The Week Behind 

It was another down week for markets. Core PCE was hot. US Treasury Yields and the US Dollar continued upward. Hawkish FED speakers offered no reprieve. The S&P500 and DOW both closed at new 52W lows, losing ~3% in the process. The NASDAQ finished 2.69% lower, but remains ~10 points above its June low.  

Highlights

• Headline PCE registered a 0.2% MoM decrease, but Core was 0.2% higher than forecast: 4.9% actual v 4.7% forecast.
• To stabilize their collapsing financial markets, the BoE initiated quantitative easing (QE), becoming the first central bank to pivot from the global tightening cycle implicitly coordinated by central banks at the beginning of this year.
• Nordstream was sabotaged, increasing the risk of an energy supply shock, especially in natural gas if a bad winter prematurely drains EU stockpiles.
• Each session this week, the VIX closed above 30, which suggests panic is building.

A Yield Driven Market

Currently, the biggest stock in the S&P500 is Apple (AAPL). Consequently, AAPL’s daily price moves have the most impact on the S&P500’s daily price moves.

On Wednesday, AAPL got hit with a rare downgrade. It finished the day down ~2%. The same day, the S&P500 gained 2% in it’s only positive day for the week. 

Shouldn’t the S&P500 have fallen along with APPL? How did the S&P500 manage to double AAPL’s performance despite the high concentration? 

What else happened that day? The US10YR and US2YR retreated 20bps and 15bps as the BoE initiated QE. 

The next day, US yields returned to elevated levels. The next day, the rally in the S&P500 completely evaporated.

On Wednesday, AAPL, the most influential stock in the market, told stocks to fall. Treasury yields told stocks to rally. The broader market listened to treasury yields over AAPL and rallied. On Thursday, yields told stocks to fall. The broader market again listened to treasury yields and sold-off. In conclusion, we are in a yield driven market: US treasury yields are the most dominant force, capable of generating broad rallies and sell-offs regardless of competing forces. 

The Week Ahead

Earnings will not provide much distraction from economic releases and FED speakers. On Thursday, McCormick (MKC) and Constellation (STZ) may provide some insights on global supply chains. While important, this week’s conversation will likely center on the labor market for two reasons. First, we have nonfarm payrolls on Friday. Second, albeit food and housing remain a focus, the FED appears to have identified unemployment as their principle gauge to measure the effects of quantitative tightening and the persistence of inflation. 

Aside from payrolls on Friday, there is a plethora of jobs data this week: 

• Tuesday: August job openings and quits 
• Wednesday: ADP employment 
• Thursday: Initial and continuing jobless claims 

As per payrolls, last month was 315k; the forecast for this month is 275k. Given how the market poorly received CPI, which was below the prior month but above forecast, I think payrolls will need to come in below the forecasted 275k to meaningfully stabilize markets. However, regardless of what payrolls is, the bond market’s response will be what to watch. It could set the tone for October.

October: A New Direction?

To start the month, the US2YR and US10YR yields will still be in a strong uptrend. No sign of weakness in the US Dollar. The S&P500 and DOW will start at fresh lows. The NASDAQ is not too far above its old low. VIX price action suggests panic is mounting.

On the other hand, multiples have compressed enough on the S&P500, ~16X P/E, to fully price-in the 3.8% US10YR. Conditions are ripe for a bounce: sentiment overwhelmingly bearish; technical indicators overwhelmingly oversold. 

Keep in mind, if the US10YR reaches 4%, then the historic multiple on the S&P500 moves down a turn to 15x. Furthermore, bearish sentiment can continue to gather; technical indicators can get more oversold. So, we need to ask ourselves a few questions: Barring geopolitical developments, what can change? Would the change be enough for a relief rally or something more?

As I see it, the two primary concerns are the labor market and earnings. On Friday, watch how the bond market reacts to payrolls. If yields retreat, and remain subdued, it could serve as an endorsement of the report and be the greenlight required for a short-term rally: 2-4 weeks. If yields rise or do not budge, then we could be in for a continuation of September. 

October marks the beginning of the final earnings season of the year. Investors are asking themselves how many more FedEx’s – inexplicably bad earning misses – are lurking. Investors appear even more convinced than they were last quarter that earnings would dramatically disappoint. If they do, more downside, especially in single-stocks. If they do not, or come in better-than-feared, it could corroborate a relief rally, forcing negative sentiment to unwind and investors to reposition similar to June’s rally.

Ultimately, while both are adequate for a relief rally, I do not think either, even together, would be enough to send the bear back into hibernation. This bear market is a creation of FED tightening and will end when tightening ends. The payroll report could be a step in the right direction on that timeline, but earnings’ biggest role will be in setting the bottom for equities by providing, hopefully, a robust earnings (E) number for P/E. Absent a pivot catalyzed by something breaking – like the bond market in England – I do foresee tightening concluding this month; thus, I do not see the bear market ending in October. 

However, given both technical and fundamental levels, a wide range of statistics now suggest that prices are often higher 12-36 months from now. In short, if you are a long-term investor, a stats-based strategy would tell you to remain patient and disciplined, not panic sell, and continue to dollar cost average (DCA). To end on a personal note, typically, I DCA on Mondays. However, I have noticed the market has been subject to some nasty Friday sell-offs. Last week, I decided to change my DCA day to Friday. I plan on keeping it on Fridays until Thanksgiving or the market convinces me it can close a week without a panic attack.