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Weekly Trader’s Outlook

Equities volatile amid delta fears, GDP and earnings downgrades.

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

Q3 earnings season doesn’t officially begin for about 3 weeks. (0%) of the companies in the S&P 500 have reported results so far in Q3, and below are the beat rates for Q3 relative to the final results from recent quarters.

Quarter      EPS beats        Rev beats

Q3 ‘21             0%                    0%

Q2 ‘21              86%                  83%

Q1 ‘21               87%                  72%

Q4 ’20              78%                  69%     

Q3 ‘20              84%                  74%

Q2 ‘20              85%                  65%

Q1 ‘20              65%                  59%

Q4 ’19              74%                  64%     

Q3 ‘19              78%                  58%

Q2 ‘19              76%                  56%

Q1 ‘19              77%                  57%

Q4 ’18              73%                  60%     

Q3 ’18              82%                  61%     

Q2 ‘18              84%                  72%

Q1 ‘18              81%                  74%

Average            79%                  65%

From a growth standpoint, Q2 earnings were +91.8% y/o/y versus the +62% estimate when the quarter ended. Q2 revenue was +25.2% y/o/y versus the +18% estimate. This compares to +35.1% and +10.9% respectively in all of Q1. No S&P 500 companies reported earnings this week. A detailed earnings calendar can be found by logging into Schwab.com and selecting Research>Calendar>Earnings.

Economics Recap

Better (or higher) than expected:

  • NFIB Small Business Optimism Index for Aug: 100.1 vs. 99.0 est
  • CPI for Aug: +0.3% vs. +0.4% est
  • Core CPI for Aug: +0.1% vs. +0.3% est
  • Retail Sales for Aug: +0.7% vs. -0.7% est

On Target:

  • Export Prices for Aug: +0.4% vs. +0.4% est
  • Capacity Utilization for Aug: 76.4% vs. 76.4% est
  • Business Inventories for Jul: +0.5% vs. +0.5% est

Worse (or lower) than expected:

  • Treasury Budget for Aug: -$170.6B vs. -$175.0B est
  • Import Prices for Aug: -0.3% vs. +0.2% est
  • Industrial Production for Aug: +0.4% vs. +0.5% est
  • Initial (weekly) Jobless Claims: 332k vs. 322k est
  • University of Michigan Consumer Sentiment for Sep: 71.0 vs. 72.0 est

This was an average week for economic data. At 332k, Initial Jobless Claims came in above the 322k estimate and above last week’s 312k level. Claims are now averaging 336k for the past 4 weeks; a new post-pandemic low. Aggregate initial jobless claims over the past 78 weeks (since the virus hit) exceed 93M. This is a bit surprising given it was only the 2nd uptick since mid-July and the enhanced unemployment benefits expired on Labor Day. I believe the downtrend will continue next week.

Claims

Source: Schwab Center for Financial Research

Past performance is no guarantee of future results.

As we’ve seen for the past 4 months, August Core CPI showed a large jump in year/over/year inflation, but it is still being exaggerated by a very low comparison number. In August 2020 the economy remained mostly shut down due to the pandemic. At +4.0% y/o/y (yellow line) the change in core inflation (ex-food and energy) was definitely higher, but if you remove the 2020 dip and follow the longer-term trend, it is a much more gradual increase from 2019 (red line). If you extrapolate the pre-pandemic trend, the increase from the August 2020 theoretical level (if there had been no pandemic) would be more like +2.7%; still above the Fed’s 2% target, but not as high as it seems.

CPI

Source: Bloomberg L.P.

Past performance is no guarantee of future results.

Market Performance YTD

Here is the 2021 YTD (versus 2020 full-year) performance of the market broken down by the 11 market sectors (as of the close on 9/16/21):

                                                      2021 YTD                   2020 Final                 Category

  1. Energy                                     +30.0%                         -37.3%                          Defensive
  2. Real Estate                               +29.3%                         -5.2%                            Cyclical
  3. Communications Svc             +27.7%                         +22.2%                         Defensive
  4. Financials                                 +27.6%                         -4.1%                            Cyclical
  5. Info Tech                                   +20.9%                         +42.2%                         Cyclical
  6. Healthcare                                +16.7%                         +11.4%                         Defensive
  7. Industrials                                 +14.1%                         +9.0%                           Cyclical
  8. Materials                                   +14.0%                         +18.1%                         Cyclical
  9. Consumer Disc                         +13.3%                         +32.1%                         Cyclical
  10. Utilities                                     +6.7%                           -2.8%                            Defensive
  11. Cons Staples                            +6.6%                           +7.6%                           Defensive

Source: Bloomberg L.P.

