With the volume in the S&P 500 futures (ESM16:CME) falling from 1.7 million contracts last Thursday to 1.5 million Friday, and then down to 1.2 million yesterday, the message is clear. As the Federal Reserve two day meeting starts traders are cutting back and volumes are falling. We doubt very much that the Federal Reserve can raise interest rates, but that doesn’t mean the markets won’t rally. We have a term for this and it’s called ‘thin to win’.
Yesterday the S&P’s opened weaker but with only 250K in globex volume. It was clear that there was little conviction behind the selling and after the ESM made its early low, Europe closed and traders went to lunch, the algorithmic and HFT programs began to chop the market up and move it higher. We reminded our readers how difficult it is to short this market, and until proven otherwise, that the tape rests with the bulls, and once again they rebounded seeming to again want to test the 2100 area that we recently referred to as a magnet. It’s why MrTopStep always says that “it takes days and weeks to take the S&P down but only a day to bring it back,” as the equity markets have become well established, that what takes hours for sellers to establish momentum can be dissolved in this market. Until proven otherwise the old adage remains true, “never short a quiet market,” and while we will see some selling over the next few months, we have to maintain that “thin to win” will remain in our favor.
Lost Opportunities and the FED
The ESM16 chopped around for most of Monday’s trade and then firmed up on the 2:45 cash close, trading from the 2075.00 area up to 2083.00, and then eventually up to 2091.25 on Globex before going back down to 2085.00 around 7:30 CT. While many traders we talk to think that the markets are getting ready to trade back down, we are not sure about that. With an oversized economic calendar and the largest week of the season for earnings, what this week could end up being is a proving ground for the S&Ps. Can or will the futures trade back above 2100.00 this week? We think they will and the Fed will help with the first part of the push when it comes out today and declines to raise interest rates and the BOJ later in the week should help the other push. Like many traders, I doubt the long term prognosis to the global stocks markets, but as long as the ‘zero borrowing cost / zero interest rate’ exist, it’s going to be a hard battle to fight. The idea behind the Fed is to keep the cost of goods stable and to get the country to full employment, but what will happen when when their tool no longer works? According to John LaVorgna, chief U.S. economist at Deutsche Bank, “They’re going slow because they missed their opportunity. The Fed could have raised more last year or at the recent March meeting.”
The Fed has backed themselves into a corner with double vision over the last year. Despite volatility last August the members maintained the economic conditions were ripe for a hike that ultimately took place in December. Shortly afterward the equity markets began another corrective decline and economic indicators in the U.S. began to look very questionable. A few weeks ago Chair Yellen commented that rates could again be lowered, or more stimulus in the form of quantitative easing could be injected into the markets, and the S&P began to soar higher. It’s no secret that what helped stabilize the financial markets post 2007-09 credit crisis was the easy money that floated around adding a great deal of liquidity to the markets. When the Fed threatened to remove this last year, the indexes saw the first 10% decline in four years, and once the Fed did begin to tighten policy the equity markets again declined. Once the Fed began to back off of some of the mid year projections the markets began to go higher again. See how this works? The move to all time highs in the equity markets were not a result of inclining economic indicators post 2007-09 recession. The economy while improving since then remained at some level of stagnation. What the Fed gave to the financial markets was a drug similar to what it gave to the housing markets post 9-11.
At the end of the day the markets are telling the Fed that their addiction was produced by the Fed and any withdrawal could come with violent consequences. As long as the Fed keeps monetary policy low then the markets will continue to rally. Yesterday it was reported that the Bank of Japan owns 10% of the Nikkei index now. The central bank in Japan has attempted everything to combat economic decline since the 1990’s, and to keep their financial markets at rest have entered into a negative interest rate policy and keep buying up the stock market to hopefully catapult economic stability, which never seems to come. At the end of the day the U.S. Federal Reserve faces a question, one of integrity. They have boxed themselves into hiking rates, and at the same realizes that history shows that the Fed is on the wrong side of the markets, and has hiked at economic highs such as in 2006.
In Asia, 6 out of 11 markets closed lower(Shanghai Comp +0.61%), and In Europe, 6 out of 12 markets are trading lower this morning (DAX -0.04%). Today’s economic calendar includes the FOMC Meeting Begins, Durable Goods Orders, Redbook, S&P Case-Shiller HPI, Consumer Confidence, Richmond Fed Manufacturing Index, State Street Investor Confidence Index, 4-Week Bill Auction, 52-Week Bill Auction, and 5-Yr Note Auction.
Our View: The S&P may get even harder to sell over the next day and a half. We can’t rule out some type of drop Wednesday afternoon but we also cannot rule out a rally after the drop. One of the rules we trade by is to fade the first move under after the fed’s decision, and if the futures drop fast, we think they will recover even quicker, but that’s Wednesday afternoon and we still have today to deal with.. We all know the first day of a two day fed meeting is slow, and it’s my guess that today will be slow. After all the eco reports and earnings this morning the S&P should go into a very slow grind. My guess is total volume will be under 1.2 million contracts traded. Our view, you can sell the early rallies and buy weakness or you can just be patient, let the spoos pull back and find a good spot to buy them.
As always, please use protective buy and sell stops when trading futures and options.
- In Asia 6 out of 11 markets closed lower: Shanghai Comp +0.61%, Hang Seng +0.48%, Nikkei -0.49%
- In Europe 6 out of 12 markets are trading lower: CAC -0.13%, DAX -0.04%, FTSE +0.30% at 6:30am CT
- Fair Value: S&P -6.07, NASDAQ -8.07, Dow -78.77
- Total Volume: 1.28 mil ESM and 2.5k SPM traded
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