Are Stocks Ready To Bounce?

May 25, 2022  |  Michael Reilly

We’ve had our eye on the 3800 level in the S&P 500 as an area of logical support.

Assuming the index finds support at 3800, it sets up the possibility for a bounce-back up to the 4200 level before running into any serious overhead resistance.

At the end of last Friday’s trading session, the index managed to finish up on the day, remaining above the critical 3800 level.

And in doing so, remained above the much-discussed “-20% = bear market” nonsense. 

(P.S. Stocks are in a bear market.)

While there’s certainly very little evidence to suggest a complete reversal of this bear market is in the works, there are some data points that suggest a move higher is a possibility.

The most significant evidence is coming from yields and the dollar, as both have paused at previous resistance.

With interest rates ripping higher, particularly since the beginning of the year, growth stocks have gotten crushed. 

However, with the yield on the 10-Year T-Note dropping back below 3%, this may be an opportunity for stocks.

The U.S. 10-Year yield is now running into its 2013 and 2018 highs. What’s notable is that on both of those occasions, rates moved lower following the move to 3%. 

Although it’s unlikely that yields ultimately won’t move higher as a result of ongoing Fed policy, a pause here could give stocks a temporary reprieve. 

So, we’re keeping an eye on rates to see how they react at these former levels of resistance. 

The question we need to answer is: Will this time be different? 

Will yields rip through these prior areas of resistance and put more pressure on stocks?  

Or will yields do what they’ve done in the past – fall, offering a potential trade in stocks?

In addition to watching yields, we’re focused on the strength of the U.S. dollar.  

A strong dollar does not benefit stock prices.

Stocks rise in a falling dollar environment and fall in a rising dollar environment. 

The dollar bottomed a year ago this month – bouncing off previous lows established in 2018 and 2020. 

As the dollar moved higher, equities moved lower. That is no coincidence.

Fast forward to today, and the US Dollar is pressing up against its previous 2016 and 2020 highs.

If the dollar fails to break out above former resistance (at 103), then the bias is lower for the U.S. Dollar Index (DXY). 

As of this writing, the DXY is lower at 101.94.

This is an important level for investors to watch because as the dollar turned lower from this level (103) in 2016 and 2020 risk assets went on to do well.

So IF the S&P 500 index holds above 3800 and both Treasury yields and the dollar remain below previous areas of past resistance then this is a logical place for stocks to see a bounce.

But don’t get too excited… 

For now, this is a potential trade opportunity for stocks and not a bottom or reversal for equity markets.

I see nothing to change our longer-term thesis that the market and the economy remain under considerable pressure from all sides.

If you missed it, Tim Fortier wrote a great article in Monday’s edition of ADAPT Weekly that provides some great insight. Here is a link – it’s well worth the read.

Until next time, trade wisely…

P.S. To learn more about Rowe Wealth’s new Volatility-Resistant Investment Model built to weather the current turbulent markets, you can schedule a free 1-hour consultation here.

Michael Reilly

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