Trading | May 20, 2022

Weekly Trader’s Outlook

Volatility begets more volatility.

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Weekly Market Review

Earnings Summary

The regular Q1 earnings season is nearly over. This week, 12 S&P 500 companies reported Q1 earnings and 10 of them beat consensus EPS expectations. A detailed earnings calendar can be found by logging into Schwab.com and selecting Research>Calendar>Earnings.

Overall, 469 (94%) of the companies in the S&P 500 have reported Q1 results. Below are the aggregate beat rates relative to the final results from recent quarters.

Quarter      EPS beats      Rev beats

Q1 ‘22            77%                  67%

Q4 ’21              76%                  69%

Q3 ‘21              82%                  68%

Q2 ‘21              86%                  83%

Q1 ‘21              87%                  72%

Q4 ’20              78%                  69%     

Q3 ‘20              84%                  74%

Q2 ‘20              85%                  65%

Q1 ‘20              65%                  59%

Average            81%                  70%

From a growth standpoint, Q1 earnings are +9.4% y/o/y versus a +5% estimate when the quarter ended. Q1 revenue is +13.3% y/o/y versus a +11% estimate when the quarter ended. This compares to final growth rates of +29.6% and +15.9% respectively in Q4.

Economics Recap

Better (or higher) than expected

  • Industrial Production for Apr: +1.1% vs.+0.5% est
  • Capacity Utilization for Apr: 79.0% vs. 78.6% est
  • Business Inventories for Mar: +2.0% vs. +1.9% est
  • Building Permits for Apr: 1819k vs. 1814k est

On Target

  • None

Worse (or lower) than expected

  • Empire Manufacturing for May: -11.6 vs. +15.0 est
  • Retail Sales for Apr: +0.9% vs. +1.0% est
  • NAHB Housing Market Index for May: 69 vs. 75 est
  • Housing Starts for Apr: 1724k vs. 1756k est
  • Initial (weekly) Jobless Claims: 218k vs. 200k est
  • Existing Home Sales for Apr: 5.61M vs. 5.64M est
  • Leading Economic Indicators for Apr: -0.3% vs. 0.0% est

While Retail Sales were +8.2% y/o/y, April came in just below expectations. I suspect this may be a sign of a peak, as wholesale prices, labor, and transportation costs are all still rising. Earnings reports from some of the major retailers (HD, WMT, LOW, TGT, etc.) indicate that consumers are already starting to pull back in response to rising retail prices. This is especially true for discretionary items, but it is happening to some extent in staples too. There’s an old expression that “the best cure for high prices, is high prices”, and ultimately this is exactly what the Fed wants. Unfortunately, it doesn’t happen without considerable discomfort for consumers.

One of the few remaining economic bright spots is the forward-looking employment data, though this may also begin to deteriorate soon. At 218k, Initial Jobless Claims came in above the 200k estimate and above last week’s 197k level. However, last week was revised downward from an initial reading of 203k. Claims are now averaging 200k for the past 4 weeks. And while this is higher than the ~180k average we saw in the month of April, it is still quite low historically. As mentioned above, weaker than expected earnings reports from several major retailers have sparked concerns of weakness in the consumer segment, but those concerns are not reflected in the labor market…yet.

Claims

Source: Schwab Center for Financial Research

Past performance is no guarantee of future results.

Market Performance YTD

The 47% YTD rise in West Texas Intermediate Crude (WTI) prices continues to support the enormous divergence in sector performance YTD. Once again, Energy is the only positive sector YTD.

