Mid-week market update: The combination of the Quarterly Census Employment and Wages (QCEW) weakness and a soft PPI report has moved the market to expect to at least a quarter-point rate cut at the FOMC meeting next week. There are even whispers that the Fed may even move by a half-point, though the odds is only 10%.
New Deal democrat came to the dismal conclusion that QCEW may be signaling that there was no job growth at all this year. While bad news is good news for the bond market, is it good news or bad news for the stock market?
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Sell the News?
MarketWatch reported that JPMorgan trading desk analyst Andrew Tyler called for tactical caution. He warned that a September FOMC rate cut could be a “sell the news” event for the stock market and cited three main reasons:
- A rate cut in the face of upward price pressure from tariffs could spark more worker demand and sticky wage inflation.
- JPMorgan also raised concerns about “stretched positioning” and cited “above average, but declining” exposure to U.S. stocks, with hedge funds “small sellers” of North America and Asia Pacific.
- An additional concern is evidence of “waning momentum” from retail investors. The prices of large-cap growth darlings are rolling over.
The “sell the news” reaction depends depends on how the market perceives the macro backdrop as the Fed cuts rates. Is the rate cut a response to recessionary, or near recessionary conditions, which would indicate a P/E contraction response? Or is the growth backdrop benign?
The technical backdrop is also concerning. Even as the S&P 500 made marginal new highs this week, the equal-weighed S&P 500 weakened below a key resistance-turned-support level. The percentage above the 200 dma also pulled back, indicating breadth deterioration. There is nothing worse than a failed breakout.
Momentum and breadth indicators are also deteriorating beneath the surface. The S&P 500 is exhibiting a series of negative RSI divergences. At the same time, the percentage bullish on P&F, percentage above the 50 dma for both the S&P 500 and NASDAQ are making a series of lower highs as the index advanced.
Another worrisome sign is weak breadth shown by the mid-cap S&P 400 and small-cap S&P 600. The mid- and small-cap Advance-Decline Lines (dotted red lines) are either flat to down even as their respective indices advanced.
That said, these breadth indicators are condition indicators of vulnerable markets and not actionable trading signals. These negative divergence can persist for months before a major pullback sets in. I have no idea what the bearish catalyst might be.
What’s the Bearish Catalyst?
Here is what I am watching. My trade war factor is signaling a degree of anxiety, though the equity and bond market implied volatility indicators (bottom panel) are in the Assertive Trump zone. This raises the risk that the President feels less constrained to exert his authority in his signature unpredictable way that rattles markets.
Off the top of my head, here is a non-exhaustive list of possible tail-risk triggers:
- Trade tensions I: The WSJ reported that the EU’s trade truce with the U.S. is in danger of unravelling.
- Trade tension II: The U.S. imposes further tariffs or sanctions against Brazil should its Supreme Court rule against former President Jair Bolsonaro.
- Geopolitical risk I: U.S. military action against Venezuela or its drug cartels. The September 2 strike on the Venezuelan boat suspected of drug smuggling doesn’t seem to have received enough attention in the news, might this call for further escalation?
- Geopolitical risk II: Russian drones strayed into Polish air space and were downed by NATO aircraft. NATO has invoked Article 4, which allows NATO allies to consult with each other when they feel their territorial integrity, political independence, or security is threatened.
I remain cautious, but not outright bearish.
Things that you can adjust later are suspect in my opinion. That includes Elliott waves because they change the count to fit the pattern.
But sometimes the wave patterns work, just like an H&S pattern or triangle can work.
Right now I am seeing a potential ending diagonal that started Sept 2. The end of a larger wave of course and could signify simply a correction and not the end of the Bull. But it would mean the S&P would have a 200+ correction, 3 to 4 %.
Curious to see what happens.