Discussion
Breadth is quite poor beneath the surface of a not-that-bad decline in SPX and NDX, and HY CDX is unhappy. Defensive sectors were outperforming early in the morning, but have since sold off relative to the market, and while this is typically a bullish signal for me, I noticed last week that XLU in particular was especially weak heading into the BOJ YCC tweak, and then again the following day before the Fed stepped in with its 1:51pm EST put via Timiraos. Bottom line, I think there’s a good chance rates are headed higher and it’s going to be a problem for stocks in the very short-term. The “window of strength” is in place so staying nimble is key, but given how full valuation and positioning are and the fact the market is weak despite supportive BOM flows, there’s a good chance this higher rate issue leads to a very near-term correction.
Key to my thinking are two things: 1) the 3y/10y UST curve is bear steepening as it did ahead of big breakouts in the long-end of the UST and TIPS curves at key junctures in 2022, and 2) Bill Dudley is out this morning with a key piece of FED communication shooting down the notion the Fed is going for a soft landing as defined by consensus (i.e. no recession). Dudley is key because A) he is routinely used by the Fed to communicate at key policy junctures, and B) he was JUST in the “soft landing is becoming more of a reality” camp - as such, the fact he was deployed to communicate that the unemployment rate must move higher, is very important.
Exhibits
Breadth is weak.
HY CDX is unhappy.
Defensive sectors are lagging, IMO in anticipation of higher rates given how they’ve been trading since pre-BOJ YCC tweak.
The 3y/10y UST curve is bear steepening in a manner that preceded a breakout in UST and TIPS 10s at key junctures in 2022.