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Breadth in this rally is breathtaking = ATH coming

There are many who quibble with the rally since June, citing this as “short covering” or a “garbage rally” — but market internals are arguing the opposite. There are several ways to see this but take a look at the advance/decline line below:

As noted by Mark Newton, our Head of Technical Strategy
S&P 500 advance/decline line hit an all-time high today
this is a sign of a massive expansion in market breadth/participation
moreover, since 1950, every ATH in A/D has been followed by a new all-time high in the S&P 500
yup, this strengthens the case for S&P 500 to exceed 4,800 before YE

% stocks >50-day moving average now 90% = further expansion of market breadth

Our clients might recall on June 16, 2022, we noted that market internals had collapsed to levels seen around prior lows:

we called this “equities become no bid”
% S&P 500 stocks >50D was only 2%, or a mere 9 stocks, and only 4 more needed to fall to match March 23, 2020 and Dec 24, 2018 lows
as of June 16, just 4 more stocks needed to fall further and on June 17th, those stocks fell

Take a look at the updated chart below. Today, this figure has now surged to >90%. Think of this as a measure of market participation:

breadth has expanded dramatically
according to Mark Newton, our Head of Technical Strategy
this is a very positive development

TECHNICALS: Mark Newton “DOUBT very seriously we retest lows this year”

This expansion of breadth is a positive technically. Take a look at the comment from Mark Newton, our Head of Technical Strategy:

he “DOUBT very seriously that we retest lows this year”
he sees breadth expansion so rare and only seen at major lows
read as = bullish

Source: Mark Newton, Head of Technical Strategy

INFLATION: Sufficient evidence is compelling economists to reduce inflation forecasts

Over the past several weeks, sufficient signs of cooling inflation emerged in incoming economic data to convince economists to shift their views on inflation. Take a look at the commentary from JPMorgan Global Data Watch:

signals the “start of a material downshift” (inflation)
“core goods price inflation likely to slide”
“we may be underestimating this slide”

Notably, it was only a few weeks ago that these same economists warned inflationary pressures were so strong that the risks of recession were escalating. In short:

economists see material signs of slowing inflation
risks of recession, by corollary, are falling
keep in mind, market-based measures and bond markets saw this inflection (lower inflation) 6 weeks ago

Market-based inflation measures see ~2% inflation (annualized) each month thru YE

We again want to highlight this chart created by our data science team, led by tireless Ken. This is looking at anticipated monthly CPI measures (using inflation swap markets) and notably:

markets see CPI <0.2% each month until December 2022, or 6 full months
August is expected to be outright “deflation”
0.2% x 12 = 2.4% annualized. Far lower than 9% seen earlier in 2022

Market-based measures have seen inflation risks drop sharply in the past 6-8 weeks, aided by a fall in oil. But it is not just oil. Commodities are down. Alternative measures like used car prices, hopper data on travel, even airline prices and hotel prices are cooling. And housing is softening. So, it seems like market-based measures are anticipating falling inflation for the “right” reason.

High-yield spreads (to worst) rallied a sizable 168bp, signaling “growth scare” not recession

Many investors know high-yield and equities are cousins. HY generates 80% of the return of equities with half the volatility. And the reason for the close connection is a lower-rated bond has equity risk built into its spread, relative to investment grade (high-grade) and treasuries.

since making wides of 609bp STW on 7/1/2022
HY OAS are now 455bp
or a rally of 168bp

This is a huge recovery from the 314bp (lows of 297bp) widening of spreads since late-2021. And this recovery, in our view, confirms the strength in equities.

Recovery of spreads from here signals “growth scare” not recession

Take a look below and you can see the recovery in HY from here looks like the growth scare of 2018:

recessions have seen spreads further widen to 900bp to 1,100bp
instead of reversing at 600bp ala 2022

STRATEGY: Bonds not really signaling inflation nor recession… but pundits are… who do you believe?

Herein lies the dichotomy. Pundits and many investors expect a recession cycle is underway alongside the elevated risk of inflation (which keeps Fed extra “hawkish”). But the bond and credit markets are signaling a more benign outlook:

if CPI is really sticky, why is the 10-year at 2.7%, not 10% or more ala 1980s?
if a recession is underway, why have HY spreads rallied 168bp and recovered more than half of the widening since 2021?
HY should be at 900-1,100 OAS vs bonds if there was a recession

In other words, should equity investors rely on pundits or credit markets? In our view, bond markets are seeing better inflation ahead. And economists are starting to recognize this and incorporate this into their work.

