The Factory Daily Letter

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No place to hide

But indicators suggest some tactical opportunity could be emerging

Last week, the S&P500 suffered one of the hardest sell offs since March 2020, as several central banks shifted (more) hawkish on monetary policy in the face of inflation. Beneath the surface, those sectors that have performed best on a year to date basis (+66%) and utilities (+5.1%) and materials (-0.3%) last week were the ones that suffered most (-20.3%, -12% and -13% respectively), bringing market breadth close to “washout” levels.

However, the VIX has failed to break a major resistance, inflation expectations appear to have rolled over driven by toppish oil prices, and also of note is that the more speculative corners of the market did not make new lows last week – in a sign that much of the prevailing concern is now priced in. While sentiment is likely to deteriorate further if recession expectations rise, the market may by now have absorbed a lot of the short-term headwinds, and given the market’s current configuration, we think the conditions may be met for an end-of-quarter relief rally. 

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022.

A breadth washout is a condition that has often accompanied major bottoms

As per our introduction, the recent capitulation of “last holdout” sectors has brought market breadth to “washout” levels. The chart below shows the S&P500 index (upper chart) and the breadth indicator (bottom chart) – the latter being the average between the percentage of index members trading above their respective 50 and the percentage that above their 200-day SMAs (which we use as a proxy indicator by which to identify oversold conditions). The current reading is 6%, a level historically consistent with major bottoms such as the 2020-Covid low.

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022.

A bullish signal from the Vix

As we discussed yesterday, another short-term bullish signal that has emerged is that recently given by the Vix index which has deviated more than 2 standard deviations from its 20-day moving average, before returning back inside that level in a move that has in the past proven consistent with local bottoms in the S&P500. From a technical perspective, the Vix has also been forming a series of lower highs, a sign that volatility may continue to move lower in the coming weeks.

Based on the volatility, the timing and risk reward suggest this could be a good moment for a relief rally.

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022.

Global central banks have been joining the hike

Wrongfooted by the hotter-than-expected CPI inflation print for April and the alarming inflation expectations survey data from the University of Michigan, the Fed chose to announce a 75 basis points hike rate hike at its June meeting last week – in a more aggressive policy move than it had guided for and raising the target rate to 1.5-1.75%. Powell, using stronger terms to reiterate the Fed’s commitment to combating inflation (while insinuating that growth was still strong enough to withstand policy – market skepticism notwithstanding), hinted at another hike of a similar magnitude or +50bps in July, and said the FOMC currently sees rates at 3.0-3.5% by the end of the year (the so-called dot-plot median is now at 3.4%). That same day, the ECB, having the previous week telegraphed a more aggressive pace of rate hikes, called an emergency meeting to discuss the heightened concerns associated with the impaired monetary policy transmission mechanism and promised to come up with an “anti-fragmentation toolto meet concerns that policy would put the integrity of the euro at risk (and testifying to lawmakers at the European Parliament Christine Lagarde has this week reaffirmed the bank’s intention to raise rates in July and September). Thursday dawned with a surprise 50 basis point policy rate hike from the SNB (in a move designed to counter increased inflation pressure and prevent transmission of the same to goods and services more broadly) and the UK followed later that day with a fifth 25-bps point hike from the BoE.

More than 60% of the 40 global central banks we track have now embarked on hiking cycles designed to re establish price stability. As shown on the graph below, this is the largest synchronised central bank move over the past 20 years:

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022.

While such aggressive moves are likely to be at the expense of growth over the long run, we note that inflation expectations have already started to stabilize – something which is likely to support equity price action over the short term. Real yields have been the significant driver of nominal yields year-to-date (as inflation breakevens have not moved much). As growth slows, this should remove some of the upside pressure and could even be met with lower inflation expectations in Q3 as supply bottlenecks ease. Bond volatility which has led credit volatility over the past year should begin to moderate which could help other asset classes too. And in the short-term, such thinking could lead to a tactical rebound in equities.

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022.

The relief rally petered out

In our letters of 17 May “Friday’s tactical turnaround” and 24 May “Beneath the surface, is something cooking?we pointed out that, despite stock index performance, something seemed to be moving beneath the surface, notably the fact that the more speculative pockets of the equity markets (such as IPOs and unprofitable technology stocks) had started to outperform again, in a move that suggested short investors had reduced their positions (or that bottom-fishers had started to buy on weakness).

Since then, the positive momentum for equity markets has reversed and a second-leg down has sent the Nasdaq 100 and the S&P500 back below their May lows.

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of any Pictet financial research unit.

The more speculative bets have suffered less in this more recent second-leg down

However, as shown in the table below, the more speculative pockets of the markets have suffered less this time.

By way of example, among those that are holding above their previous lows we find the ARK innovation ETF and the S&P Biotech industry index while Chinese internet stocks have also shown signs of strength.

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of any Pictet financial research unit.

US Biotech and Chinese tech both appear on the verge of breaking out

In a Technical View back in May (see it again here) we argued that the SPDR S&P Biotech ETF was forming a bullish "ascending triangle" pattern, and that a daily close above resistance at 71.50 would trigger a move higher towards the breakout target at 83 (a level also then corresponding to the 50-day SMA and the falling resistance line linking the highs since January).

Since then, the price of the ETF has failed to break through the resistance in any meaningful way and it has fallen towards its previous low. However, unlike the broader index, this level has held and the price has formed a bullish double-bottom in the process. A daily close above the 50-day SMA, which is currently trading around 73, would brighten the technical outlook and pave the way for a move higher towards the long-term technical barrier at around 80 :

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of any Pictet financial research unit.

The Chinese technology ETF is offering an attractive risk/reward ratio

The same bullish technical configuration was spotted on Chinese technology names. We identified the Invesco China Technology ETF as among the more speculative pockets of the market, and it indeed illustrates how China’s technology sector has more recently been among the more resilient in terms of price action.  The ETF’s price recently moved above key resistance (triggering a rise close to the upper band of its lateral range at around 55), and while we have since seen a slight pullback occur, the it has remained above the previous resistance which is now acting as a support. A daily close above 55 (a level that also corresponds to the descending resistance line connecting highs since last July) would further brighten the technical outlook and could pave the way for a rise towards the next zone of technical resistance at around 65:

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of any Pictet financial research unit.

Riding the new trends: resilience in solar

Another newer theme that may fit into the more ‘speculative’ category yet also remains above its May low, is solar. As shown in the chart below, the price of the Invesco Solar ETF (TAN US) began its consolidation when the price reached 120 in early 2021 and the negative momentum pushed the price below a series of supports before it formed a bullish double-bottom around 58 in March and May 2022.

The positive momentum then resumed and the price has now broken through an important resistance at 75 (the ichimoku cloud). Furthermore, the lagging line also validated this breakout which could pave the way for a rise towards the prior intermediate top at around 100.

Since then, the positive momentum has faded somewhat and the price has moved towards a major support given by the Kijun line. But a daily close above the declining resistance line linking the highs since 2021 at 83 would validate our bullish scenario:

Source: FactSet; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of any Pictet financial research unit.

A rebound in a down trend

Below we present the results of our screening for those names that have been underperforming the broader market YTD, yet did not make a new low in last week’s selloff: on the basis that the price action suggests such names could be undervalued and moreover rerate if a rebound materializes:

Source: FactSet; Markit, Copyright © 2022 S&P Global Market Intelligence; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of a
Source: FactSet; Markit, Copyright © 2022 S&P Global Market Intelligence; Pictet Trading Strategy; as of 21/6/2022. *Criteria are explained in the endnotes. The target price presented in the chart is based upon chart analysis. This is not the product of a

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