Here is the 2022 YTD (versus 2021 full-year) performance of the market broken down by the 11 market sectors (as of the close on 5/19/22):

                                         2022 YTD                 2021 Final                 Category

  1. Energy                         +45.8%                         +47.7%                         Defensive
  2. Utilities                         -0.5%                            +14.0%                         Defensive
  3. Materials                       -9.0%                            +25.0%                         Cyclical
  4. Cons Staples                -9.2%                            +15.6%                         Defensive
  5. Healthcare                    -9.2%                            +24.2%                         Defensive
  6. Industrials                     -14.5%                          +19.4%                         Cyclical
  7. Financials                     -15.8%                          +32.5%                         Cyclical
  8. Real Estate                   -19.4%                          +42.5%                         Cyclical
  9. Info Tech                       -25.3%                          +33.4%                         Cyclical
  10. Communications Svc  -27.4%                          +20.5%                         Defensive
  11. Consumer Disc             -30.7%                          +23.7%                         Cyclical

Source: Bloomberg L.P.

Past performance is no guarantee of future results.

Here is the 2022 YTD (versus 2021 full-year) performance of the major U.S. equity indices (as of the close on 5/19/22):

                                                        2022 YTD      2021 Final        Forward P/E Ratio       

  • S&P 500 (SPX)                            -17.5%              +26.9%                         17.1                 
  • Nasdaq Composite (COMPX)   -27.3%              +21.4%                         23.8
  • Dow Industrials (DJI)                 -12.6%              +18.7%                         16.4
  • Russell 2000 (RUT)                    -22.5%              +13.7%                         19.4

Source: Bloomberg L.P.

Past performance is no guarantee of future results.

Technicals

Last week I stated, “…In last week’s battle between the bullish and bearish indicators, the bears came out on top… but next week it could be a different story …. the outlook for next week is the same; Volatile overall, followed by a Moderately Bullish gain by week’s end.”

With the SPX up more than 80 points (+2.0%) on Tuesday (5/17) but down more than 165 points (-4.0%) on Wednesday (5/18), and a top-to-bottom range in the VIX of more than 7 points, I think it’s safe to say that this week’s primary outlook of “Volatile” hit the mark again. However, like last week, the “Moderately Bullish” result by the end of the week (barring a +123 point gain on Friday) missed the mark again. The dip buyers stepped in several times during the week, but were soon punished again.

The tech-heavy Nasdaq Composite ($COMPX) remains solidly in a bear market. While at the time of this writing (mid-day Friday 5/20) the COMPX has not closed at a new low yet this week, it came dangerously close on Thursday (5/19), -29.1% from its bull-market high. Like last week, the next level of support may not appear until the November 2020 lows (10,822).

As you can see below, the SPX closed below support (3,950) on both Wednesday (5/18) and Thursday (5/19), and it is struggling to retake that level as I’m writing this (mid-day Friday 5/20). Technically, the SPX has not yet fallen into a bear market (-20%), but it got to within 1% on Thursday. It’s probably only a matter of time.

SPX

Source: StreetSmart Edge®

Past performance is no guarantee of future results.

Option Volumes

As we approach options expiration, May option volume is averaging a very solid 41.5M contracts per day. That is above the final April level of 39.1M, and above the May 2021 level of 36.1M contracts per day. The all-time record of 45.2M contracts per day was set in November 2021.

Open Interest

OI Change

The following data comes from the Chicago Board Options Exchange (Cboe) where about 98% of all index options, about 20% of all Exchange Traded Product (ETP) options, and about 15% of all equity options are traded:

In reviewing the VIX OI Change for the past week I observed the following:

  • VIX call OI was -13.1%            
  • VIX put OI was -33.5%              

Historically, the daily change in the VIX and the SPX have been opposite each other about 80% of the time. These sharp declines are the result of the regular May contract expiration on Wednesday (5/18) and are therefore N/A for the market in the near-term.      

In reviewing the SPX OI Change for the past week I observed the following:

  • SPX call OI was +4.0%
  • SPX put OI was +4.3%             

While SPX volume tends to be mostly institutional hedging, these changes reflect an insignificant bias toward the put side, so I see the SPX OI Change as neutral for the market in the near-term. 

In reviewing the ETP OI change (which includes SPY, QQQ, DIA, IWM, etc.) for the past week I observed the following:

  • ETP call OI was +1.6%             
  • ETP put OI was +1.9%            

The aggregate changes in Exchange Traded Products options reflect an insignificant bias toward the put side, so I see the ETP OI Change as neutral for the market in the near-term.

