Market Journal: Bearish Divergences

Discussion

As noted last night, yesterday afternoon a handful of bearish divergences started to accumulate, including HY CDX’s lack of endorsement of the SPX rally, and VVIX not confirming the decline in VIX. Those divergences continue to play out today with HY CDX and VVIX up solidly on the day.

No doubt today’s tick higher in supercore PCE inflation is the cause for the market’s angst. The soft landing rally that was kicked off by the fall in job openings is simply untenable in a world where the Fed will not start cutting Fed Funds until YoY supercore PCE inflation falls to its pre-COVID average.

The fact defensive equity sectors continue to sharply underperform is not the bullish indicator it typically is for equities broadly. If they’re underperforming because the economy is in the process of reaccelerating, then the Fed will continue hiking, which is bad for equities; and if they’re underperforming because long-term rates are set to move higher, that’s also bad for equities.

We’ll see how the cross-asset market indicators evolve here as we head into September, but right here and now the set-up is at best not bullish, if not outright bearish if long-term rates really kick into gear in the new month.

Exhibits

HY CDX negatively diverging from SPX.

VVIX and USD up sharply on the day, while defensives underperform. Likely points to a reacceleration in long-term rates.