On Wednesday May 18th, the Federal Reserve released the Minutes from their previous interest rate setting policy meeting whereby it offered a general view of desiring to raise interest rates at an upcoming meeting if data suggested it was warranted. The important underlying – and ongoing – piece of that release was the “data dependent” part of the message. I offer “on-going” being it has been a consistent part of FED messages for you count it number of months/years. In a sense, when drilled right down to it, that release was not terribly different than the general theme we’ve heard from the FED for quite some time.
What was different, tremendously different in fact, was the market reaction to said release. To my way of observing at the time, as well as follow-on days of trading after, was collective market participants seemed to ignore the “data dependent” part and focused on the message that the FED was still in the game of wanting to raise interest rates. And with this, in a sense, said participants seemed to have reacted with trading behaviors that the FED must know or see strength that they did not see.
Regardless of their collective take on the release the bottom line left inter-market relationships significantly different over the following days-to-weeks. Generally speaking, markets embraced a more offensively oriented, stronger economy posture versus the more defensive, cautious posture previously displayed.
The epicenter of this inter-market behavioral change lied at the doorstep of the Treasury bond market. Upon the Minutes release, Treasury yields gapped up higher and ended the day much higher reflecting participants view that we had a higher interest rate risk than previously expected on the back of an economic outlook that was stronger than previously believed. The strange part of this was the, “stronger economic outlook” part of the view – being reports were continually showing an uncertain economic landscape.
In light of this, interestingly so, the Treasury bond market never sent yields higher than the day the Minutes were released. There were attempts to do so, but by close of market trading, said attempts had failed. In other words, the bond market seemed to be questioning itself on its initial reaction in light of follow-on economic data.
The sealer, thus far at least, for the Treasury bond market was this past Friday’s important employment release. This release was especially important in light of its calendar proximity to the upcoming FED meeting. If strong it would solidify the view of an expected rate hike and a belief the FED sees the economic landscape stronger than the collective. If weaker, than odds would favor a pause before raising again. The actual result was extremely weak which sent the Treasury bond market in the exact opposite direction of its initial reaction to the release of the FED Minutes. Treasury yields are now solidly lower than they were on May 18th – the release date of the Minutes.
By Friday’s close, the bond market has postured itself that the economic landscape is more tenuous than previously viewed. In addition, with the release of the employment report the FED has further credibility issues to work through as displayed through headlines such as the one below.
Fed, again, left with egg on its face as recovery falters
Friday, 3 Jun 2016 | 1:08 PM ET
The point to all of this as viewed through the familiar SPX9 report is since May 18th we’ve seen the above general story play out within the SPX9 system. If you are a frequent reader you will recognize that SPX9 had generally changed its posture to that of a more offensively oriented tilt. Adding to this, we’ve seen a sudden reversal in the overall H&UP percentage from a down trending 38% overall level to a leap upward to 62% as the collective view solidified around the FED’s view.
As of this most recent week, SPX9’s overall H&UP has increased marginally to 64%. Interestingly, within SPX9 by week ending, we see an increase in defensive sub-industries and a decrease in offensive sub-industries on the margin. Importantly, the upcoming week represents our third week in the 2-3 week time frame shared in this Weekly View of late. This will also be the final full week before the FED meeting of mid-June. It will be quite telling what transpires within the structural make-up of SPX9 leading up to this FED meeting.
Inter-market wise, the Treasury bond market has spoken loud and clear with its drop in yields offering a more concerned view. It will be interesting to see if the equity market diverges or follows the view of the bond market. SPX9 will certainly inform us of this down to the details of its structural health or lack thereof. Stay tuned – it will be interesting to see what transpires here!
I wish you well…
Ken Reinhart
Director, Market Research & Portfolio Analysis
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Footnote:
H&UP’s is a quick summation of a rating system for SPX9 (abbreviation encompassing 9 Sectors of the S&P 500 with 107 sub-groups within those 9 sectors) that quickly references the percentage that is deemed healthy and higher (H&UP). This comes from the proprietary “V-NN” ranking system that is composed of 4 ratings which are “V-H-N-or NN”. A “V” or an “H” is a positive or constructive rank for said sector or sub-group within the sectors.
This commentary is presented only to provide perspectives on investment strategies and opportunities. The material contains opinions of the author, which are subject to markets change without notice. Statements concerning financial market trends are based on current market conditions which fluctuate. References to specific securities and issuers are for descriptive purposes only and are not intended to be, and should not be interpreted as, recommendations to purchase or sell such securities. There is no guarantee that any investment strategy will work under all market conditions. Each investor should evaluate their ability to invest for the long-term, especially during periods of downturn in the market. PERFORMANCE IS NOT GUARANTEED AND LOSSES CAN OCCUR WITH ANY INVESTMENT STRATEGY.
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