Navigating the Markets

I hope that everyone had a good ChopEx trading week! Now it's time to grab your favorite beverage and dig into this weekend's Navigating the Markets.

CPI came in lower than expected, across the board. Even Core CPI is showing signs of improvement as it graced 4% year-over-year. Monthly core also decelerated from 0.3% to 0.2%, demonstrating that even on smaller time scales we are seeing some welcome slowing.

Slowing inflation tends to mean slowing demand, however, and that slowing demand is likely to weigh on Q4 GDP as we see signs that consumers are slowing and the positive fiscal impulse from sizable late cycle government spending is wearing off.

Underneath the surface of the NASDAQ Composite, we can see that even during this impressive rally, new lows have continued to outpace new highs week-over-week. That tells us that there remains a rather neglected, if not beaten down part of the market within tech.

Similarly, the percentage of NASDAQ stocks above their 200-day moving average is only at 31.22% after the recent NASDAQ surge higher. That's rather low given where the market is right now, but a lot of that has to do with mega caps outperforming other growth factors.

For example, plotting the New York FANG+ index vs small cap growth tells a rather harrowing tail of small caps languishing as mega caps surge. Whether one expressed this as a pair trade, or was simply long mega caps, 2023 was a great year. For the rest of the growth space, not so much outside of a handful of outsized winners.

Will 2024 be the year that this paradigm flips on its head? It would certainly be a welcome change of pace to see broader upside participation from small caps and equal weight. After all, every bear low since 1982 that transitioned into a new bull market has been led by the small caps and equal weight, not the largest companies.

Early indications are, at least, that we're seeing value begin to outperform across multiple size factors, which may be an early indication of a rotation underway.

Retail continues to remain rather bullish for the second week, with one of the sharpest rises from sentiment lows since the banking crisis earlier this year.

Managed money remains somewhat more conservative, with their sentiment in the neutral zone, after retreating during the correction that markets experienced from August through October.

Equity fund flows had the second biggest buying flows of 2023 as investor optimism rises about the prospect of a 'soft landing'. A view that has become the consensus baseline.

Large cap funds saw the largest inflows since February of 2022, which doesn't exactly spell confidence in risk taking. I'd be much more excited if we saw small cap funds with an enormous surge of inflows (rather than just aggressive call buying in IWM and short covering in RUT futures).

Financials also saw inflows, with these funds attracting investors in aggregate for the first time since July of 2023, when the market was going through a euphoria phase.

Meanwhile, Treasuries saw outflows for the first time since February, which is quite interesting given how strong these flows have been. This may just be a blip, but if it continues I would be curious about what that means for yields moving forward.

I still believe that the yield curve will steepen out of inversion with the long end rising rather than the short end falling, which would suggest that 10s, 20s, and 30s may have more upside in terms of yields if I am correct.

What would change that view, however, is a sharp economic slowdown that could inspire a rather aggressive bid for the long-end.

Last week managed money continued to add to their net long positioning. We're nowhere near euphoria, but the trough to current level rise is rather aggressive and suggests that many funds were chasing performance and window dressing into the end of the year.

Going into next week, we're unclenched from the big magnet of positioning that had markets continually flirting with SPX 4500. The wall of calls has also notably moved higher to SPX 4600.

Here are the key levels to watch going into Monday. Our Traderade+ Discord bot refreshes these every minute during the trading day and can be queried by using !spx to receive this information.

The most important levels are emboldened for emphasis:

Key Level: 4800.0

Key Level: 4750.0

Key Level: 4700.0

Call Wall: 4600.0

Key Level: 4575.0

Gamma Level: 4550.0

Key Level: 4515.0

Vol Trigger: 4500.0

Gamma Level: 4450.0

Gamma Flip: 4446

Gamma Level: 4400.0

Put Wall: 4300.0

The sheer magnitude of positioning that remains at SPX 4500 with both puts and calls suggests that this level is a key volatility trigger. Pushing meaningfully below it (10+ handles) could unleash significantly more pressure on the market and amplify realized volatility, particularly now that we're in a period with much less supportive passive flows.

We remain in positive gamma territory, with the gamma flip level calculated at SPX 4,446 by our naive model. Moving below that level would also have the potential to increase volatility, as dealers would be more likely to have hedging that resembles selling dips and buying rips. Right now we are in the opposite paradigm, and that helps to compress volatility along with 0DTE SPX options trading being about 50% of daily volume.

Last week we saw an aggressive bid in financials, cyclicals, real estate, industrials, and components of utilities and basic materials.

WMT declined significantly after it sounded the alarm on the health of the consumer, a somewhat ominous sign as WMT caters to the bottom tier of earners and many consumers shifted towards WMT in order to save funds.

A familiar theme resumed last week, and that was OJ leading the commodity market higher. We also saw significant short covering in palladium and platinum.

The VIX fell almost 9%, and we're now at a point where I dare say volatility looks cheap again.

Next week is a holiday-shortened week with the US stock and bond market closed on Thursday and an early close on Friday.

We get FOMC minutes over the sleepy holiday week on Tuesday, which could be the largest event volatility catalyst we see. Many observers will be parsing them as November was another meeting that was driven by data, so the internal discourse at the FOMC is likely to attract some attention.

We also have a few key Treasury auctions, with 20s on Monday, then 10-year TIPS and 2-year FRNs on Tuesday.

Earnings releases will be rather muted, with Monday and Tuesday being busy days and then the week trailing off from there. A few key retailers report, like Lowe's Kohl's, Best Buy, Dick's and some intriguing tech names such as Nvidia.

After a remarkable surge in equity prices over a rather short period of time that once again left a large swath of the market behind, one wonders what's coming for the rest of the year.

Did we just see the Santa Claus rally come early? Is that it?

Time will tell, but for now I am much more interested in the uncorrelated returns that swing trades in commodities, currencies, emerging markets, and pairs can provide.

Stay nimble out there, friends!