Past performance is no guarantee of future results.

Here is the 2021 YTD (versus 2020 full-year) performance of the major U.S. equity indices (as of the close on 9/16/21):

                                                         2021 YTD                    2020 Final

  • S&P 500 (SPX)                             +19.1%                         +16.3%
  • Nasdaq Composite (COMPX)   +17.8%                         +43.7%
  • Dow Industrials (DJI)                 +13.5%                         +7.2%
  • Russell 2000 (RUT)                    +13.1%                         +18.4%

Technicals

As I’ve pointed out numerous times, nearly every time the SPX pulls back (during expiration week or otherwise) it has found support at the 50-day SMA (yellow arrows). While this month’s pullback started a week early, and has certainly been a little slower to rebound, this pattern has also not broken down just yet. While it remains to be seen if the bargain hunters will show up again, we appear to be at a critical turning point right now.

Friday (9/17) is one of the 4 quadruple witching (quarter-end) options expiration months. Following any expiration (but especially following a quarterly expiration), a lot of contracts will be exercised or expire and many of them will have to be replaced beginning next week. As those new contracts begin to accumulate, we’ll soon learn whether the bargain hunters are stepping in or whether the bears and hedging for more downside. When this activity is combined with the SPX sitting exactly at the 50-day SMA as I’m writing this (mid-day Friday 9/17), next week is likely to head sharply higher or sharply lower fairly quickly.

There has been a lot of talk lately that the SPX is due for a correction, but a correction is a decline of more than 10% but less than 20%. As you can see in the chart below, a 10% decline would bring the SPX all the way down to 4,082, and that is a mighty long way down from the very modest -2.1% pullback that has already occurred; that seems rather unlikely to me. Keep your eye mostly on the 50-day SMA (currently 4,436) and if there is a breakdown, the SPX will likely find support around 4,378 and then 4,260, long before it drops 10%.

SPX

Source: StreetSmart Edge®

Past performance is no guarantee of future results.

Option Volumes:

As we approach the quadruple witching (quarter-end) options expiration (on Friday 9/17) September option volumes are averaging a very robust 38.1M contracts per day; above the final August level of 36.6M contracts per day and well above the September 2020 level of 31.9M contracts per day. January 2021 remains the all-time record month with 44.3M contracts per day, and February 2021 is second with 43.3M contracts per day.

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 14% of all equity options are traded:

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

  • VIX call OI was -21.2%            
  • VIX put OI was -30.1%              

These sharp declines are due to the September monthly option expiration on Wednesday (9/15). As a result, the  VIX OI Change is N/A for the market in the near-term.   

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

  • SPX call OI was +4.3%
  • SPX put OI was +3.6%             

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) for the past week I observed the following:

  • ETP call OI was +1.7%             
  • ETP put OI was +2.3%            

These changes reflect a small bias toward the put side, so I see the ETP OI Change as moderately bearish 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 +2.8%                      
  • Equity put OI was +2.9%                       

These changes reflect an insignificant bias toward the put side, so I see the Equity OI Change as neutral for the market in the near-term.

OI Participation

Index OI Participation is +11.0% versus 2020 levels, so I see it as moderately bullish in the long-term.

Equity/ETF OI Participation is +20.9% versus 2020 levels, so I see it as bullish in the long-term.

Open Interest Put/Call Ratios (OIPCR):

The VIX OIPCR is down 8 ticks to 0.58 versus 0.66 last week. While this ratio tends to move in the same direction as the VIX index, this is a sizable downtick, even with the VIX -2.26 (-10.8%) through Thursday (9/16). But we often see large moves at expiration, so this is being greatly exaggerated by that event. Therefore, I see the VIX OIPCR as moderately bearish in the very near-term for the markets. This ratio is now well below its recent 3-month high and well below the 200-day SMA of 0.77, so I see it as neutral in the long-term.

The SPX OIPCR is up 6 ticks to 2.33 versus 2.27 last week. While this ratio tends to move in the same direction as the SPX, this is a rather sharp uptick given the SPX has risen only 15.17 points (+0.3%) through Thursday (9/16). At this level, it indicates that SPX option traders (who are almost entirely institutional) have again added to their hedges this week, despite the SPX gaining only fractionally. Therefore, I see the SPX OIPCR as moderately bearish in the near-term for the market. This ratio is about 10 ticks below its 16-month high reached about 9 weeks ago, but it remains above the 200-day SMA of 2.14. I see it as neutral in the long-term.

