Markets have neared an important level near February peaks that likely results in a stalling out in US Equity indices this week into/post FOMC. However, barring any meaningful signs of technical deterioration, it’s my opinion that weakness still likely proves minor and might allow for a rally into the middle of May.
The period from 5/17-24 looks like the most important time in May, and if markets are trending up into this period, it’s likely to coincide with a Spring peak for Equities.
As discussed last week, five reasons stand out as being a technical concern as markets have entered May, regardless of any real signs of technical weakness have gotten underway:
First, Seasonality turns negative this month following a sweet spot for above-average market performance as part of the four-year Election year cycle. While the first quarter proved to be higher by +7% and April was higher by 1.75% in SPX, May historically has proven negative. Thus, seasonality looks like a headwind this month.
Second, Sentiment has gradually started to improve after five of the six “up” weeks and now a few polls have turned bullish. Both Investors Intelligence and CNN’s Fear and Greed poll are quite positive with Fear and Greed officially showing readings of “GREED.” Moreover, the VIX has plummeted nearly 50% since mid-March.
Third, Sector rotation has proven important to watch carefully. In the rolling one-month period the top five performing Equal-weighted Sector ETF’s were largely Defensive, with REITS, Discretionary, Healthcare, Utilities and Staples representing the top five performers.
Technology on an equal-weighted basis, remains the only one of the major 11 sectors to be negative on an equal-weighted basis on a rolling 1 month return. Note that “FAANG” outperformance has helped XLK 1.35% , but has been ineffective in lifting Equal-weighted Technology.
Fourth, lackluster breadth needs to be watched carefully. April’s market gains failed to coincide with breadth lifting, as measured by percentage of SPX issues above their 20, 50 and 200-day moving averages (m.a.) As charts will show in this report, breadth has withered since late March.
Overall, I suspect that markets stall out this week and this week’s FOMC decision coincides with temporary market volatility. However, I do not have confidence that this is the right time for many investors to avoid Equities, given the low correlations which are providing some excellent opportunities to buy dips. My larger Technical target for the month of May lies at SPX-4300-4325 and rallies to that area in mid-May would likely face much stronger intermediate-term resistance.
See daily SPX chart below with meaningful resistance near-term at February peaks near 4200. Technical gauges of momentum like MACD rolled over into late April and are at lower levels than a week ago despite prices being higher. This will be something to keep an eye on.
VIX likely bottoms out this week (Wednesday-Friday important)
Implied volatility “Vol” is getting cheap. VIX has not closed under $15.70 since November 3, 2021, which was two months ahead of the FOMC announcing their intentions to raise rates and begin QT.
These “Vol” levels are now near levels where the broader market made its all-time high peak back on November 17, 2021, when Russell 2000, DJ Transportation Average, NASDAQ and most of Europe all made their respective market tops.
The severe contango now being seen in Spot VIX vs August VIX futures is now greater than 30% and even vs 2nd month, Spot VIX shows a discount of greater than a 2% standard deviation over the last 12 months.
Overall, given that FOMC meeting is this week and there remains lots of uncertainty about the FOMC’s plan and the endgame for Fed hikes, it looks like VIX could bottom soon from oversold levels.
My thinking of “WHY” the VIX bottoms has to do with three factors:
1. Oversold levels
2. DeMark exhaustion approaching on daily charts
3. Severe discount in Spot VIX vs. 3-6 month futures
As seen below, VIX has plummeted to new yearly lows. Yet, there should be some meaningful support at 14-15 over the next 2-3 days. While this doesn’t need to be a market top, there could be a temporary bottoming in VIX, a pop in implied volatility and then possibly a higher low on any additional SPX rally into Mid-May.
Bottom line, many are questioning “how and why” the VIX is so low, and many fail to realize that bad news does not lead the VIX higher. As a former CBOE Floor market maker, I can relay that implied volatility jumps on unexpected news that that the market is unprepared for, not a steady grind sideways or higher, which has happened in SPX since last October 2022 lows as well as since mid-March 2023 lows.
Overall, my technical thinking is that VIX is very close to bottoming and this could happen this first week of May, likely Wednesday-Friday of this week.
Market breadth has waned over the last few weeks and this is a mild warning, despite US index prices having not rolled over yet
One key takeaway on recent Tech strength is that it hasn’t been broad-based, but rather has been concentrated in the Large-cap Growth names like AAPL, MSFT, GOOGL, META among others.
As previously discussed, Technology is the worst performing of any of the major Equal-weighted Sector ETF’s on a rolling one-month period.
Furthermore, the top five major S&P Sectors which have outperformed over the last 30-day rolling month period on an Equal-weighted basis have been largely all Defensive: REITS, Discretionary, Utilities, Healthcare, and Staples. Not a promising sign. Meanwhile Semiconductors rolled over sharply to break their intermediate-term uptrend line and have not recouped that on recent strength over the last week. Furthermore, Regional banks continue to struggle in trying to bottom. ( I think this likely happens on weakness into late this week or early next)
Percentage of SPX names above their 20-day moving average has dropped over the last two weeks, despite the market having rallied. Moreover, the percentage of SPX names above their respective 50-day moving averages is in the mid-50’s, well below levels seen last November, or last August 2022. (See Green line below)
While breadth picked up meaningfully in January into early February, the rally from mid-March has not been nearly as strong. This bears watching carefully in the weeks ahead.
May Seasonality suggests an early month peak and decline into mid-month
Given that late April proved to be a low on/near that key 4/27 date, I’m questioning whether Equities turn down into mid-May, and this very well might coincide with an inversion and possible peak, not a trough.
This stems from SPX and QQQ having hit new weekly closing highs to finish the month, and little evidence of any technical weakness, outside of some breadth erosion, as discussed earlier.
Pre-election year seasonality of the month of May shows a possible chance for an early month peak in the first 3-4 trading days of the month, followed by a mild pullback, retest and then a steady slide into the 14th trading day.
However, until 3925 is breached, SPX might just experience a mild decline and not undercut 4049 before a push up to 4250-4300.
The first piece of bearish technical evidence that a decline could happen would coincide with SPX-4049 being broken. Until that happens, in my view dips remain buyable.
While many investors latch onto the “Sell in May, and Go Away” slogan, it’s normally right to await actual evidence of market weakness which results in technical deterioration. Despite the warning signs that have begun to creep up in recent weeks, there hasn’t been sufficient technical deterioration to pay attention to just yet which would validate any seasonal concerns.
