earnings.

Weekly Trade Alert.  Any rally next week is likely to see considerable backing and filling with a target in the SPX 3750-800 area.  Updates @mrktsignals.

Investment Diary,  Indicator Primer, Tech/Other Refs,
 update 2021.07.xx  Data Mining Indicators - Update, Summer 2021,
 update 2020.02.07 Data Mining Indicators,
 update 2019.04.27 Stock Buybacks,
 update 2018.03.28 Dumb Money/Smart Money Indicators

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