Mixed technicals in equity markets heading into the US medium term

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The Fed rocked the markets last week with a bellicose Powell saying the Fed will do its job to get inflation under control even if it means raising interest rates. The fed funds futures average for 2023 has already fallen from 4.50% to 5.00%. But the volatility is not over.

The earnings boosted the markets a bit, but really it’s all about interest rates and inflation. The most telling sign of the earnings season was whether or not US companies were reporting weaker forecasts due to a strong US dollar and a global economic slowdown.

This week we have the US midterms on November 8, 2022. Republicans are predicting a red wave. Americans aren’t exactly happy with rising gas prices and the cost of living, and analysts think they’ll seek change by voting the other way. Democrats are defending their narrow majorities in Congress. According to mainstream media, Democrats are betting a backlash against the Supreme Court’s overturning of Roe v. Wade will save them.

What happens here will not only impact the United States, but will impact the world. Some geopolitical analysts even claim that the Russians are turning up the heat in Ukraine right now because when the Republicans win a majority in Congress, billions in US aid will not go to Ukraine. Ukraine could lose an important source of aid.

To add more volatility this week, we have the October US CPI released on November 10th. If inflation shows signs of falling, it will add more hope that the Fed will soon start to decline. If inflation stays high or rises… the markets will feel it.

All of these data points and events test the theory that the stock market (S&P 500) has some of its best returns from October to December:

As a technical trader, this is one of those rare times when the markets I follow have different signals. To me, it just indicates volatility and uncertainty. As a trader, I sit on my hands or trade other assets that have a technical pattern that I can work with. That’s how I survived in the game for a decade. I only trade setups that meet MY criteria for high probability setups.

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Let’s start with the big one. The 10-year yield is what we watch to determine where the markets are going. If yields rise, stock markets will fall. The 10-year yield remains above 4% and is climbing towards recent highs. Are we ready for an escape? If you think the Fed is raising rates, then yes. But if you think the Fed is ready to slow and pivot, then we could see a reversal here, which means higher stock markets.

Year 10 is in no man’s land right now. It looks more likely to go down, but for a change in trend I would need to see it close below 4%.

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The same goes for the US dollar. Weak right now, which is great for stocks. However, the dollar could simply decline to support within a range. If the range holds or continues, the Dollar would rebound from the 109.50 area. If we break below that support at 109.50 then it becomes very interesting.

The reasons for a movement of the dollar? This could be due to a dovish Fed, but there is another fundamental dollar to remember. It is the safe haven reserve currency. When there is fear in the world, money will flow into the dollar. If you look around Asia and Europe, you can see why money from those continents would want to flow into the US dollar. If we see some fear due to a geopolitical event, the dollar will continue its bullish trend.

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The S&P 500 saw a major break above 3800. It looked good with buyers stepping into the retest and pushing the S&P 500 up on a strong 3.4% day pop. However, after Powell, the S&P 500 moved back below 3800. This is what we would call a fake or fake breakout.

I don’t have much to say about the S&P 500 at the moment unless we get a close above 3800. Even then, I would personally wait to enter long until we were climbing above recent highs at 3912. Currently 3800 is resistance.

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I’m watching the Nasdaq closely as it meets my criteria for a possible reversal. A double bottom pattern could form, which is a very strong reversal pattern. However, the breakout trigger comes with a close above 11,600.

Tech stocks suffer more when interest rates rise, as many of them fail to make a profit. They go into debt, which becomes more expensive as rates rise. It eats away at their financial statements.

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The Dow Jones is the strongest and requires some thinking. We called the breakout weeks ago and took profits before the Fed. Another higher low could be on the way as the Dow continues its uptrend.

Now let’s get to thinking. Why is the Dow Jones so strong? Months ago, I said the Dow Jones was stronger as investment money flowed into VALUE stocks. The Warren Buffett approach. Fear and uncertainty? Put your money in strong companies that pay a dividend. Technically, those dividends might even pay more than putting your money in bonds with the added bonus that the stock might go up. This is how investment money thinks, and why I think the Dow Jones could continue to be the strongest of the major indices.

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After the 10-year yield, I consider the Russell 2000 to be the leading indicator for major US indices. The Russell moves first, and other markets follow.

Technically, the Russell still holds the 1775 breakout zone. We are currently retesting this zone and the bulls are jumping for now. As long as we stay above 1775, another leg higher is possible. As long as the Russell holds above 1775, other major stock indices may rise further.

So this is it. Lots of uncertainty right now and as traders we just have to be patient and wait for breakouts or blackouts. Be careful, as many headlines are currently fueling an “equity rally” due to US mid-term results. My eyes remain on the 10-year yield and the US dollar.

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