In reviewing the Equity OI Change for the past week I observed the following:

  • Equity call OI was +2.0%                      
  • Equity put OI was +1.7%                       

Equity volume tends to have a large retail component to it. These changes reflect an insignificant bias toward the call side, so I see the Equity OI Change as neutral for the market in the near-term.

OI Participation

Index OI Participation is +3.5% versus 2021 levels, so I see it as moderately bullish in the long-term.

Equity/ETF OI Participation is +4.5% versus 2021 levels, so I see it as moderately bullish in the long-term.

Open Interest Put/Call Ratios (OIPCR)

The VIX OIPCR is down 12 ticks to 0.53 versus 0.65 last week. Since this ratio tends to move in the same direction as the VIX index, this large downtick is way out-of-line with the VIX which was only +0.48 (+1.7%) over the last 4 sessions. However, as noted in the OI Change section above, May VIX contracts expired this week, and the quantity of expiring VIX puts was more than 60% larger than the quantity of expiring VIX calls, so this ratio is being greatly influenced by the expiration. Taking this into consideration, I see the VIX OIPCR as moderately bearish in the very near-term for the markets. This ratio is now up only 9 ticks in the past 4 weeks, and is now back below the 200-day SMA of 0.62. Therefore, I see it as moderately bearish in the long-term for the markets.

The SPX OIPCR is down 1 tick to 1.73 versus 1.74 last week. This ratio tends to move in the same direction as the SPX, but this downtick is rather modest given the SPX has fallen 123.10 points (-3.1%) over the last 4 sessions. As a result, it implies that SPX option traders (who are almost entirely institutional) remain only modestly hedged at these levels and may be expecting at least a small bounce from the SPX next week. Therefore, I see the SPX OIPCR as moderately bullish in the near-term for the market. This ratio is now down 29 points over the past 4 weeks, and it is now 33 ticks below the 200-day SMA of 2.07. I see it as moderately bullish in the long-term.

The normally very stable Equity OIPCR is unchanged at 0.80 versus 0.80 last week. This ratio remains 3 ticks below its 12-month peak. As a result, equity option traders (which includes a lot of retail traders) are still showing less caution than in previous months. Therefore, I see the Equity OIPCR as neutral in the near-term for the market. As this ratio is now equal to the 200-day SMA (currently 0.80), it remains neutral in the long-term.

Cboe Volume Put/Call Ratios (VPCR)

The Cboe VIX VPCR has moved from moderately bearish, to neutral, to moderately bullish this week. The 1.23 reading on Thursday (5/19) was moderately bullish, and the current reading of 1.19 as I’m writing this (mid-day Friday 5/20) is moderately bullish. However, with such wide swings, I see it as volatile in the very near-term.

The Cboe SPX VPCR has gone back and forth between moderately bearish and neutral twice this week. The 1.54 reading on Thursday (5/19) was neutral, and the current reading of 1.51 as I’m writing this (mid-day Friday 5/20) is neutral. While intraday levels tend to decline as the day goes on, I see it as neutral in the very near-term. With a 5-day moving average of 1.61 versus 1.63 last week, it remains moderately bearish in the long-term.

The Cboe Equity VPCR has moved from neutral to moderately bearish this week. The 0.80 reading on Thursday (5/19) was moderately bearish, and the current reading of 0.94 as I’m writing this is moderately bearish. While this ratio tends to decline as the day goes on, I see it as moderately bearish in the very near-term. With a 5-day moving average of 0.72 versus 0.75 last week, it is now neutral in the long-term. As noted below, long-term for this ratio is about a week or two.

Since volume based put/call ratios are very reactive and very short-term in nature, near-term usually means just a day or two, while long-term is more like a week or two.

OCC Volume Put/Call Ratios (VPCR)

The OCC Index VPCR has moved from moderately bearish (>1.10) to bearish (>1.40) this week. As a result, I see it as bearish in the near-term. It has now been moderately bearish in 6 of the last 8 sessions, so I see it as still moderately bearish in the long-term.

