Weekly Trader's Outlook

July 1, 2022 Randy Frederick
Another bear-market rally; another fake-out.

Follow me on Twitter @RandyAFrederick. I'll tweet interesting observations about volatility, put/call ratios, technical signals, economics, option block trades and other unusual activity.

Weekly Market Review

Earnings Summary

The regular Q1 earnings season is over and Q2 earnings season will soon begin. However, since not all companies follow a regular calendar quarter, this week seven S&P 500 companies reported Q2 earnings and six of them beat consensus EPS expectations. A detailed earnings calendar can be found by logging into Schwab.com and selecting Research>Calendar>Earnings.

Overall, 16 (3%) of the companies in the S&P 500 have reported Q2 results. Now that Q1 is over, next week I'll begin reporting the aggregate beat rates relative to the final results from previous quarters.

From a growth standpoint, Q2 earnings are expected to be +5% y/o/y versus Q2 of 2021. Q2 revenue is expected to be +10% y/o/y ve
Quarter EPS beats Rev beats
Q2 '22 0% 0%
Q1 '22 76% 66%
Q4 '21 76% 69%
Q3 '21 82% 68%
Q2 '21 86% 83%
Q1 '21 87% 72%
Q4 '20 78% 69%
Q3 '20 84% 74%
Q2 '20 85% 65%
Q1 '20 65% 59%
Average 81% 70%

From a growth standpoint, Q2 earnings are expected to be +4.3% y/o/y versus Q2 of 2021. Q2 revenue is expected to be +10.2% y/o/y versus Q2 of 2021. This compares to final growth rates of +7.8% and +13.1% respectively in Q1.

Economics Recap

Better (or higher) than expected

  • Durable Goods Orders for May: +0.7% vs. +0.3% est
  • Pending Home Sales for May: +0.7% vs. -3.5% est
  • Case-Shiller Home Price Index for Apr: +21.2% vs. +21.1% est

On Target

  • Personal Income for May: +0.5% vs. +0.5% est

Worse (or lower) than expected

  • Consumer Confidence for Jun: 98.7 vs. 100.0 est
  • GDP (Final) for Q1: -1.6% vs. -1.5% est
  • Initial (weekly) Jobless Claims: 231k vs. 230k est
  • Personal Spending for May: +0.2% vs. +0.4% est
  • Core PCE Prices for May: +0.3% vs. +0.4% est
  • Chicago PMI for Jun: 56.0 vs. 58.0 est
  • ISM Manufacturing PMI for Jun: 53.0 vs. 55.0 est
  • Construction Spending for May: -0.1% vs. +0.4% est

This was a relatively heavy week for economic data and the one report that caught my attention was the Fed's preferred inflation gauge. At +0.3%, the May Core PCE rose slightly less than expected. Additionally, after reaching a 39-year high in February, y/o/y Core PCE (shown below) has fallen for the third consecutive month. However, it still has a long way to go given that +4.7% is well above the Fed's +2.0% target.

May year/over/year Core Personal Consumption Expenditures

Source: Bloomberg L.P.

Past performance is no guarantee of future results.

Market Performance YTD

The 42% YTD rise in West Texas Intermediate Crude (WTI) prices while off its peak, continues to support the enormous divergence in sector performance YTD. 

Here is the 2022 YTD (versus 2021 full-year) performance of the market broken down by the 11 market sectors (as of the close on 6/30/22):

2022 YTD 2021 Final Category
1. Energy +29.2% +47.7% Defensive
2. Utilities -2.0% +14.0% Defensive
3. Cons Staples -6.48% +15.6% Defensive
4. Healthcare -9.1% +24.2% Defensive
5. Industrials -17.5% +19.4% Cyclical
6. Materials -18.7% +25.0% Cyclical
7. Financials -19.5% +32.5% Cyclical
8. Real Estate -21.2% +42.5% Cyclical
9. Info Tech -27.3% +33.4% Cyclical
10. Communications Svc -30.5% +20.5% Defensive
11. Consumer Disc -33.1% +23.7% Cyclical

Here is the 2022 YTD (versus 2021 full-year) performance of the major U.S. equity indices (as of the close on 6/30/22):

2022 YTD 2021 Final Forward P/E
S&P 500 (SPX) -20.5% +26.9% 16.5
Nasdaq Composite (COMPX) -29.5% +21.4% 23.2
Dow Industrials (DJI) -15.2% +18.7% 16.0
Russell 2000 (RUT) -24.0% +13.7% 19.8

Technicals

As widely reported in the press, the first half of 2022 was the worst in 52 years; but just barely. Indeed, in the first six months of 1970, the SPX was -21.0% versus -20.6% this year. After the SPX found support at the June 16th close of 3,666 and staged a modest rebound, that rebound waned by week's end, and most of it was given back this week. It's difficult to determine the next move, but two steps forward, three steps back has been a common pattern for all of 2022 so far.

