S&P500 to Bounce in the Short Run?

So the S&P 500 did rise in the last week, as we suggested it might do one week ago. The index logged a 1% gain and it did so on higher volume. But not to be deceived, the activity for the week was very volatile and on several days the index was down substantially intra-day, and on those days volumes moved markedly higher, only to end the day with gains. In other words, volume rose last week not simply because investors were pouring into the equity markets but because many investors were actually exiting the markets when the indices were down…..albeit intra-day. Volatility also see-sawed, spiking when the stock markets were selling off, but since the markets ended the week higher, the VIX index finished the week lower than the prior week’s close.

Almost every single economic report last week missed expectations. Some, like the Chicago PMI release, plunged down into clear recession territory. But the big news story of the week was payrolls, and it was a massive miss.  Instead of rising to the expected 203,000, up from 173,000  the prior month, payrolls came in at only 142,000. To add insult to injury, the average workweek fell, and average hourly earnings also disappointed. The labor force participation rate registered its lowest reading since 1977. In short, the US jobs picture was a disaster.

So what did equity markets do?  Counter-intuitively, they celebrated by jumping higher on the news.  Why?  Simple—they concluded that since the news was so bad, the Fed has no choice but to delay the much-anticipated rate hike in the fed funds rate, the first since 2007.  In fact, traders shifted their expectations on when this first hike would occur from late 2015 to sometime in late 2016.

And there you have it—the catalyst for the short-term bounce in US stocks that we described last week as a very plausible scenario.  And when a big reversal like this happens in markets, there is often a decent follow-through. This means that the bounce that began last week can easily persist for another several weeks.

Technically, the downside break that happened in August would not be reversed until stocks first regained the 50 day moving average, which will act as resistance (this is roughly around 2,000 on the S&P500) and then the 200 day moving average (this is roughly 2,060 on the S&P).  The resistance at the 200 day should be even stronger than the resistance at the 50 day.  In other words, many traders will be looking to “get out” of underwater positions that will reach break even around the 200 day moving average.

So now we need to wait and see if this bounce is just a short-term event that turns back down at resistance, or if it’s the resumption of the multi-year bull market. At this point, it’s nothing more than a bounce in a down market. But we will know with more certainty over the next few weeks.

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