/ May 19 / Weekly Preview
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Monday:
Various Fed Speakers
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Tuesday:N/A
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Wednesday:
N/A
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Thursday:
S&P Global Services PMI Flash (50 exp.)
Existing Home Sales (4.1M exp.)
Initial Jobless Claims (230K exp.)
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Friday:
New Home Sales (0.69M exp.) -
Monday:
N/A
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Tuesday:Home Depot
Keysight Technologies
Palo Alto Networks
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Wednesday:
Target
Canada Goose
Lowe's
Wix.com
Snowflake
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Thursday:
Ralph Lauren
Advance Auto Parts
Deckers Outdoor
Intuit
Workday
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Friday:
N/A
The On Again / Off Again Recession
Last week, the market advance continued relentlessly, with the S&P 500 rising more than+5%, on improved trade relations with China, short covering activity and an improvement in economic data and outlook.
With key overhead resistance broken, there is technically little reason to be bearish at the moment. The only “red flag” for the market is the short term overbought condition, as well as the puzzling fact that institutions did not exactly participate in the rally. For example, famous investor Michael Burry, known for correctly “calling” and cashing in on the 2008-2009 subprime crisis has sold all of his equity holdings save for Estee Lauder (EL). He has also bought significant put options for NVDA and Alibaba Group.
Paul Tudor Jones, who gained fame for correctly predicting the 1987 stock market crash, has also expressed an opinion that the market could retest new lows, even if President Donald Trump scales back his aggressive tariffs on China:
“He might reduce tariffs to 40% or 50%, sure,” […] “But even then, it would still represent one of the biggest tax hikes since the 1960s. That alone could shave 2% to 3% off GDP growth.”
“Unless the Fed goes full-on dovish and cuts rates significantly, markets will likely retest new lows,” Jones said. “Once we hit those lows, things will start to get more painful. That could push both the Fed and Trump to act. Then maybe we’ll see something closer to reality.”
The same risk averse stance is echoed by many other hedge funds and large traders, which usually operate in Dark Pools. Since we track these flows every day, we can sum up the activity for the last week — and it’s bearish for most top 20 S&P 500 stocks (index < 45%).
This is highly unusual for a week where the S&P 500 rose more than 5%. So who is responsible for the buying?
According to JP Morgan — it’s retail traders! Their share of total stock market activity has now reached 36% (a record high), also due to relatively low volume on the rally. For context, the 10 year average market share for retail traders hovers at around 12%, so the current activity is triple that.
Speaking of which… JP Morgan — the first bank to call for a recession in early April — is now saying that a recession can be averted.
The sole support for their thesis is the drop in tit-for-tat tariffs between the U.S. and China. At the moment, it seems that the onerous tariff levels initiated by the Trump administration were never meant to be permanent, and only served as a negotiating tactic. The “inflation impact” from tariffs, which was expected to cause a recession, has yet to appear. Both inflation reports of the last week have printed at or slightly below expectations.
To sum up, the key drivers of market activity in the next month will likely be:
Institutions underweight risk and predisposed to buy-the-dip;
Retail clients who might be inclined to take profits, especially on sharp down-moves;
Stock buybacks just kicking in after earnings season;
The ongoing trade saga;
The Fed;
In other words, there should be more upside than downside in the current environment, but we need to see some proof first. With many individual stocks and indices reaching decently overbought levels, the “easy money” has already been made. Now, our job is to identify a “pivot level”, which would offer safety for an increase in risk exposure, while also serving as a warning if breached to the downside. We still don’t know if we’re trading in a similar setup as 2022 (successive bear market rallies to lower lows) or a 2020-like “V-shaped” recovery, with minimal pullbacks along the way.
Regardless of the analog, a pullback is still expected to occur, even if minimal. Our best guess is that bids should arrive at around $568 (S1), with some subsequent buy-the-dip interest up to $550 on SPY. Following this technical consolidation, the market would continue to rally.
Closing below $550 would imply something is “wrong” and put the spotlight on the recent lows as a target. In this scenario, the bears would be back in control and we could draw the conclusion that the April rally was indeed a “bear-market rally”.
Just as a reminder, the potential retracement to any moving average for SPY (which could also count as technical support) is between -3% and -6%, so we would consider any such pullback as “normal” and a good place to increase risk allocation.
Another symptom of a market over-extension is the underlying risk-reward equation of various sector components. In the graph below, we’ve sorted the major Sector ETFs by 1 month relative-to-SPY outperformance (left to right), with the bars representing percentage upside / downside to the respective call and put walls in the short term.
We find that sectors which have outperformed — Tech (XLK), Consumer Discretionary (XLY), Industrials (XLI) and Communications (XLC) — have minimal upside (+2.2%) and quite large downside (-15%);
Meanwhile, underperformers — Healthcare (XLV), Staples (XLP), Real Estate (XLRE) and Energy (XLE) — are enjoying much better risk-reward and could be the beneficiaries of a rotation. The average upside stands at 9%, with the potential downside at -6.4%.
Since the index-level performance is mainly driven by large caps in tech, discretionary and communications, we would assign pullback odds as increased at the moment.
Our Trading Strategy
Given the reduction in tariff-related risk and stable economic data, we suspect the market will hold bullish support. A confirmation of such support will serve as the basis for an increase in equity risk exposure going forward.
Alternatively, should technical support be violated, a further reduction in risk is warranted, at least on the equity side in our portfolio. It would mean that we just witnessed a “bear market rally”.
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