Trader’s Corner — Stocks Defy Gravity

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In today’s Money Weekend…rates take off…shares don’t care…gold impressive…and more

If you had told me a few months ago that the US Fed would become super hawkish, sending short and long rates flying higher and stocks would be rallying, I would have laughed at you.

But here we are.

The two-year rate in the US has gone from 0.2% in September last year to 2.15% today, just six months later!

US two-year rates explode

Fat Tail Investment Research


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You can see in the chart above that the pace of the rise in rates has been faster than anything we have seen in decades.

The long end of the yield curve has had to play catch up, but it is lagging behind, and the yield curve has been flattening.

US 10-year bond yields spiking

Fat Tail Investment Research


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I said in the ‘Closing Bell’ video last week that if the 2.2% level didn’t hold, there was very little resistance until around 2.6–2.9%.

The US 10-year bond yield has marched higher at a rate of knots this week, hitting a high level of 2.42%, and there are no signs the rise is over yet.

Shares don’t care

But stocks have completely ignored the spike in yields and have been marching higher day after day since the Fed raised rates last week.

What gives?

No one knows the answer to that. People can hazard a guess, but really, that’s all it is.

My own guess is that we are seeing a relief rally from oversold levels leading into the rate rise decision. So a classic short squeeze, with the hopes of a ceasefire in Ukraine spurring it on.

If US 10-year bond yields at 2.4% don’t worry the market, perhaps it will sit up and take notice with yields at 2.9%. The way the bonds are selling off, we may not have to wait too long to find out if that’s the case.

If you are trying to catch this rally and increase exposure as stocks move higher, keep one eye on the US yield curve, and be prepared to run away from positions on concrete signs that the short squeeze is over in stocks and prices are heading back down.

Check out my ‘Closing Bell’ video below if you want some hints about how to work out what the ‘concrete signs’ are.

I reckon there is a clear line in the sand for the S&P 500, around 4,100. That is the low of the recent correction. If prices head below there in the next few months, all hell could break loose. But as long as we remain above that level, prices should consolidate or grind higher.

The big test for the S&P 500 will be if it rallies another 100 points or so into the sell zone of the wave down in the correction. The levels to watch are 4,630–4,720 in the E-mini S&P 500 futures.

If prices jump up there and meet stiff selling pressure — watch out.

That’s where the next leg down could start from.

The main point is that while the weekly trend is down, I will remain wary of the rallies and consider them potential bull traps.

Especially while rates are marching higher quickly, and the Fed has said they may start doing 50bp rate hikes to chase down inflation.

Gold impressive

Gold is the commodity that is holding up extremely well in the face of rising rates. You would think the hawkishness of the Fed would have kicked the stuffing out of gold.

But instead, we are seeing the buying pressure return after a few weeks of weakness. As long as the price remains above US$1,880 (currently US$1,961), I am happy to remain bullish on gold’s short-term prospects.

We are seeing tentative signs of strength in the beaten-up gold stocks, with plenty of upside to come if gold breaks out above the all-time high.

It feels a bit like the calm before the storm to me. The world didn’t end when the Fed raised rates last week, so we are seeing stocks run higher despite the fact bonds are getting hammered. Perhaps there is some money flowing out of bonds and into stocks, which is holding the market up.

But I still reckon there is at least another leg down in stocks to come over the next 3–6 months, and that sell-off should give us plenty of stocks to pick up at great prices.

The small-cap sector has been selling off for a year and a half already, so another leg down could send some great stocks to bargain basement levels. Biding your time and making sure you have some fire power if that were to take place is the way to go, in my view.

Check out my ‘Closing Bell’ video below where I give you a detailed look at the current state of play.

Until next week,

Murray Dawes Signature

Murray Dawes,
Editor, Money Weekend

PS: Watch the latest episode of my series ‘The Closing Bell’ on YouTube. Click here or the thumbnail below to view it.

Fat Tail Investment Research

About Murray Dawes

Murray Dawes is the Editor of Pivot Trader and contributing Editor at Money Morning. He was one of five, from 5,000 applicants, chosen for a graduate position with the Swiss Banking Corporation — now part of banking giant UBS. The bosses quickly cottoned on to his potential and pushed him…

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