As I stated last week, "If 3,666 turns out to be the bear market bottom (and it’s way too early to call it yet) a new bull market will not arrive until the SPX rises 20% to a level of 4,399." As you can see in the chart below, while that statement remains true, the SPX may soon test that support level once again, and is clearly back in bear-market territory.

6-month candlestick chart of the S&P 500 Index

Source: StreetSmart Edge®

Past performance is no guarantee of future results.

Option Volumes

At the end of June, option volume averaged a fairly light 38.3M contracts per day. That was below the final May level of 41.2M, and also below the June 2021 level of 39.5M contracts per day. The all-time record of 45.2M contracts per day was set in November 2021.

Open Interest (OI) Change

The following data comes from the Chicago Board Options Exchange (Cboe) where about 98% of all index options, about 20% of all Exchange Traded Product (ETP) options, and about 15% of all equity options are traded:

In reviewing the VIX OI Change for the past week I observed the following:

  • VIX call OI was +4.0%
  • VIX put OI was +7.2%

Historically, the daily change in the VIX and the SPX have been opposite each other about 80% of the time. These changes reflect a bias toward the put side, so I see the VIX OI Change as moderately bullish for the market in the near-term.

As a result of the June monthly contract expiration on Friday (6/17), the following changes are calculated from Tuesday (6/21) instead.

In reviewing the SPX OI Change for the past week I observed the following:

  • SPX call OI was +6.0%
  • SPX put OI was +5.2%

While SPX volume tends to be mostly institutional hedging, these changes reflect a small bias toward the call side, so I see the SPX OI Change as moderately bullish for the market in the near-term.

In reviewing the ETP OI change (which includes SPY, QQQ, DIA, IWM, etc.) for the past week I observed the following:

  • ETP call OI was +4.4%
  • ETP put OI was +3.6%

The aggregate changes in Exchange Traded Products options reflect a small bias toward the call side, so I see the ETP OI Change as moderately bullish for the market in the near-term.

In reviewing the Equity OI Change for the past week I observed the following:

  • Equity call OI was +4.3%
  • Equity put OI was +4.1%

Equity volume tends to have a large retail component to it. These changes reflect an insignificant bias toward the call side, so I see the Equity OI Change as neutral for the market in the near-term.

Open Interest Participation

Index OI Participation is +16.8% versus 2021 levels, so I see it as bullish in the long-termEquity/ETF OI Participation is +0.3% versus 2021 levels, so I see it as neutral in the long-term.

Open Interest Put/Call Ratios (OIPCR)

The VIX OIPCR is up two ticks to 0.47 versus 0.45 last week. Since this ratio tends to move in the same direction as the VIX index, this small uptick is consistent with the VIX which was +1.48 (+5.4%) over the last four sessions. This uptick likely indicates that VIX option traders may be expecting the VIX to continue to tick modestly lower in the near-term. Therefore, I see the VIX OIPCR as moderately bullish in the very near-term for the markets. This ratio is down 10 ticks in just the past three weeks, and it remains well below the 200-day SMA of 0.61. Therefore, I see it as still moderately bearish in the long-term for the markets.

The SPX OIPCR is up one tick to 1.66 versus 1.65 last week. This ratio also tends to move in the same direction as the SPX, so this uptick is inconsistent with the SPX which has fallen 126.36 points (-3.2%) over the last four sessions. As a result, it implies that SPX option traders (who are almost entirely institutional) have slightly increased their hedges this week and may be expecting at least a bit more downside in the SPX next week. Therefore, I see the SPX OIPCR as moderately bearish in the near-term for the market. This ratio is now down 36 ticks over the past four weeks, and it is 32 ticks below the 200-day SMA of 1.98. I see it as moderately bullish in the long-term.

The normally very stable Equity OIPCR is unchanged at 0.81 versus 0.81 last week. This ratio is still down only a few ticks from a 17-month high. As a result, equity option traders (which includes a lot of retail traders) are still somewhat less cautious than in recent weeks, though more cautious than late last year. Therefore, I see the Equity OIPCR as still neutral in the near-term for the market. This ratio is still barely above the 200-day SMA (currently 0.80), I see it as neutral in the long-term.

