Warning Siren

The warning siren is getting louder.  Since last week, we're seeing more signs of weakness underneath the indices, masked by the strength of big cap tech stocks.  You are seeing more volatility in individual stocks but they are not showing up in day to day SPX volatility.  But we are seeing a pickup in intraday SPX volatility, which is interesting.  Last Friday, May 31, you had quite a bit of intraday volatility that is unusual when the VIX is so low, and when the market is less than +/- 1% on the day.  You had an 89 point day range in the SPX and the VIX closed at 12.92.  

On Monday, after another big intraday drop with another big closing rally, investors finally started to notice that the cyclical stocks were weak, especially industrial and energy names.  On CNBC and Bloomberg, macro views are shifting from a strong economy with worries about inflation, to now worries about economic slowdown with weaker ISM and PMI data with oil leading the way lower.  You can see the asset flows shift from equities to bonds as lower yields haven't really helped stocks rally, which is a break from the pattern of lower yields, higher stocks.  In particular, for the past year, whenever yields went lower, Russell 2000 would outperform SPX.  But the RUT is actually underperforming SPX even as bonds rally.  That speaks to how weak the small cap stocks are in this environment.  

The IWM:SPY ratio made a new YTD low even though 10 year yields are more than 30 bps lower than the highs set last month.  And you are still seeing the rampant speculation in meme stocks, like GME on Monday gapping up huge on a pump by Roaring Kitty, a blatant pumper.  You are still getting low float daytrader stocks going up 300% in a day on spurious or no news.  This is about as unhealthy of a market that you can see that is less than 1% from all time highs.  

Last week's COT data shows asset managers back towards their highs in net long position in SPX futures.  Asset managers are now fully loaded and have very little room to add more to their already heavy long positions.  Remember, asset managers usually chase strength and sell weakness.  So they are potential sellers if we get a pullback.  Dealers have gotten even shorter, and their net short position is almost the biggest for the past 12 months. 

Pontificating on the macro situation is interesting but usually there is no alpha there.  But it appears that the strong stock market rally from the October lows to the April highs had a stimulative effect on the economy, and with the uptrend flattening out and getting choppy, that SPX rally "stimulus" is fading.  I know that it is en vogue to talk about the huge fiscal deficit and how much that is stimulating the US economy, but it seems very few talk about the wealth effect of a rising stock market boosting consumption and investment.  

The financialization of the US economy is now so deep and firmly rooted that its the tail wagging the dog.  The tail, the S&P 500, is wagging the dog, the US economy.  The dynamism has been sucked out of the US economy as the government has taken a bigger share of the borrowing and spending, making the private sector less influential.  That is what happens when you have low population growth, minimal productivity growth, and aging demographics with a stagnant labor pool.  The cyclical ups and downs are smaller, as the government can print money and borrow anytime they want to.  And politicians are willing to push the deficits higher and higher as they chase populist goals and feed more stimulus to an addicted population.  In the long run, this keeps the recessions at bay, or very mild if they do happen, but also keep inflation elevated.  

We have a big gap up as the market anticipates more bullish news in the form of an ECB rate cut tomorrow, a weaker than expected NFP that should rally bonds and stocks, as well as the WWDC conference next week where AAPL will introduce whatever AI hype machine that they can come up with.  Also don't forget the NVDA split happening on Friday, which is widely anticipated by the tech bulls and next week's CPI and FOMC which bulls will believe to be further bullish catalysts. 

I have initiated a short position in SPX and will add more later today and tomorrow.  This is a swing trade looking for a down move to happen for the next month.  You probably need to get past the CPI and FOMC before you get a real big move lower, but this market has been teetering and it could selloff sooner than even I expect, which explains the short entry this week.