Mid-week market update: One key development that I had been monitoring is the upside or downside resolution of the sideways consolidation that often occurs after the market ends an upper Bollinger Band ride. Investors may have a tentative answer. It’s an upside breakout.
The S&P 500 and equal-weighted S&P 500 finally staged an upside breakout from their consolidation ranges today. The NASDAQ 100 already broke out last week, and it pulled back to successfully test the resistance-turned-support level.
I call it a tentative breakout because much depends on the market reaction to the earnings reports of heavyweights Alphabet and Tesla after the close today.
Diminished Tail-Risk
One welcome bullish development is the diminished tail-risk from the bond market. I had been concerned about rising yields which could have threatened the stability of stock prices. In particular, the results of the Japanese election this week which saw the ruling LDP lose control of both the upper and lower houses resolved in soaring long rates.
While rising Japanese yields could have sparked a global bond market selloff, contagion effects appears to have been contained. U.S. inflation expectations are trending upwards, and the 30-year Treasury yield was testing the psychologically important 5% level, but instead the 30-year yield retreated. However, bond investors should be too quick to celebrate as the USD remains in a downtrend, which is a signal of rising inflation differentials against the rest of the world.
Watching for Small Cap Leadership
The announcement of a tentative U.S.-Japan trade pact today was the catalyst for a risk-on tone and the upside breakouts. One of the bullish tripwires for the next leg up in stock prices is the potential upside breakout in the Russell 2000, which is testing a resistance zone (top panel) and a relative resistance level (bottom panel).
While correlation isn’t causation, my trade war factor has been correlated with small cap performance. Historically, small caps have outperformed in climates of falling tariff anxiety. However, the current environment does present a higher risk of a more assertive Trump in the wake of his trade war wins.
In conclusion, the market is behaving in a constructive manner that’s signaling that it’s ready for the next leg up in stock prices. There is nothing more bullish than the all-time high achieved by the S&P 500 today. Earnings report and trade headline risks remain. While I don’t expect that prices will rise in a straight up, I am inclined to give the bull case the benefit of the doubt.
My inner trader remains long the S&P 500. The usual disclaimers apply to my trading positions:
I would like to add a note about the disclosure of my trading account after discussions with some readers. I disclose the direction of my trading exposure to indicate any potential conflicts. I use leveraged ETFs because the account is a tax-deferred account that does not allow margin trading and my degree of exposure is a relatively small percentage of the account. It emphatically does not represent an endorsement that you should follow my use of these products to trade their own account. Leverage ETFs have a known decay problem that don’t make the suitable for anything other than short-term trading. You have to determine and be responsible for your own risk tolerance and pain thresholds. Your own mileage will and should vary.
Disclosure: Long SPXL