Cboe Volume Put/Call Ratios (VPCR)

The Cboe VIX VPCR has moved from neutral to moderately bearish this week. The 0.33 reading on Thursday (6/30) was moderately bearish, and the current reading of 0.27 as I'm writing this (mid-day Friday 7/1) is also moderately bearish. Therefore I see it as moderately bearish in the very near-term.

The Cboe SPX VPCR has moved from neutral to moderately bullish this week. The 1.21 reading on Thursday (6/30) was moderately bullish, but the current reading of 1.58 as I'm writing this (mid-day Friday 7/1) is neutral. While intraday levels tend to decline as the day goes on, I see it as neutral in the very near-term. With a five-day moving average of 1.37 versus 1.37 last week, it is neutral in the long-term.

The Cboe Equity VPCR has moved from neutral to moderately bearish this week. The 0.74 reading on Thursday (6/30) was moderately bearish, and the current reading of 0.76 as I'm writing this is moderately bearish. While this ratio tends to decline as the day goes on, I see it as moderately bearish in the very near-term. With a five-day moving average of 0.66 versus 0.60 last week, it remains neutral in the long-term. As noted below, long-term for this ratio is about a week or two.

Since volume based put/call ratios are very reactive and very short-term in nature, near-term usually means just a day or two, while long-term is more like a week or two.

OCC Volume Put/Call Ratios (VPCR)

The OCC Index VPCR has been moderately bearish (>1.10) for most of the week. As a result, I see it as moderately bearish in the near-term. It has now been moderately bearish in 10 of the last 13 sessions, so I see it as still moderately bearish in the long-term.

The OCC Equity VPCR has been moderately bearish (>0.85) for most of the week. Therefore, I see it as moderately bearish in the near-term. With a five-day average of 0.87 versus 0.84 last week, I see it as moderately bearish in the long-term.

Volatility

Cboe Volatility Index (VIX)

At the time of this writing (mid-day Friday 7/1), the VIX is -0.88 to 27.83. At its current level, the VIX is implying intraday moves in the SPX of about 55 points per day (this was 56 last week). The 20-day historical volatility is 112% this week versus 114% last week. The VIX remains well above its long-term average (19.57) and also well above its long-term mode (12.42) which I consider to be "normal" volatility. 

While the VIX has fallen to its lowest level in two weeks, it is still modestly below 30; a level that implies relatively high uncertainty and anxiety among traders. Therefore, I see the VIX as still volatile in the very near-term for the equity markets. At the time of this writing (mid-day Friday 7/1) the VIX is more than seven points below the intraday high reached only two weeks ago, but still more than four points above its monthly low. I see it as moderately bearish in the long-term.

On a week-over-week basis, VIX call prices have fallen modestly while VIX put prices have risen modestly. At +37 versus +59 last week, the VIX IV Gap (the average IV of VIX calls less the average IV of VIX puts) is slightly lower, and at this level is moderately bullish in the very near-term. VIX call prices continue to move mostly sideways, whereas VIX put prices continue to trend modestly lower. At these levels I see the VIX IV Gap as neutral in the long-term.

Keep in mind, this is not only a contrarian indicator most of the time, it tends to be one of the earliest and shortest-term indicators I discuss in this report, so it can also change directions very quickly.

VIX Futures

As of this writing (mid-day Friday 7/1) the nearest VIX futures contract (which expires on 7/6) was trading at 29.80; nearly two points above the spot VIX level of 27.83. Adjusting this price for the risk premium factor (which takes into account the time until expiration), the Risk Premium Adjusted Price (RPAP) is 29.23; still nearly 1½ points above the spot price. 

With an adjusted level that is almost 1½ points above the spot price, futures traders are indicating that they believe the VIX is likely to uptick slightly over the next few days. Therefore, I see VIX futures as moderately bearish in the near-term for the market. The RPAPs of the next two closest monthly futures contracts are 27.24 and 26.11 respectively. With the RPAPs of the further-dated contracts both below the spot VIX, I see VIX futures as moderately bullish in the long-term for the SPX. 

Since VIX futures are typically much less reactive to current market conditions than the VIX index, near-term for VIX futures usually means a few days, while long-term means a couple of weeks.

With the VIX up modestly this week, the VIX Hedging Effectiveness has been Moderate in the near-term. At the moment, this means that options on the VIX (and possibly other volatility-related products) are showing at least moderate sensitivity to market volatility, and maybe at least moderately effective as hedging tools in the very near-term. VIX Hedging Effectiveness is also Good in the long-term.

VIX Hedging Effectiveness is a manner of measuring the magnitude of VIX moves relative to the magnitude of SPX moves in the opposite direction. When the VIX is highly reactive, VIX related products can serve as potentially effective hedging tools, when the VIX is not very reactive, traditional hedging techniques may be a better choice.

