Discussion
Key to the tactical direction of equities looking out over the next month or so is interest rates. As I’ve discussed, if the long end of the curve (UST and TIPS) punches to decisive new highs, I believe equities will experience a 1987-style “event”. Perhaps not -30%, but a standard 10-15% correction into the seasonally dangerous October period would not be a surprise. At present, UST and TIPS 10s and 30s sit just below their August highs.
My working thesis is that very weak equity market breadth and emerging relative strength from the Utilities sector are key signs that suggest the long end is on the verge of breaking higher and equities lower. Breadth in particular - the negative divergence between SPX and the % of NYSE stocks above their 50dma is material.
Today’s cross-asset market action did little to dispel the notion that a large correction lies directly ahead: defensive equity sectors performed well in a seemingly risk-on tape; the USD spiked hard; VVIX did not fall as much as VIX, and overall VOL did not come in as much as the equity advance would have normally implied; and HY CDX didn’t move much. On the bullish side, SPX does have room to rise to close to 4600 relative to where HY CDX currently sits versus the July high; and overall breadth was decent on the day.
Adding it all up, with SPX entering the post-OPEX window of weakness next week following a very obvious pre-OPEX, pre-ARM IPO pumping today, and Powell on deck next week with TIPS break-evens not behaving, the stage is set for an October volatility “event”.