It’s easy enough to engineer a meltup in advance of a Fed meeting. We’ve seen it countless times. But, what about after a meeting, particularly one where an actual taper or rate hike is announced? The countdown has begun. Stay tuned.
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Equity markets rarely fail to rally into the end of the year. But, there have been several noteworthy Q4 exceptions over the years, each of them marked by VIX’s bounce off well-established trend lines.
Note that SPX’s yellow channel has been rising at a compouned 12.2% per year since the 2009 bottom – historically a very decent rate of return. With SPX currently testing the channel top as VIX tests the rising purple trend line, SPX is at a critical juncture where it must either correct or break out.
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Futures are off slightly this morning, passing on the opportunity to make new highs in the after-hours.
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In an excellent interview on CNBC this morning, Paul Tudor Jones echoed what many on Wall Street have been thinking and we have been writing for the past year or so.
Inflation could be “much worse” than feared, billionaire hedge fund manager Paul Tudor Jones says. “It’s probably the single biggest threat to certainly financial markets and probably I think to society just in general.” https://t.co/OoMbhdnsm0 pic.twitter.com/yCP11BVELO
— CNBC (@CNBC) October 20, 2021
Has the Fed committed a policy mistake? Most certainly. Even more outrageous, it did so deliberately.
If yours truly, sitting in his home office with a Mac Pro and a public school MBA, can accurately forecast soaring CPI long before the convenient supply-side disruption pretext came along — then the Fed’s brain trust of MIT grads with supercomputers certainly saw it coming even sooner. How did they respond (besides protecting their own portfolios)?
1. changed their inflation target language to accommodate higher inflation
2. lied about their expectations of it being transitory
3. continued to pour $120 billion per month into fixed income markets
4. manipulated interest rates lower with said injections of QE
5. thereby eliminating price discovery in bond markets, potentially permanently
6. reinflated bubbles in virtually every financial and real asset market
7. reduced housing affordability to 13 year lows
8. enriched the top 10% of Americans by $17.5 trillion
9. subjected the bottom 50% to contracting real discretionary income
The kicker is that they are still pouring $120 billion into the markets every month, even though they have publicly admitted that inflation has “surprised” to the upside and is not transitory. This is in stark contrast to Powell’s assurances that the Fed would use its “tools” to prevent such an occurrence.
Now, I don’t for a minute believe the Fed is an evil cabal bent on ruining the middle class and subjecting the poor to unbearable hardship. I believe they entered into the latest round of QE with the intention of staving off an economic collapse and saving financial markets from crashing even further. They successfully accomplished this.
But, somewhere along the way, probably in June 2020 as SPX fell below its 200-DMA for the second time, the conversation turned to making sure the rally continued. It took almost 10 weeks, but on Nov 4 SPX rose above 3393 for the last time. It hasn’t looked back, bouncing on its 50-DMA over and over until last month when it finally backtested its 100-DMA – registering a meager 5.9% decline.
The Fed has demonstrated the astounding power of its tools: ever-increasing oil prices, currency manipulation, interest rate manipulation, and the periodic crushing of vol. But, it has caused, not moderated, higher inflation.
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Futures are up moderately this morning, bouncing 60 points from their midnight lows on a retreat in VIX. Note that it wasn’t a collapse – the usual response when a rally is resuming.
This lack of algo baiting occurred yesterday, too, when ES completed a Head & Shoulders Pattern and backtested it in a fashion that was reminiscent of the old days, when central bankers didn’t “fix” every little dip.
This highly unusual restraint suggests this dip shouldn’t be bought, but is the next stage of a scripted correction we warned about several weeks ago [see: Correction Watch.]
Our downside case remains intact, with an even more bearish Head & Shoulders Pattern up next.
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Once in a while, charts are so crystal clear that we can see the future as easily as we can reflect on the past. Gold is not one of those charts. The zigs and zags come fast and furious and rarely correlate with anything happening in the real world. Witness the indifference this so-called inflation hedge has shown toward the highest inflation in 13 years.
But, the charts have pointed out some excellent trading opportunities along the way – usually by highlighting trend changes (or continuation patterns) that offer strong directional hints.
I thought it might be interesting to reflect on the use of channels. What do they tell us, and how can we use them to guide our trading?
By the time we layer in all the trend lines, Fibonacci levels, moving averages, etc. charts can start to take on a rat’s nest look.
But, if we strip away some of those things, the channels tell a very compelling story. GC’s long-term chart, for instance, starts with a long, pretty well-formed channel. It did a reasonably good job of guiding prices from the late 1990s until 2014.
When it broke down in late 2014, it was a clear signal that the long-term trend had given up the ghost.
We can see that the breakdown followed a pretty clear trend lower, marked by the red channel below. 
When GC rallied out of that falling red channel – a clear buy signal – we were able to construct a less bearish falling purple channel that guided prices for several more years. When GC reached the bottom of that channel, it accurately signaled a good buying opportunity. That signaled was reinforced when, in 2019, GC broke out of it. 
Once a few parallel highs and lows were established, we had a rising channel once again. But, GC broke out of that rising channel, requiring a more aggressive one.
We added the rising purple channel to accommodate it…
…and expanded the red channel to make room for the new highs.
Although it’s a little early to say with any certainty, the rising purple channel is threatening to break down. It obviously sets up a backtest of the rising red channel’s midline (the dashed red line.) If the two of them are breached, it would be a very bearish signal – particularly in light of the drop through the 200-DMA.
Put it all together, throw in some trend lines and other chart patterns, and we get a pretty clear picture that GC is on the verge of a breakdown. The chart doesn’t necessarily tell us which way it will ultimately go, just that we’re at an important juncture – very useful information indeed.
The factors have been busy overnight, seemingly in quarter-end mode to prompt a bullish run for the barn. Will it be enough?
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Futures nailed our 4424 target overnight. Most will attribute it to Powell’s (completely unsurprising) resolve to support the economy the stock market. But, we know that the algos were spurred into action by VIX’s drop back into the falling channel from Mar 2020 and its dip below its 200-DMA.
Remember, it ain’t over till it’s over. Follow this headfake at your own peril.
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Futures reached our next downside target earlier this morning, the Fibonacci retracement at 4348 we added on Sep 9 [see: Just Don’t Call it a Taper.] ES is now off 4.6% since recent highs and 4% since our Correction Watch on Sep 8.
The algo factors, which have propped up stocks for months, are positioned for further losses following their realization that a bounce at the 50-DMA is not guaranteed.
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Watching the “market” melt up and bonds barely budge in the face of all-time highs in the monthly and annual PPI print… 
More grist for the Fed’s “transitory” inflation scenario.
Inflation is no longer dominated solely by soaring oil/gas prices. In other words, not transitory.
Will the party end? Not as long as the Fed can control volatility and interest rates – which are, for now at least, ignoring reality. Tomorrow’s another day…
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S&P 500 futures are soft this morning, flirting with their first drop through the 10-DMA in three weeks and breaking the dashed red trend line from Aug 16.
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