The normally very stable Equity OIPCR is unchanged at 0.80 this week versus 0.80 last week. At this level it implies that equity option traders (which includes a lot of retail traders) have maintained essentially the same level of bullishness as the last 3 weeks. In fact, this ratio has barely moved for 8 weeks now. Therefore, I see the Equity OIPCR as moderately bullish in the near-term for the market. This ratio also remains slightly above the 200-day SMA (currently 0.77), so I see it as moderately bullish in the long-term too.

Cboe Volume Put/Call Ratios (VPCR):

The Cboe VIX VPCR has been mostly neutral this week. The 0.64 reading on Thursday (9/16) was neutral but the current reading of 0.97 as I’m writing this (mid-day Friday 9/17) is moderately bullish. While this ratio tends to decline as the day goes on, with such wide swing, I see it as still volatile in the very near-term.

The Cboe SPX VPCR has been mostly moderately bearish this week. The 1.93 reading on Thursday (9/16) was moderately bearish, and the current reading of 1.81 as I’m writing this (mid-day Friday 9/17) is moderately bearish. While intraday levels tend to decline as the day goes on, I see it as moderately bearish in the very near-term. With a 5-day moving average of 2.02 versus 2.12 last week, it is also moderately bearish in the long-term.

The Cboe Equity VPCR has been mostly bullish (<0.50) this week. The 0.49 reading on Thursday (9/16) was bullish, but the current reading of 0.73 as I’m writing this is neutral. Since this ratio tends to decline as the day goes on, I see it as moderately bullish in the very near-term. With a 5-day moving average of 0.50 versus 0.47 last week, I see it as moderately bullish 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 moved from moderately bearish (>1.10) to bearish (>1.40) this week. As a result, I see it as bearish in the near-term. It has been mostly bearish for the past 7 weeks now too, so I see it as bearish in the long-term.

The OCC Equity VPCR has moved from moderately bullish (<0.80) to bullish (<0.63) this week, so I see it as bullish in the near-term. With a 5-day average of 0.63 versus 0.58 last week, it is moderately bullish in the long-term.

Volatility:

Cboe Volatility Index (VIX)

At the time of this writing (mid-day Friday 9/17), the VIX is +1.31 to 20.00. At its current level, the VIX is implying intraday moves in the SPX of about 46 points per day (this was 43 last week). The 20-day historical volatility is 119% this week versus 134% last week. The VIX is now very close to its long-term average (19.54) and well above its long-term mode (12.42) which I consider to be “normal” volatility. With the VIX covering a rather wide range of more than 3½ points this week, I see the VIX as volatile in the very near-term for the equity markets. With the VIX more than 4 points above its YTD low and trending higher for the past 2 weeks, I see it as moderately bearish in the long-term.

On a week-over-week basis, VIX call prices have risen modestly while VIX put prices have fallen. At +66 versus +11 last week, the VIX IV Gap (the average IV of VIX calls less the average IV of VIX puts) is lower, and at this level is still neutral in the very near-term. The VIX IV Gap has widened and narrowed several times over the past  3 weeks, so I see it as volatile 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 9/17) the nearest VIX futures contract (which expires on 9/22) was trading at 20.35; slightly above the spot VIX level of 20.00. Adjusting this price for the risk premium factor (which takes into account the time until expiration), the Risk Premium Adjusted Price (RPAP) is 19.96; very close to the spot price.

With an adjusted level that is rather close to the spot price, futures traders are indicating that they believe the VIX is likely to remain near its currently elevated level over the next few days. Therefore, I see VIX futures as still moderately bearish in the near-term for the market. The RPAPs of the next two closest monthly futures contracts are 19.48 and 19.42 respectively. With the RPAPs of the further-dated contracts both just slightly below the spot price, I see VIX futures as volatile 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 this week, the VIX Hedging Effectiveness is 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 some sensitivity to market volatility, and may be at least somewhat effective as hedging tools in the very near-term. VIX Hedging Effectiveness is Moderate 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.

