TSP Talk: Follow the money

Stocks were down on Friday despite an initial rally at the open following the release of some key bank earnings. The bears took over, that is until later in the day when we saw something that has become a pattern recently, which is buying into the final hour of trading. The bulls couldn't quite get the indices back into the green but the losses in the major indices were well off those morning lows. Bonds were down as yields and the dollar rallied.

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This is something that I have been talking about for a few weeks now, which is that the economic picture looks questionable at best, but the stock market seems to beg to differ as the action - in some indices, looks really good.

Do the S&P 500 and Nasdaq charts look like charts that are worried about the economy and weakening earnings? Hardly. Other than some possible double top pullbacks, this looks like they want to breakout to new highs. Why? The market seems to see something on the horizon, but as we'll talk about down below that reason may be the Fed Balance Sheet, but that may be about to change.

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On the other hand we have the small caps and financials, particularly regional banks which populate the Russell 2000 and our S-fund, whose charts show a completely different picture, although they are nearing some key pivot points. They are either on the cusp of a breakout above the descending resistance and potentially ending the bearish trend, or they are in the final phase of bearish flags that could be the end of the line for the attempted rally off the lows?

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There are more bank earnings coming out this week so this chart is particularly pivotal.


Follow the money.

Since the 2008 financial crisis, the Fed has been feeding the financial system with liquidity and the stock markets have feasted on it. When the cash is flowing, banks are lending, companies are investing, and the good times are rolling. However, the problem is it eventually can lead to inflation. It certainly took long enough and the influx of the COVID stimulus put that over the top and got us into the current inflationary environment.

In 2022, when the Fed started to reduce their balance sheet because of the inflationary problem, money was tighter, lending became more difficult as interest rates moved up, and of course we got the bear market last year.

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The recent banking crisis with bank failures popping up, surprised the Fed, and they started to get a looser with their money again. And what happened since, stocks have been rallying. But look what has happened in more recent days. The balance sheet is rolling over again, so is the stock market rally also going to be reversing as well?

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And of course we now have a Fed who may be near the end of its hawkish interest rate policy and may consider pausing or even cutting interest rates, depending on the data, of course. The stock market may be anticipating that and the buying may be front-running that announcement, as the stock market tends to do. History suggests that when the Fed starts to cut rates after a period of increases, the stock market does the opposite and actually starts to react to the expected recession. The rising interest rates negatively impacts the economy, and thus the Fed eventually cuts to "save" the economy but historically, before the fix is done, the stock market experiences a major correction or bear market, as this chart from Hussman Funds illustrates. The green lines represents those "pivots" from the Fed.

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Chart source www.hussmanfunds.com/

From hussmanfunds.com: "Meanwhile, given the possibility that the Fed will either hike and pause, or pause entirely, it’s worth remembering that the bulk of recession-associated bear markets in the stock market occurred after the Fed pivoted away from further rate hikes. A “pivot” typically reflects the Fed’s assessment that something just broke."





The S&P 500 (C-fund) is in what looks like an "F" flag within a rising trading channel. F-flags can drift higher for quite some times, but they do tend to eventually break down, and with the S&P nearing the prior highs, there is a good possibility of a double top pullback occurring soon. That said, the trend is your friend and the bulls will likely stay the course until they are told otherwise with a change in momentum. We still have an open gap near 3975. (See what I mean about open gaps having us constantly looking over our shoulders?)

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The DWCPF (S-fund) has failed several times now at that 50-day EMA, which is currently at 1664. The descending resistance line is back in the picture, and the bear flag is still intact. As bullish as many charts look, this one looks vulnerable here.

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The I-fund (EFA) does not look as vulnerable, that is as long as it stays in that rising trading channel, and remains above the February high, and the dollar remains in its downtrend.

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BND (Bonds / F-fund) has been pulling back ever since the failed breakout earlier this month. With yield rising recently, the market seems to be pricing in the possibility that the Fed may not be ready to stop cutting interest rates.

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Thanks so much for reading. We'll see you back here tomorrow.

Tom Crowley




Posted daily at www.tsptalk.com/comments.php

The legal stuff: This information is for educational purposes only! This is not advice or a recommendation. We do not give investment advice. Do not act on this data. Do not buy, sell or trade the funds mentioned herein based on this information. We may trade these funds differently than discussed above. We use additional methods and strategies to determine fund positions.
 
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