Key Takeaways
- Stocks weakening specifically as US Dollar and Treasury yields are pressing higher
- DXY pushed to multi-day highs post ECB, and both DXY, TNX should push higher
- Small-caps have begun to outperform Large-cap which I see as constructive
Well, the short-term sideways consolidation was officially broken Thursday, setting up for a test of a very important SPX-3982, which marks the peak of the first rally off the 5/20 lows. Providing this holds into next week, it’s still highly likely that S&P bottomed on May 20 and any pullback should prove minor and buyable. As discussed, I view Technology to have made a very impressive initial move off the lows, and breadth expanded measurably. In recent days however, stocks have weakened on much lighter volume and remain above important “lines in the sand” for SPX on pullbacks. Key for risk assets revolves around the US Dollar and yields pressing higher, as these rallying have coincided directly with S&P starting to weaken since June got underway. At present, Equity index selloffs should prove temporary and despite Thursday’s weakness, it looks difficult to chase this decline on light volume heading into a very important jobs report Friday morning. While the back half of June might prove challenging, I’m still expecting that late June holds for pullbacks and should give way to a much more robust rally into September.
US Dollar index likely to push back to new highs into June FOMC meeting before peaking out
Thursday’s economic data shed some light on a key development that is very important to highlight when considering the path for US risk assets.
Specifically, the US continues to tighten policy much faster than the Eurozone, or Japan, and this relative dovishness out of Europe is resulting in the US Dollar being far stronger than Euro, Pound Sterling and, as discussed recently, the Japanese Yen (ECB set plans to hike just 25 bps in July, and is finally showing some minor evidence of a pivot to tighter policy).
Overall, I don’t feel like Dollar strength will last much longer, and there’s already been evidence of some slowdown after successfully testing 2017 highs. DeMark exhaustion is now present on weekly and monthly charts for DXY, and Elliott-wave patterns along with cycle composites show this to be “potentially” the final push up in DXY from its Spring lows last year.
Bottom line, the near-term trend is bullish for the US Dollar, but expect that rallies into next week’s FOMC likely prove short-lived and we’re getting to attractive risk/reward zones to be long the Euro and also Pound Sterling. The next few weeks could bring about a test and move to new monthly highs in both DXY and also TNX before both start to rollover for a prolonged pullback between July and September.
Euro and Pound Sterling both turning back lower
Both Euro and Sterling have rallied vs USD up to key make-or-break areas of trendline resistance and look to be turning lower, specifically after Thursday’s ECB meeting, which discussed the (in my view) “shaky” plan for how rates are going to be hiked as the Eurozone finally stops buying assets in July (with inflation targets set at 6.8% for 2022).
I expect both EURUSD and GBPUSD push lower in the next 1-2 weeks, and like being long UUP in the short-term (Invesco DB USD Index Bullish Fund ETF, for those traders who are seeking ways to be long the Dollar via ETF). Another interesting option is EUO, which represents the ProShares UltraShort Euro.
Small-caps have begun to strengthen vs. Large-caps
Finally, it’s important to mention that Small-caps have started to show much better strength vs. Large in the last two months. Relative charts of IWM vs SPY have broken downtrends which have been intact since February 2021.
Given the recent weakening in some of the large-cap Technology stocks, Small and mid-caps have begun to trade relatively better.
Overall, I view this as a technical positive, as both Small and Mid-caps both dropped off sharply early in the year, and now look to be making very constructive progress in rallying back. While absolute charts of IWM might not show this progress, it’s very much apparent on ratio charts of IWM vs. SPY. The Biotech ETF XBI which was highlighted yesterday has a very high allocation to Micro and Small-caps, so a move to new multi-week highs is a direct result from Small caps starting to show more strength.
