Equity trends remain bullish from early August but structurally have reached levels that represent a poor risk/reward over the next 5-6 weeks. The post-election surge for US Equities produced a multitude of breakouts of various triangle patterns on numerous stocks and indices. However, despite the strong price strength, the lack of broad-based breadth and momentum follow-through remains a bit troublesome. US Dollar and US Treasury yields both appear vulnerable to weakness which likely gets underway by November expiration, a time when US Stocks also could show some evidence of requiring consolidation. While some choppiness could happen in the short run, I still anticipate that the back half of November should produce consolidation given cycle composites, Elliott-wave theory, DeMark exhaustion signals and near-term breadth deterioration. Bottom line, while trends are bullish, I think it’s wise not to get too complacent given the numerous factors that are suggesting a potential short-term pullback could get underway in mid-November.
Tuesday’s mild weakness failed to give too much proof of impending weakness, but market breadth figures turned more sharply negative, with NYSE data showing more than 3/1 Declining to advance issues. Small and Mid-cap issues fell more than 1% during the session, while China’s FXI made a bearish breakdown, which argues for additional weakness in the weeks to come.
10 of 11 sectors fell in trading on Tuesday, with Materials, REITS, Technology, Industrials, Healthcare, and Consumer Discretionary all declining more than -0.70% in Equal-weighted terms. The US Dollar and US Treasury yields managed to show strong rebounds, yet most technical charts show an upside for these as also proving limited in the days to come.
As shown below, the act of having rallied into Tuesday’s close fails to present too much of a bearish picture just yet. Rather, mild consolidation after having stalled near the top of the ongoing resistance channel presents more of a choppy, range-bound scenario for the next week. Even if SPX were to manage to push back up above Monday’s intra-day peaks of 6017.31, I expect that the recent deterioration in breadth will grow more intense in the next week, and the upside should prove minimal.
Overall, the picture below shows an index which looks to be up against a meaningful level. Yet, I’m not sure we get too much weakness just yet until SPX enters the 11/17-11/21 timeframe.
S&P 500 Index
Financials have managed to break out on relative charts vs. S&P 500 going back since 2017
One observation which investors might miss when viewing charts of XLF as a way to view the Financials sector concerns the degree that this group has strengthened in the last week.
The ratio chart of Equal-weighed Financials vs. equal-weighted S&P 500 (RYF vs. RSP -0.72% ) has just surpassed the downtrend, which has marked prior highs in this ratio going back since 2017, over seven years ago.
This makes Financials clearly still a bullish sector, in my view, and by extension, the S&P 500 on an intermediate-term basis, given Financials weighting within SPX.
Some of this recent acceleration happened as Small-caps kicked into gear following last week’s election. The hopes for deregulation helped to spur on Regional Banks, which directly benefited as Small-caps showed outperformance.
However, for this relative chart of Financials, this past week’s progress proved to be quite constructive for the Financials sector, which has quickly begun to show some impressive evidence of outperformance.
Financials have shown such tremendous strength that RYF is the best performing of any of the 11 sectors on a 1 and 3-month basis, with returns of 6.95% and 19.04% respectively.
Technically, this group is Overweight, and recent strength likely can help this relative strength continue into 2025, even if not in a straight line.
The chart below highlights the relative ratio of RYF vs. RSP -0.72% .
RSPF/RSP
High Yield spreads have grown dangerously tight, but we have seen these levels before
It’s important to note that Junk bond spreads (used interchangeably with High Yield) have just plummeted back down to multi-year lows in the past few sessions.
While Treasury yields have been rising over the last two months, there hasn’t been any real concern with regards to “High Yield”.
The overlay of LQD, the Ishares Iboxx Investment Grade Corporate ETF, and JNK, the SPDR Bloomberg Junk Bond ETF are shown together in the upper half of the chart below.
However, the bottom half of the chart is more illuminating, as this graphs the ratio of LQD to JNK which has more significance. Generally, given that JNK is priced in Dollar terms, a rise in Treasury yields might make it seem like JNK is falling. However, this doesn’t present the full picture.
By viewing the ratio between LQD and JNK, investors can get a feel for when LQD is beginning to show sharp outperformance vs. JNK, which would signal underperformance in High yield bonds.
Looking at the current spread, between Junk bonds and Treasuries, it’s rarely been so tight, and only has happened a handful of times since the early 1990’s.
The tightest Junk bond spread vs. Treasuries occurred in 2007, or just 20 basis points away from current levels.
Overall, until this spread between LQD and JNK starts to break out of its downtrend and begin rising, it’s right to say that the market doesn’t seem to view this recent uptick in Bond yields as all that troublesome. Moreover, current tight levels of this spread aren’t really unprecedented and have certainly traded at these levels before.
LQD and JNK ratio
China’s FXI breakdown warrants concern in the next 5-6 weeks regarding additional weakness
FXI -0.28% (Ishares China Large-cap ETF) has violated support at 31.22, which likely leads to weakness down to at least 29.42, but more likely 28.28 or down to 26.83 into early December. This is a short-term bearish development and warrants patience, as the decline likely will extend over the next few weeks.
At present, I see this weakness as short-term only, and investors could look at December as possibly providing support for this post-rally consolidation.
It’s fair to say it’s right to hold off on judging how potential tariffs might affect China’s recovery until they are better understood. However, at present, the decline in FXI does look to break an important near-term area of technical support, which should result in weakness between now and mid-December.
Thereafter, I expect some stabilization and the start of a rally back as 2025 gets underway.
iShares China Large-Cap ETF
