What may break this time? - Thomas Ng memo 23 Oct 2023
Updated: Oct 30
Give me a break! No pun intended
On Monday 23 Oct 2023 9.41pm, I broadcast / emailed Clients my latest post titled 'What may break this time?'.
Below is the full transcript for your perusal:
'Dear Clients . In my 8 Sep 2023 memo tited 'What may September & October bring?', I said, '..Now given Sep is infamous for being the worst month of the year for the US stock market due to annual negative seasonality effects and PLUS the fact that we had such a sizable rally from April to July this year, I place the probability of a stronger price pullback or correction at about 70-80%..' . and . '..My bias in Sep-Oct is to see a retracement of SPX towards at least the 38.2% level at 4181+/-. 4181 coincides with the purple uptrend line since the Oct 2022 lows and 4181 is also close to the top of the Cup and Handle formation that triggered the current rally..'
. SPX (S&P500 Index) hit a low point @ 4216 on 3 Oct 2023.. well I guess you could say my Sep memo was pretty much on point... again! See Chart 1 below for reference. Updated 29 Oct 2023: SPX hit an intraday low of 4181 on 25 Oct 2023.
Chart 1 - SPX Daily dated 23 Oct 2023, I am on point.. Again!
Since the US bond market has been the talk of the town of recent days, let me kick off with a Chart that shows the current price relationship of US Bonds relative to US Stocks. For bonds, I use the current 'bad boy' of the mainstream media, the TLT ETF (iShares 20+ year bonds ETF). As for stocks, I use our good ol' S&P500 Index (SPX).
See Chart 2 below which is the price ratio chart of SPX price divided by TLT price (SPX/TLT). As you can see, SPX has been ‘over-performing’ relative to TLT in a very strong unbroken & tight uptrend channel since May 2023.
Chart 2 - Intermarket Analysis of SPX/TLT ratio dated 23 Oct 2023, something has to give..
You see, most things 'revert to the mean' in the world of finance, thus for this relative price ratio between stocks & bonds to 'correct' OR 'normalize', i.e. in Chart 2, for the current ratio at 51 to move down towards back to the yellow rectangle zone at 40, either:
A. SPX price comes down while TLT stays put (meaning stocks correct & bonds stay put) OR
B. TLT price goes up while SPX stays put (bonds rally & stocks stay put) OR
C. a combination of above both (bonds rally & stocks correct)
In a nutshell, when bond yields are this high, the risks of something 'breaking' in the economy or in the financial markets are increasing and the current stock market (SPX) weakness is reflecting these risks. Note also VIX (Fear Index) has also risen above 20 in the past week.
In Sep 2022 & Mar 2023, the UK gilts & US regional banks got into trouble respectively as interest rates spiked to 4%. At 5% today, are there any more systemic unknown unknowns or known unknowns that may be lurking in the global economy or in the financial system waiting to implode?
Chart 3 below shows the periods of US interest rates spikes since 1962 and the economic and/or financial crises that ensued. Now the interesting part is this - when an economic or financial crisis do implode, it is likely the FED will go back to its usual playbook of cutting rates, which is good for the bond markets.
Indeed at 5.25% Fed Fund rates today, the FED does have the 'runway' to cut rates if it wishes to. Lastly, the records shorts by hedge funds and record volume transacted in TLT ETF in the past weeks does 'smells' of capitulation (see Chart 4 below).
Chart 3 - Of rate hikes and ensuing crisis
Chart 4 - TLT ETF RSI & volume dated 23 Oct 2023, positive divergence & signs of capitulation?
Now moving back to stocks aka SPX, let's review how my Fibonacci support levels for SPX has been holding. Again, from my last memo:
'..My bias in Sep-Oct is to see a retracement of SPX towards at least the 38.2% level at 4181+/-. 4181 coincides with the purple uptrend line since the Oct 2022 lows and 4181 is also close to the top of the Cup and Handle formation that triggered the current rally..
However, the 50% retracement is more likely the probable target as 4049 is the downside target of the Head & Shoulders Pattern should price action breaks below the 18 Aug low authoritatively at 4335..'
My above view still remains intact. In the short to medium term, I'm still in the camp of more bearish price action with a correction target zone capable of reaching between SPX 4200 to 4000. This, as mentioned above, corresponds roughly to the 38.2 to 50% Fibonacci retracement levels. See Chart 1 above.
However, I will also admit that Mr Market (SPX) so far has been holding up much better than what I expected, given record bond yields, rising oil price due to the Israeli war and uncertainty over Congress speakership.
As we enter into the final year of the 4-year US Presidential Election Cycle, I'm biased towards a bullish resolution for both the equities & bonds markets in 2024.
Key Takeaways: 1. In the short to medium term, I favor TLT (bonds) outperforming SPX to bring down the SPX/TLT ratio to a more reasonable level.
2. Quote Unquote Mr Joe Duarte of Stockcharts.com: '..This (spike in bond yields) is unsustainable, which means that when the reversion to the mean occurs, it should be quite sizable. If there is no reversion to the mean, then the bond market is being redefined. I don't know what that means, but it doesn't sound like it would end well given its central role in global finance..'
If the US bond markets gets 'redefined', I reckon all investors should start to worry about 'Return OF your Capital' rather than the 'Return ON your Capital' across multiple asset classes.
3. In the short to medium term for SPX, I'm biased for further corrective action towards my target at 4200 - 4000.
4. Peering into 2024, I'm biased towards a bull market in both SPX (4th year of US Presidential Cycle historically is bullish) and bonds (a sizable reversion to the mean trade).
5. In my 8 Sep memo, I also mentioned that our beloved Straits Times Index (STI) is likely to react with a sympathy correction in line with her US big brother, with a target zone of 3150 - 3050.
In case you aren't aware, last Thursday (19/10) STI hugged around 3100 for a full seven trading hours before closing at 3100.36. This speaks volume on the significance of 3100 as the 1st support level. See Chart 5 below.
Today (23/10) STI closed at 3053.36, three points away from my 2nd support level 3050. So, is the correction over yet for STI?
Chart 5 - STI 15-min intraday chart dated 19 Oct 2023, sure hugs like a koala bear!
As usual, Live Long & Trade Well! . Thank you & regards . Thomas Ng, CMT Principal Trading Representative 首席股票经纪 www.thom-ng.com . #plsreaddisclaimer #chartforillustrationonly #spx23oct23 #TLT23oct23 #bondyieldsspike #reversiontothemean #STI23oct23 #showmethechart #tellyouthenews #befluid #wytant #livelongandtradewell Chart source: tradingview / RIA Image source: Unsplash'
New update to the the stock/bonds price ratio Chart (aka SPX/TLT) dated 29 Oct: In a span of 5 market days from the release of my memo, said price ratio chart has moved down back to the lower boundary of that tight uptrend channel (see Chart 6 below), ie from a close of 50.75 on 20 Oct to 48.8 on 27 Oct.
This can be attributed to point A as mentioned in my memo above (in red fonts): 'A. SPX price comes down while TLT stays put (meaning stocks correct & bonds stay put)'
Stay tuned to see if this price ratio can continue to break down from the uptrend channel and move down towards its more reasonable range of about ~40.
Chart 6 (reference to Chart 2 above) - Intermarket Analysis of SPX/TLT ratio dated 29 Oct 2023, something has indeed started to give..