Cryptocurrencies

A major cryptocurrency event that has been talked about for a very long time, Ethereum 2.0, has been delayed yet again. The event is known as "the merge" by those within the crypto community, and it is intended to vastly improve the speed, efficiency and (perhaps most importantly) energy consumption of the chain. Ethereum blockchain is the second largest in the industry, and because it was the first to offer "smart" contracts, more than 250 other crypto related products and currencies are built upon it. The upgrade will fundamentally change the Ether mechanism from a proof-of-work (mining-oriented) consensus like Bitcoin, to a proof-of-stake (commitment-oriented) consensus like Cardano and Solana. With the Bloomberg Galaxy Crypto Index -63% YTD and Ethereum prices -67% YTD the current crypto "winter" has affected activity all across the industry, thus this latest delay probably comes as little surprise to anyone.

Separately, again this week, the Securities and Exchange Commission (SEC) has declined an application from Grayscale, the largest digital currency asset manager, to convert its popular Bitcoin grantor trust (GBTC) into an exchange traded fund (ETF). Many times over the past few years, the SEC has declined such requests from Grayscale and others, citing concerns over transparency, fragmentation, liquidity and the lack of a sufficient regulatory structure in the cryptocurrency space. In response, Grayscale said it has sued the SEC over the decision.

For Schwab's perspective on cryptocurrencies, please visit: schwab.com/cryptocurrency

Economic reports for next week

Mon 7/4 Independence Day  No reports

Tue 7/5

Factory Orders – This report includes both durable and non-durable goods orders, as well as wholesale and retail inventories. Like the construction report, it usually doesn't impact the market much.

Wed 7/6

ISM Services Index – The Institute for Supply Management (ISM) Non-Manufacturing Index tracks economic data from companies in the services sector. An increasing value is usually perceived as bullish for equities because it implies that profits in the services sector are on the rise.   

Thu 7/7

ADP Employment Change – The ADP report is based on information from approximately 400,000 U.S. businesses and 23 million U.S. employees in the private sector. While the ADP report is often looked at as a predictor of the BLS (Bureau of Labor Statistics) nonfarm payrolls report, ADP data does not include government jobs, so there is sometimes a significant difference between the two.

Initial Jobless Claims - For the week ending 6/25/22, claims were down 2k after being up 2k the prior week. The four-week moving average now stands at 232k, up 7k from the prior week.

International Trade (Trade Balance) – This report tracks trends in the exports and imports of goods and services. Exports can indicate economic expansion both in the U.S. and abroad. Imports can indicate growing domestic demand. However, this is a lagging report so it rarely has any impact on the market. 

Fri 7/8

Monthly Employment Situation – This is the biggest group of reports each month. It includes: 

  • Nonfarm Payrolls
  • Unemployment (U-3) Rate
  • Average Hourly Earnings
  • Average Workweek
  • Underemployment (U-6) Rate
  • Labor Force Participation Rate

Interest Rates

The probability that the next rate hike on July 27th will be 0.50% remains at 100%, and the probability of it being 0.75% has fallen this week to 71% from 85% last week. The interest rate on the 10-year Treasury ($TNX) began the week around 3.21% and fell virtually all week. It is currently at a two-month low of around 2.89% at the time of this writing (mid-day Friday 7/1).

Outlook

Last week's bear-market rally, the sixth one this year, turned out to be just another fake-out to those looking for a bottom. As the second half of the year begins and portfolios are adjusted, the indicators point to potentially more volatility but little or no forward progress for next week.

Bottom Line

It has been two steps forward, three steps back pretty much all year. With the Fed sounding more hawkish every day and a potentially weaker earnings season on the horizon, every bear-market rally has turned out to be just that. Until the inflation data comes down markedly and/or the Fed blinks, the bears remain in charge.   

As you can see below, virtually all of the changes this week were downgrades and that shifts the overall balance to just about neutral for next week. However, with such wide dispersion and the VIX index still above 28 (implying daily moves >50 points) the more logical outlook for next week is non-directional and simply Volatile.

Composite table of the market sentiment indicators for this week

Key:
OI = Open Interest
OIPCR = Open Interest Put/Call Ratio
VPCR = Volume Put/Call Ratio
IV = Implied Volatility
+ means this indicator has changed in a bullish direction from the prior posting.
– means this indicator has changed in a bearish direction from the prior posting.
+/ – means this indicator has changed bi-directionally; i.e. last week was either Volatile, N/A or Breakout.
^ means this indicator is at a historical extreme that has often (though not always) preceded a market reversal.
 

Issue Number: 649

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