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When I last spoke on January 16, the data we had received up to that point was very good…
Since then, we received data on fourth quarter GDP as well as January data on job growth and consumer product index (CPI) inflation. All three reports came in hotter than expected. GDP growth came in at 3.3%, well above forecasts. Jobs grew by 353,000, well over forecasts of less than 200,000, and monthly core CPI inflation came in at 0.4%, which was much higher than it had been for the previous six months…there is no rush to begin cutting interest rates to normalize monetary policy."
-Federal Reserve Governor Christopher Waller, February 23, 2024
Friday’s speech by Fed Governor Christopher Waller confirmed much of what we already knew as to how market participants’ projections about rate cuts have changed over the course of the past month. Whether the views have changed after hearing the projections of Federal Reserve officials or seeing recent hotter-than-expected economic data, expectations of numerous rate cuts throughout 2024 are no longer being discounted.
In fact, on Friday afternoon, using data from CME Group, I found that the probability of 100-basis points of rate cuts through the September meeting was only 5.8%, down significantly from the 47.2% probability one month ago (on January 23).
More importantly for investors, however, is how stocks have reacted to what might be viewed as bad news regarding investors factoring in numerous rate cuts in 2024 to changing their expectations of a much slower path to lower rates. The stock market, as measured by the S&P 500 Index (SPX--5,088.80), rallied by more than 4% since the Jan. 23 close.
It suggests to me that investors are placing more weight on the prospects for continued economic growth without the help of the Fed, even though the central bank continues to steal headlines. In fact, what is the appropriate level of the fed funds rate and what is perceived to be the appropriate level may well be two different animals.
“..the 30-day moving average, which marked the mid-January low after acting as resistance in mid-October just ahead of the plunge into the late-October low, did not even come into play. This moving average is at 4,880 and is currently rising at a rate of eleven points per day. As such, in this holiday-shortened week, it is projected to be around 4,920-4,925 at this time next week.”
-Monday Morning Outlook, February 20, 2024
The excerpt above from last week refers to the SPX and potential short-term support levels. Despite selling at the beginning of the holiday-shortened week, the SPX’s 30-day moving average, which has been important since October, did not come into play again.
Since the early November cross above this moving average that signaled the current rally, the SPX has not experienced a close below its 30-day moving average. Last week’s lows were just above the 4,940 level, which is 20% above the October 2023 closing low and another area that I have mentioned as potentially important.
With the 30-day moving average currently at 4,922 and projected to be around 4,965-4,970 at this time next week, I see the area between 4,940 and 4,965 as a potential area of support in the event of a pullback and would view a close below the 30-day moving average as a potential signal that this momentum since late last year could be ending. As of now, the SPX is not signaling a loss of momentum, on the heels of the new all-time high achieved in Friday’s session.
Short covering on SPX component stocks is one aspect of relatively shallow pullbacks and fresh new highs on the index. We will get new short interest data as of mid-February shortly, which I should be able to report on in next week’s commentary.
One thing I noticed last week, however, is more call open interest additions among those playing short-term SPDR S&P 500 ETF Trust (SPY--507.85) options. Per the chart below, notice that while there is not a mentality of the “sky is the limit” among these market participants, there was more enthusiasm about stocks going higher than usual when analyzing put (downside bets) and call (upside bets) open interest changes on the just-expired Feb. 23 expiration options.
This is not an absolute given that stocks will turn south next week for a sustained period, but it is worth keeping on your radar. Put increased emphasis on this change in sentiment if there is a break of support levels that I discussed above. I find this indicator worth noting as SPY short-term option players have consistently been wrong throughout the rally since late last year as put open interest changes have been predominant week after week.
“…the Cboe Market Volatility Index (VIX-14.71) came close to hinting at trouble ahead when it threatened to sustain a move through the January highs at 15.40, which is one half the 52-week high of 30.80. If the VIX moves through 15.40 again, I would view this as a caution signal for bulls, at least for the short term”
-Monday Morning Outlook, February 20, 2024
For the second time in as many weeks, the Cboe Market Volatility Index (VIX--14.06) flirted with the 15.40 area, but it was short-lived before heading south again after Nvidia’s (NVDA) earnings report helped push stocks higher on Thursday.
A strong move through 15.40, which is one-half the VIX’s 52-week high and a proven resistance area this year could also be indicative of a loss in momentum and/or an impending significant pullback.
As such, continue to keep the level of the VIX on your radar and consider hedging via equity index or exchange-traded fund put options if you see a powerful move through 15.40.
But just as the SPX is above support, the VIX has not sounded an alarm either. As such, continue to play the momentum higher until there is stronger evidence that you should lighten up or take actions to hedge long plays.
Todd Salamone is the Senior V.P. of Research at Schaeffer's Investment Research.
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