Global News:

China

One of the bigger news stories over the past couple of weeks has been the financial troubles of China’s 2nd largest property developer, Evergrande. The company has grown rapidly over the past decade but is now facing almost certain bankruptcy with over $300B in debt. Its stock price has fallen over 80%, its bonds have experienced numerous trading halts over the past 2 weeks, and it has been unable to make interest payments on its debt. Investors and customers of the company have been protesting in front of its offices in recent days, and analysts say a collapse of the company could be so far-reaching that it could have global impact. If Evergrande is deemed “too big to fail” by the Chinese government, a bailout could be imminent, but that is not a certainty at this point. How much exposure US banks have to this debt is unclear, but I think it bears watching closely in the coming days and weeks.

COVID-19

As the chart below shows, the Centers for Disease Control (CDC) reported this week that the US is now averaging about 200,000 new cases per day (versus 180,000 last week). After dropping modestly last week, it is on the rise again this week.

Cases

Source: Bloomberg L.P.

As the chart below shows, vaccination rates ticked down to about 700k per day (versus 800k last week). This drop combined with the uptick in cases is concerning, and may be contributing at least partially to the market volatility we’ve experienced this week.

Vaccines

Source: Bloomberg L.P.

Economic reports for next week:

Mon 9/20

NAHB Housing Market Index for Sep – This is a composite index (ranging from 0 – 100) comprised of Single-family home sales, Future sales expectations, and Buyer traffic, and is viewed as an indicator of new home sales trends. Collectively, the components are intended to provide a gauge of overall conditions in the market for selling new homes.

Tue 9/21

Housing Starts and Building Permits for Aug – Housing starts measure the beginning of the excavation of the land on which a new single or multi-family residence will be built, and is used as a gauge of housing demand and strength in the construction industry. Building permits are required before excavation can begin, and any changes in permits are often reflected in starts in subsequent months.

Wed 9/22

Existing Home Sales for Aug – This is a good measure of overall demand in the housing market, because it aggregates completed closings on all single-family dwellings, which comprise the largest portion of the housing market. Home buying can imply economic stability, since it is often the largest single investment for any family. It can also lead trends in future durable goods purchases.

FOMC Rate Decision – Fed Funds Futures indicate a nearly 0% chance of any rate change.

Thu 9/23

Initial Jobless Claims - For the week ending 9/11/11, claims were up 20k after being down 33k the prior week. The 4-week moving average now stands at 336k, down 4k from the prior week, and still well above the pre-pandemic level of 233k.

Leading Economic Indicators for Aug – As you probably know, this is more of a trailing than a leading report since the 10 components have already been released. As a result, the market reaction is usually fairly muted.

Fri 9/24

New Home Sales for Aug – This report measures sales activity of newly constructed homes and other single-family dwellings, and is generally considered less important than building permits since it is more of a trailing report.

Interest Rates:

On Wednesday (9/22) the FOMC will meet for a regular scheduled meeting. At that meeting there is a growing expectation of an announcement about when tapering will begin. This week however, despite a favorable CPI report, interest rates on the 10-year Treasury Note ($TNX) started the week around 1.33% and drifted modestly higher until Friday afternoon (9/17). At the time of this writing they are back up to about 1.37%.

Outlook:

With the quarterly option expiration coinciding with the SPX siting right at the 50-day Simple Moving Average, next week is likely to bring a breakout move in one direction or the other.

Bottom Line:

With a top-to-bottom move of more than 59 points in the SPX and more than 3½ points in the VIX, I think it’s safe to say that last week’s outlook of “Volatile” was on the mark. As you can see below, there were a few more downgrades this week than upgrades, though clearly there is a lot of disagreement in the indicators. Normally this scenario would result in an outlook of “Volatile” for the following week, but this time the situation is more unique.

As I pointed out in the “Technicals” section above, the week following the quarterly expiration usually results in a very large volume of new contracts being established, and often there is a clear consensus on whether there is a bullish or bearish bias to them. Additionally, when the SPX is sitting exactly at the 50-day SMA it is poised for a clear break to the downside or a quick bounce to the upside; which direction is difficult to predict. The most unlikely scenario though, is that it simply stays where it is. As a result, I think the proper outlook for next week is Breakout.

Composite

Past performance is no guarantee of future results.

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.

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All stock and option symbols and market data shown above are for illustrative purposes only and are not a recommendation, offer to sell, or a solicitation of an offer to buy any security. Past performance should not be construed as indicative of future results.

Multi-leg options strategies will involve multiple commissions. Spread trading must be done in a margin account. Covered calls provide downside protection only to the extent of the premium received and limit upside potential to the strike price plus premium received. Commissions, taxes and transaction costs are not included in the examples used in this discussion, but can affect final outcome and should be considered. Please contact a tax advisor for the tax implications involved in these strategies.

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