The SPX's 50 and 80-day moving averages could come into play soon
“…the SPX is just below the 4,475 level, which is double the March 2020 closing low of 2,237.40. Many investors may be anchored to this low and be tempted to take some money off the table if the index doubles the 2020 closing trough…The bottom of the channel ranges between 4,363 on Monday and 4,387 on expiration Friday ...The SPY 440-strike, which is equivalent to 4,400 on the SPX, is the strike with the biggest call and put open interest. It could be supportive if a SPX decline emerges this week, suggesting such a decline would be relatively shallow.”
-Monday Morning Outlook, August 16, 2021
I was more active than usual with real-time observations on Twitter last week amid standard August expiration week for CBOE Market Volatility Index (VIX—18.56) futures options, plus the S&P 500 Index (SPX—4,441.67) again testing the bottom of an eight-month bullish channel.
In fact, the support and resistance levels that I highlighted in last week’s commentary came into play, with the peak in the 4,475 area, double last year’s closing low. Sellers emerged at this level coincident with Covid-19 trends heading in the wrong direction, and growing evidence that the Federal Reserve may begin its tapering of bond purchases this year, per minutes from the July meeting published in the middle of last week. Anyone paying attention to comments from various Fed governors during the past few weeks were likely not surprised by tapering comments in those minutes.
The rejection at 4,475 saw the lower boundary of the channel in place since mid-November 2020 come into play, and it was from that area that the SPX found support and rallied, suggesting the bulls remain in control. As we look ahead to this week, the lower boundary of this channel ranges between 4,391 on Monday to 4,409 at Friday’s close. Even if there is a break of this channel, which has occurred a few times this year, the bears have their work cut out for them, as the 50-day and 80-day moving averages at 4,350 and 4,290, respectively, have supported pullbacks this year.
Stick with bullish positions until the SPX spends more than a few days below its channel, and/or it breaks below moving averages that have supported pullbacks this year. Amid fears of too much optimism in the market, technical deterioration in the SPX is needed to strike fear in the longs and/or embolden the shorts.
It is not a slam dunk that my definition of technical deterioration is enough to strike such fear in all market participants, but it is a start in terms of a quantified way of measuring a bullish pattern potentially changing in those looking to buy dips.
Just like last month, the VIX experienced a pop around expiration. Just as it pulls back to big put open interest strikes, it is as if there is a concerted effort to ensure most or all the put open interest at put-heavy strikes expires worthless. Per the open interest configuration that I posted on Twitter the day prior to Wednesday morning’s August VIX futures settlement, there were indeed a plethora of VIX put contracts that expired worthless, with the Wednesday morning settlement reading at 18.56, above the put-heavy strikes at 15-18.
By Thursday, Aug. 19 -- and as I alluded to on Twitter -- the VIX was nearing its 2020 close at 22.75, which marked the July peak and the March peak too. This area was also roughly 50% above its recent closing low. By Friday, Aug. 20, the VIX was below 20 in what appears to be another short-lived expiration-related pop. Based on the VIX’s behavior in March, July, and last week, if the VIX were to close above its 2020 close, we could see volatility begin to rear its ugly head in a more serious way, so continue to stay in tune with this level if volatility surges again in the near term.
Near the end of this week, the Federal Reserve Bank of Kansas City hosts dozens of central bankers, policymakers, academics and economists from around the world at its annual economic policy symposium in Jackson Hole, Wyoming. Symposium participants include prominent central bankers, finance ministers, academics, and financial market participants from around the world. As I said last week, and on Schaeffer's podcast, this meeting has historically brought announcements on shifts in Fed policy, if there is a shift or pivot of some kind.
“They also agreed to remove the word ‘significantly’ when characterizing the dependence of the path of the economy on the course of the virus.”
- Federal Open Market Committee (FOMC) minutes from July meeting published August 18, 2021
The upcoming scenario with respect to the Fed reminds me of late 2018 to a certain extent, when the Fed was considering raising rates as market participants grew wary about a looming trade war with China. Now, the delta variant of Covid-19 is creating more havoc than other variants, generating concerns about the economic recovery around the world. This is ironic in context of the Fed’s view on the impact of the virus, according to its July minutes and excerpted above. Interpretations are the Fed still isn’t as concerned with the virus’s impact going forward or it is dated information that this body was working with at the time.
In fact, just last week Goldman Sachs slashed projected third-quarter U.S. gross domestic product (GDP) growth from 9% to 5.5%, due to the latest emerging virus threat. The emerging growth threat has parallels to late 2018 because the FOMC minutes indicated most Federal Reserve members see tapering of bond purchases potentially beginning this year.
Todd Salamone is Schaeffer's Senior V.P. of Research
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