S&P 500 had a rough week. The price collapsed by around 6% last week in a risk-off environment. US Crude Oil dropped down to 78 levels.
On the Macro fundamental scale and risk-off environment, price inflation is still a problem. The August numbers surprised the market, resulting in a big sell-off.
Inflation is falling but not as expected. The MoM CPI and Core CPI figures, and by extension, the YoY figures, were well above the consensus expectations.
While the reduction in energy prices brought down headline numbers, the month-over-month figures show sticky core inflation. Market expectations were for 0.3% MoM Core CPI, but the actual number was close to 0.6%.
Laggy data is part of the problem. Headline shelter inflation accounts for about a third of CPI, but the numbers are a laggy and smoothed-out version of what already happened with actual house prices and rent prices. Shelter CPI continues to explode higher, and despite this, it still understates what happened in hindsight with house prices and nationwide rents. On top of that, the service inflation has been substantial recently.
I view this situation as long-term inflation that will likely exist. A strong dollar, lack of Treasury security buyers, and recessionary conditions force Fed to be unable to continue tightening monetary policy even if inflation is still a problem. Yes, the Fed can undoubtedly tighten monetary policy, but they can’t normalize MP back to structurally positive real rates with debts relative to GDP at their current levels. And when they fail to normalize policy fully, I view that as a potential catalyst for the next round of inflation due to the supply side issues that will likely still exist. dropr
It is worth keeping an eye also on the Oil price. It has been declining from its spring highs. It broke down below $92, $85 level and heading lower, which is currently sitting at $78. Technical support levels 77 – 75 price area and 68-66 is the next important area to watch in case of further price decline.
This is with the dollar at unusually strong levels vs the euro and the yen (and as such, the oil price in euro or yen terms remains more elevated), with central banks trying to curtail inflation via demand destruction, and with China maintaining zero-covid policies and locking down cities on a regular basis (which results in oil demand destruction), and with the US aggressively selling oil from its Strategic Petroleum Reserve (resulting in temporary extra supply to the market)
The Biden Administration wants gasoline prices under control during the midterm elections. Gasoline prices are some of the most visible and thus politically-sensitive signs of inflation.
Once we’re past the midterms, this Strategic Petroleum Reserve drawdown will likely be over. They’ve talked about potentially refilling it next year at lower prices. Still, those lower prices might or might not materialize, especially without the Strategic Petroleum Reserve actively selling oil into the market. It’s not out of the question that they’ll end up refilling it at higher prices than they sold it.
Once they stop selling or even more impactfully start buying, that removes one of the significant downward forces on oil prices and potentially creates an upward force on oil prices. They’ve signalled a willingness to buy under $80/barrel to protect US oil production.
There is no significant oil supply response yet, with US oil production still below its 2019 peak and OPEC+ consistently failing to meet its output targets. Furthermore, OPEC+ recently decided to trim production by 100,000 barrels/day to maintain upward pressure on oil prices.
The new UK prime minister is changing course on UK energy policy, with a renewed focus on domestic fracking and North Sea production. However, this will take some time. Those are some of the early signs of supply-response, but at the moment, it’s still policy talk rather than physical reality.
I view the global oil market as a beachball held underwater by numerous policy choices (Fed tightening, SPR drawdowns, China’s frequent lockdowns, etc.). The supply limitations are still there and largely unaddressed, with growing emerging market demand, and are ready to re-emerge as soon as some of those downward forces can no longer be maintained. In addition, the Biden Administration and OPEC+ potentially have the floor at $80/barrel, where the SPR could turn into a buyer and OPEC+ could cut production further.
Therefore, I am agnostic about oil over the next 6-12 months but bullish on oil, oil producers, and pipelines over the next several years.
Getting back to the S&P 500, Fear & Greed Index slid below 25 in the extreme fear territory. This is a potential short-term bounce in the US markets as a contrary indicator. Taking this information into the price chart, we see that the S&P500 price is at the central support area, confirmed from 100 MA.
I am not bullish on S&P 500, tho. It could be interesting for short-term traders to watch for buys with a good risk-to-reward ratio. I see this more like a sell the rally than buying the retracement as the better scenario.
S&P 500 Support levels: 3600, 3400, 3250, 3150
S&P 500 Resistance levels: 3700, 3900, 4100
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