Market Outlook Tuesday July 23

While for the most part yesterday’s trading in US equities may be labeled as a boring summer Monday trade, a few more eyebrow raising observations could still be made.  As the S&P 500 did its best to hug the flat line, I first noticed how extended the banks are past their 200 day simple moving average.  In specific, the KBW Bank Index is now trading a solid 20% above this moving average, which albeit not any new record, still is historically an area where this index began to look tired and soon thereafter slipped into a mean-reversion move lower.  As a side note, the financials again yesterday lead the tape higher, with the Financial Sector ETF (XLF) rallying roughly 55bps.


Speaking of mean-reversion moves, my market outlook piece yesterday led to quite a few reader questions surrounding my expected timing and depth of any pullback in stocks.  As such, allow me to again make clear that while my portfolio is currently tilted to the short-side, I am trading around my short positions with quick long and short-side trades for cash flow.  Second, I consider US stocks to have become a very crowded trade but in expecting near-term weakness in stocks I first and foremost am looking for a mean-reversion move lower as the steepness of the slope in US equities simply isn’t sustainable at this rate.  Once some mean-reversion has set in, anywhere from 3% – 5% lower, I would expect a second leg lower in equities, also around 5%, to finally lead into a better bottom-making process around the October – November time-frame.
Given the strong push off the November 2012 lows in stocks, I imagine we could well see a final overshooting in the S&P 500 toward the 1700 – 1720 area, which would thus target a first pullback just around the 1600 area with a second push toward 1500 – 1530.

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The home building stocks as measured by the PHLX Housing Sector index (HGX) has been a notable under performer off the June lows if compared to most US equity indices.  The higher interest rate environment is to weigh on these names (or so the theory goes), which eventually and logically also will lean on other sectors at least until the first shock to a marginally higher interest rate environment is absorbed.

Through a pure technical lens the HGX is tracing out a bearish topping pattern with a clear neckline around the 175 mark, which from here, if and when reached, may also offer a good first reference level to measure downside momentum in the broader stock market.




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