Stocks opened higher this morning before giving up their gains shortly thereafter. The Dow, S&P, and Nasdaq Composite were all trading significantly lower through noon as yields shot upward.
The 10-year Treasury yield, in particular, climbed above 4.00% – a key level we’ve identified in the past as an absolute “rally killer.”
But prior to the mid-morning dip, optimism was riding high among traders due to news out of the UK that PM Liz Truss had fired finance minister Kwasi Kwarteng.
Kwarteng was the architect behind the disastrous mini-budget that caused the pound to plummet in late September. That eventually spiraled into a UK government bond crash, which forced the Bank of England to buy bonds to avoid a “death spiral” to zero.
Kwarteng only served as Chancellor of the Exchequer for 38 days, making his reign the shortest among post-war chancellors who did not die while in office
Truss then gave a speech saying she would revert Kwarteng’s planned tax cuts (part of his mini-budget) along with his big spending plan. The PM continued, adding that other ministers could soon be sacked as well.
This immediately caused UK yields to fall, leading to a temporary equity rally in the US. But analysts weren’t necessarily happy with the news.
“Just to get this clear, never in the history has there been so much instability and churn in the First Lord and Second Lord of the Treasury. That’s 301 years by the way… that’s one figure that doesn’t need checking by the OBR,” tweeted University of Buckingham former Vice-Chancellor Sir Anthony Seldon.
Jeremy Hunt, the UK’s former foreign and health secretary, will take Kwarteng’s place as finance minister.
And though a dip in British yields was initially received as bullish, bearish forces in the US seemed to dash any continued shift in sentiment.
Mark Haefele, chief investment officer at UBS Global Wealth Management, summarized the situation nicely in a morning note:
“With core CPI still moving in the wrong direction and the labor market strong, the conditions are not in place for a Fed policy pivot, which would be one of the conditions for a sustained rally in the equity market,” Haefele wrote.
“Moreover, as inflation remains elevated for longer and the Fed hikes further, the risk increases that the cumulative effect of policy tightening pushes the US economy into recession, undermining the outlook for corporate earnings.”
In other words, the UK’s newfound stability won’t save the market from its very bearish predicament. Yields are still rising.
And, until they fall, stocks should remain in a downtrend amid a whirlwind of economic uncertainty. Does that mean it’s time to load up on more bearish positions, though?
Bear market rallies and trading sessions like yesterday’s make it tough to be a bear, even in a market that has done little but go down.
JPMorgan trader Ron Adler articulated that concept in a note last evening.
“Long story short – no one knows what to do right now. Not. A. Single. Person. Reconciling the economy, positioning, liquidity, global macro crosswinds and the impact on the world’s ~500 largest companies has never been easy, but it feels downright impossible right now. But when everything is negative, it’s very easy to be bearish in sentiment but it’s very hard to manage such positioning,” Adler wrote.
He’s right in that managing a portfolio in today’s market has grown to be a headache-inducing endeavor for most investors. For short-term, trend-following traders, however, things have been pretty good.
Sure, there have been momentum-breaking blips on the way down since late August, but the market usually followed through on its bearish breakout setups of the last few weeks.
Apple, for example, plummeted somewhat consistently since topping out on August 18th. Trend-following bears loved the stock for doing so. Wall Street trading desks, by comparison, have mostly gotten scorched via hazardous dip-buying.
And that “pain trade” should continue so long as yields stay elevated, especially if the Fed unveils a 100 basis point hike – something that might actually happen now thanks to the September CPI reading – at its next meeting.