The OCC Equity VPCR has been neutral, bearish and moderately bearish this week. Therefore, I see it as volatile in the near-term. With a 5-day average of 0.88 versus 0.95 last week, I see it as moderately bearish in the long-term.

Volatility

Cboe Volatility Index (VIX)

At the time of this writing (mid-day Friday 5/20), the VIX is -0.52 to 28.83. At its current level, the VIX is implying intraday moves in the SPX of about 59 points per day (this was 61 last week). The 20-day historical volatility is 170% this week versus 179% last week. The VIX remains well above its long-term average (19.57) and also well above its long-term mode (12.42) which I consider to be “normal” volatility.

The VIX has been above 30 for the majority of the past 3 weeks; a level that implies continued uncertainty and high anxiety among traders. High volatility usually means big moves in both directions, and there have been 10 days in the past 3 weeks in which the SPX gained or lost more than 2%. Therefore, I see the VIX as volatile in the very near-term for the equity markets. At the time of this writing (mid-day Friday 5/20) the VIX is more than 4 points below its weekly high, but still more than 8 points above its level 3 weeks ago. I see it as also volatile in the long-term.

On a week-over-week basis, VIX call prices have fallen modestly while VIX put prices have also fallen modestly. At -9 versus +3 last week, the VIX IV Gap (the average IV of VIX calls less the average IV of VIX puts) is little changed, and at this level it is still negative and therefore still bullish in the very near-term. VIX call prices and VIX put prices are mostly trending sideways now. Therefore, at these levels I see the VIX IV Gap as moderately bullish in the long-term.

Keep in mind, this is not only a contrarian indicator most of the time, it tends to be one of the earliest and shortest-term indicators I discuss in this report, so it can also change directions very quickly.

VIX Futures

As of this writing (mid-day Friday 5/20) the nearest VIX futures contract (which expires on 5/25) was trading at 28.45; very close to the spot VIX level of 28.83. Adjusting this price for the risk premium factor (which takes into account the time until expiration), the Risk Premium Adjusted Price (RPAP) is 27.90; nearly 1 point below the spot price.

With an adjusted level that is nearly a point below the spot price, futures traders are indicating that they believe the VIX is unlikely to drop slightly over the next few days. However, with the VIX still near 30, even a sideways market could result in a decrease in the VIX. Therefore, I see VIX futures as neutral in the near-term for the market. The RPAPs of the next two closest monthly futures contracts are 26.70 and 25.21 respectively. With the RPAPs of the further-dated contracts about 2 - 3 points (respectively) below the spot price, I see VIX futures as moderately bullish in the long-term for the SPX.

Since VIX futures are typically much less reactive to current market conditions than the VIX index, near-term for VIX futures usually means a few days, while long-term means a couple of weeks.

With the VIX still relatively high this week, the VIX Hedging Effectiveness has been Moderate in the near-term. At the moment, this means that options on the VIX (and possibly other volatility-related products) are showing at least moderate sensitivity to market volatility, and maybe at least moderately effective as hedging tools in the very near-term. VIX Hedging Effectiveness is also Good in the long-term.

VIX Hedging Effectiveness is a manner of measuring the magnitude of VIX moves relative to the magnitude of SPX moves in the opposite direction. When the VIX is highly reactive, VIX related products can serve as potentially effective hedging tools, when the VIX is not very reactive, traditional hedging techniques may be a better choice.

Cryptocurrencies

This week the meltdown in “stablecoin” TerraUSD continued despite a massive rescue effort. According to a Bloomberg report, a subsidiary of Terraform Labs called the Luna Foundation Guard, spent about $2.9B in reserves of bitcoin and other cryptocurrencies, trying to stabilize the stablecoin’s price. As the effort failed and TerraUSD declined to less than $0.07 at the time of this writing, total losses in what was one of the largest algorithmic stablecoins, combined with losses in Terra Luna (its stabilizing cryptocurrency) could exceed $40B by the time it is over, and over 4M digital wallets could be affected. While much of these losses are outside of mainstream finance, they are not insignificant in magnitude. Consider the following high-profile loss comparisons from history: Bear Stearns -$25B, Lehman Brothers -$60B, and Enron -$65B.

