NFTRH; a curious correlation and more market notes

I was actually looking at the small caps, considering whether or not to short IWM as part of the model portfolio. Then I started fiddling around with ratios and correlations and nerdishly distracted myself.

What I came up with is this uncanny correlation of small cap performance and the 30yr Treasury yield, which is the yield in our long-term monthly ‘Continuum’ chart (appears in this post from earlier today).

The first thing that happened was that I got dissuaded from shorting IWM due to the potential of the yield to continue rising in the near-term. The second thing that happened is that I took note of the recent divergence between the two and started asking myself some questions. Like…

  • Who is right and who is wrong on the short-term, small caps or the yield?
  • Are yields leading small cap performance higher or is small cap performance negatively diverging the yield and possibly setting up for a deflationary whiff (that the Fed might find convenient)?
  • Or is the correlation ending here (it has not always been this way but it has been in play since the 2008 market crash)?

Either way, I decided not to over-think it until more information comes in. In other mental notes I’ve taken today…

  • The US dollar is dropping faster than I thought it might from the SMA 50, and is already near the first support level. The developing plan had been for a drop to the SMA 200 (93.11 and rising) in conjunction with the CRB index going to the 270+ target. That could very well still be the play, but USD support is at around 94.50 and there could be some turbulence along the way. It is already getting short-term oversold by daily RSI.

  • Taiwan Semiconductor pleased the market today and the Semi sector was up early, but the market whipsawed and sold the news. If your patience is being tested by this market, you are not alone. Semi is fundamentally excellent but certain valuations are stretched and any sector can take a correction. For now, it was just an in-day reversal, but bears watching.
  • I took a look at a weekly chart of SPX and did not like it. Specifically, while trends are up MACD is rolling and RSI is below its weekly EMA 20. Both are in positive territory and we’ve seen conditions like this foiled for the bears a million times in the past. Still, I don’t like it. I also don’t like that distribution volume with down weeks far exceeding up weeks.

  • Another disturbing thing that we noted back in Q4 2021 is still in play as the Baltic Dry index of shipping costs continues to diverge both inflation expectations (RINF) and the CRB index to a major degree. What’s more, there is a much less pronounced divergence in RINF to the CRB index. Now what was that we noted about the US dollar already nearing support?

These are some of what I see going on out there, and I don’t like a lot of it. Since the 2020 crash we have allowed the existing trends to guide us but for much of that time it has also been a very high risk market, by definition of valuations, divergences and sentiment. There are pressures building and there is one very noisy hawk (as amplified by its own jawbones and the media) in the works at the same time.

As noted previously, I like it when markets get in motion but this week’s unsurprising recovery (in line with the trends) and today’s reaction has put things back in the grinder, after more backward looking inflation data and Fed fears. That I don’t care for. But market participants are going to have to endure it until it either finishes its drive for a top or cracks; and it will crack. It’s a matter of when.

The bottom line of this update is that trends remain the same… up. Small caps are among the suspect and divergent areas. The inflation trades are dragging around a concerning BDI, which does not make much sense with the rise in oil prices and other commodities. The market continues to be two things at once, bull trending and at high risk.

Let’s see what tomorrow brings and how we close the week. As a gold bull I’d love to see the whole thing (macro markets) pancake, whether or not that means gold drops too and get on with a post-correction or even post-crash macro, which if past is prologue would see gold and its bullish big picture technicals, lead out of the darkness. That might not come until the Fed either backs up its stance with a rate hike (gold buys the news) or is forced by a liquidity event of some kind to flip flop its stance.

INFLATION BECAME FRONT PAGE NEWS for too long and the herds bought it while the Fed detested it. But the stuff coming out in the headlines is backward looking. It’s what’s ahead that we need to manage closely. The theme is that the inflation trades could flip the bird to the Fed until things finally crack (spring?). But with some of these divergences, it’ll be a good idea to not set that thinking in stone just yet.

For now, robo market grinds on until something either cracks or blows off.