CAPITULATION: Sell-side strategists slashed 2022 S&P 500 YE outlooks by an average of 700 points

As we commented previously, we believe fundamental investors capitulated on equities in June. At that time, inflationary pressures seemed to be accelerating and Fed would need to create a depression to halt the “sticky inflation.”

it was around this time that sellside strategists slashed their forecasts
as shown below, the Street has cut their YE S&P 500 targets by an average of 700 points
median YE target is 4,300 which is where the S&P 500 is currently

What does this mean? The sellside will soon need to start raising their YE targets if equities make further progress.

STRATEGY: 2022 Bear market was 164 days, or 25% duration of prior bull

Our data science team put together the comparative duration of bull markets and bear markets, and the corresponding ratio:

since 1942, there have been 14 such cycles
median ratio of bear vs bull is 31%, meaning a bear market is roughly 1/3 duration
since 1982, this ratio is only 15%

in 2022, the preceding bull market was 651 days
the current bear market was 164 (using 6/16)
or 25% ratio

As seen below, this ratio is solidly within the ranges seen since 1982.

many investors think “more time” is needed for this bear market
but given the shortness of the preceding bull market 651 days versus 1,309 median
the corresponding bear market should also be shorter

BUY THE DIP REGIME: Stocks already saw fundamental capitulation

And we want to revisit the chart below, which looks at the internals of the S&P 500 — the % stocks >20% off their highs, aka % stocks in a bear market.

this figure surged to 73% on 6/17
this was only exceeded 3 times in the past 30 years
each of the 3 prior instances was the market bottom
we think this is the 4th instance

BUY THE DIP: forward returns strong

And stocks have the best forward returns when this figure exceeds 54% as shown below:

in 3M, 6M and 12M
the best decile for returns
is when this figure is oversold >54%
hence, buy the dip regime is in force

BOTTOM LINE: If equities sell-off after the July CPI, buying the dip makes sense

Our head of Technical Strategy, Mark Newton, sees higher odds of a pullback into August. There are multiple signs he is watching which are discussed in his notes. In short:

he sees chances for S&P 500 to fall back towards 3,900 into August
but this is a buyable pullback

Frankly, a pullback would be welcome, given stocks moved up so sharply in the past few weeks. And our clients remain mostly skeptical. In our conversations, most cite the fundamental risks:

inflation is still high
recession is still coming
EPS downgrades coming
too short to be a proper bear
Fed still hiking

While many cite this, look at how well stocks are reacting to incoming news. The negative pre-announcements and lowered guidance by semiconductors.

if these negative announcements happened in May/June, equities would have gone into a death spiral
today, stocks are down but not that materially
arguably, this shows how light positioning is within equities
if investors are bracing for the worst, bad news itself has less impact
argues to “buy the dip”

33 GRANNY SHOTS: Updated list is below

The revised 33 Granny shots are shown below. The list is sorted by the most attractive (most frequently cited) to least. To be a “Granny shot” the stock needs to appear in at least two portfolios:

$AAPL in 5 of 6 portfolios
$GOOGL $MSFT in 4 of 6 portfolios
$AMZN $META in at least 2
This reinforces our favorable view of FANG in 2H2022

33 Granny Shot Ideas:

Consumer Discretionary: $AMZN, $AZO, $GPC, $GRMN, $TSLA

Information Technology: $AAPL, $AMD, $AVGO, $CSCO, $KLAC, $MSFT, $NVDA, $PYPL, $QCOM

Communication Services: $GOOGL, $META

Energy: $CVX, $DVN, $XOM

Financials: $ALL, $AXP

Real Estate: $AMT, $CCI, $EXR

Health Care: $ABT, $BIIB, $ISRG, $MRNA, $REGN

Consumer Staples: $BF/B, $MNST, $PG, $PM

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33 Granny Shot Ideas: $AAPL, $GOOGL, $MSFT, $ALL, $BF/B, $CSCO, $NVDA, $PG, $PM, $ABT, $AMD, $AMT, $AMZN, $AVGO, $AXP, $AZO, $BIIB, $CCI, $CVX, $DVN, $EXR, $GPC, $GRMN, $ISRG, $KLAC, $META, $MNST, $MRNA, $PYPL, $QCOM, $REGN, $TSLA, $XOM

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TECHNICALS: S&P 500 could pull back to 3,900 = buying opportunity