In a related story, another algorithmic stablecoin called DEI, which is part of the Deus ecosystem appears to be following a similar trajectory as it lost its 1-to-1 peg to the dollar early this week; trading at about $.58 at the time of this writing. While DEI is a smaller token, with assets less than $5B, it could be a signal of more failures to come. Following the TerraUSD collapse, SEC Chairman Gary Gensler re-emphasized that all cryptocurrency assets need more investor protections, including anti-fraud, anti-manipulation, and front-running rules.

For Schwab’s perspective on cryptocurrencies, please visit: www.schwab.com/cryptocurrency

Economic reports for next week

Mon 5/23

None

Tue 5/24

New Home Sales for Apr – This report measures sales activity of newly constructed homes and other single-family dwellings, and is generally considered less important than building permits since it is more of a trailing report.

Wed 5/25

Durable Goods Orders for Apr – This is a key measure of consumer and industrial spending trends and often causes market swings if it misses estimates.

Thu 5/26

GDP for Q1 – This is the second estimate (Preliminary) for Q1 and the consensus estimate is that GDP will be unrevised at -1.4%. You’ll recall that the first (Advance) report in Q1 showed -1.4%

Initial Jobless Claims - For the week ending 5/14/22, claims were up 21k after being down 5k the prior week. The 4-week moving average now stands at 200k, up 9k from the prior week.

Pending Home Sales Index for Apr – This report measures actual contracts signed, whereas existing sales (reported last week) measures actual closings, so this one is slightly more forward looking. This one will usually only affect equity markets adversely if it comes in very low.

Fri 5/27

Personal Income & Spending for AprThese reports use data from the monthly employment report to gauge income from wages and salaries. Personal income is also sometimes used to forecast future consumer spending.

Personal Consumption Expenditures (Core PCE) for Apr – PCE includes durable goods and nondurable goods which are directly influenced by the retail sales reports and services. This is the Fed’s preferred inflation gauge.

University of Michigan Consumer Sentiment for May – This is the Final (second) report for May. At 59.1, the mid-month report declined from 65.2 the prior month.

Interest Rates

The probability of another 0.50% rate hike on June 15th remains at 100% but the probability of a 0.75% hike has fallen from about 18% to just 8%. The interest rate on the 10-year treasury ($TNX) began the week around 2.93%, rose as high as 3.01% in the middle of the week but fell throughout the latter part of the week. It is currently around 2.82% at the time of this writing (mid-day Friday 5/20).

Outlook

Markets have been volatile for a full month now and the bulls have failed again and again to establish any sustained upside momentum. The indicators point to more volatility with little overall progress for next week.

Bottom Line

It is difficult to imagine any sort of sustained rebound when markets continue to contend with tightening monetary policies, rising interest rates, surging food and fuel prices, a strengthening dollar, Chinese COVID lockdowns, and the Russia/Ukraine war.

As you can see below, there were a few more downgrades than upgrades this week and with these changes the overall balance for next week has moved down to Neutral. However, with the VIX still near the 30 level and all of the issues above still influencing the markets, a secondary outlook of Volatile also makes sense.   

Composite

Past performance is no guarantee of future results.

Key:

OI = Open Interest

OIPCR = Open Interest Put/Call Ratio

VPCR = Volume Put/Call Ratio

IV = Implied Volatility

+ means this indicator has changed in a bullish direction from the prior posting.

– means this indicator has changed in a bearish direction from the prior posting.

+/ – means this indicator has changed bi-directionally; i.e. last week was either Volatile, N/A or Breakout.

^ means this indicator is at a historical extreme that has often (though not always) preceded a market reversal.

Issue Number 643

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