Written by Jim Welsh
Macro Tides Weekly Technical Review 05 July 2021
Labor Market Improvement
The U.S. economy created 850,000 jobs in June which was about 140,000 more than forecast. It was a good number which is why the S&P 500 and Nasdaq 100 pushed to a new all time high. Treasury yields fell since the increase in jobs was solid, but not so good as to force the FOMC from its snail pace toward reducing its extraordinary accommodative policy
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According to Bloomberg’s Financial Conditions Index, monetary policy is easier now than at any time since at least 2007.
After schools reopen and unemployment benefits are terminated in September for the 70% of those still unemployed, job growth will strengthen a lot. A return of a few million workers in September may cool down the rapid increase in wages. Hourly wages among private-sector workers rose 3.6% from a year earlier in June, and compared with February 2020 average hourly earnings among private-sector workers are up 6.6%.
After adjusting for the return of low-wage leisure, hospitality, and retail workers, average hourly earnings rose by 0.5% in June from May and are up 4.5% from a year earlier. Hourly wages for restaurant and other hospitality workers were up 7.9% in June from their pre-pandemic level. On an annualized basis this year, leisure and hospitality wages are up 12.3%, transportation and warehousing pay is up 8%, and retail wages are up 5.5%. A pick up in hiring in the next 5 months will influence the timing of the FOMC’s decision to taper, and the rapid increase in wages will pull forward into 2022 the first rate increase. In the meantime investors will continue to not see what’s coming until it’s a ‘surprise’.
At the June 16 FOMC meeting the FOMC Board increased the interest rate for deposits in the reverse repo facility from 0.0% to 0.05%. As Chair Powell claimed:
“The reverse repo facility is doing what it’s supposed to do, which is to provide a floor under money-market rates and keep the federal-funds rate well within its – well within its range. So we’re not concerned.”
Earning 0.05% on a deposit doesn’t sound like much and it isn’t. But the amount of money flowing into the reverse repo facility at the Fed has soared from almost nothing in March 2021 to $841 billion in late June, indicating it is. The surge is occurring as Treasury bills mature and institutional investors roll the money into the reverse repo facility, since Treasury bill yields are less than 0.05%. In the 2 weeks after the Fed increased the RRP yield to 0.05%, $320 billion in deposits shifted to the reverse repo facility.
By the end of August as more T-bills mature, the RRP facility could approach $2 trillion. The source of the RRP facility funds are predominantly money market funds that invest only in Treasury bills and institutions looking for a safe place to park funds. As money shifts from money market funds and institutions into the RRP facility, money will be drained from the banking system. This represents a tightening of liquidity and could prompt the FOMC to inject upwards of $2 trillion to stabilize the financial system in August. The shift in such large money flows could certainly lead to an increase in volatility.
Treasury Yields
Although the jobs report exceeded estimates it wasn’t too strong, which helped Treasury yields fall, maybe more from relief than disappointment. Shorts in Treasury futures have been forced to cover providing a lift for Treasury bond prices. The 30-year Treasury bond futures could approach the June 21 overnight high 163.06 before the rebound from the March high in yields is complete. The 30-year yield could dip to 1.95% and the initial high in March 2020 of 1.94% after yields reversed higher.
In the June 14 WTR I recommended taking a 50% position in the 1 to 1 inverse Treasury bond ETF (TBF) at $16.82. TBF traded down to $16.8197 on June 17 and $16.69 on June 18. Increase the position to 100% if TBF trades down to $16.54.
Stocks
Mega Cap stocks (QQQs) were expected to benefit if Treasury yields declined and they have since early April. This pattern continued on July 2 as the QQQ rose by 1.15%, the S&P 500 gained 0.75%, but the Russell 2000 lost -1.01%. On the NYSE just 1680 stocks went up as 1600 fell, even though the S&P 500 was up 0.75%. The number of stocks making a new 52 week high on the NYSE continues to shrink as the S&P 500 pushes higher. This indicates that fewer stocks are participating in the advance, which is less than a healthy sign.
The S&P 500 is being pulled higher by the 25% weighting of the Mega Cap stocks in the S&P 500. The number of stocks making a new 52 week high on the Nasdaq looks sick. There is no question that a small number of stocks are punching way above their weight. If/when these stocks falter, the rest of market is not expected to pick up the slack.
The Russell 2000’s trend looks different than the S&P 500 or QQQs and implies underlying weakness, as more stocks struggle to make a new high.
The S&P 500 was expected to rally to 4294 to 4315 but exceeded this range by 1% on Friday. End of quarter and beginning of a new month, quarter, and the seasonal lift from the 4th of July holiday all contributed to the strength in the S&P 500 and QQQs. As noted in last week’s WTR:
“The S&P 500 reached 4292 on June 28 and could briefly exceed 4315 on end of quarter buying. Irrespective of any short term squiggles the S&P 500 is near the upside target range is likely approaching a top prior to 7% to 10% correction. The topping process could be extended if Treasury yields approach their June 20 lows.”
The one caveat would be if Treasury yields fell in response to money flows into the RRP facility that caused volatility to jump and the stock market to drop sharply.
The stock market is still expected to top soon as Treasury yields bottom and reverse higher, and the strongest sector – Mega Cap stocks as measured by the QQQs – roll over.
Dollar
The Dollar was expected to make significant low and it has provided additional confirmation of having done so. After bottoming at 89.54 on May 25, the Dollar rallied in 5 waves to its recent high of 92.74 on July 2. The Dollar subsequently fell as the jobs report was interpreted as meaning the FOMC won’t be changing its tune about tapering or rates anytime soon.
The 5 wave rally is symptomatic of a change in trend and the completion of the correction that began in January 2017. In the short term the completion of a 5 wave move, whether it is up or down, indicates that a counter trend move is likely. This suggests the Dollar should drop and give back some portion of the rally from 89.54 to 92.74. At a minimum the Dollar is likely to fall to 91.50 but a decline to just above 91.00 is more likely. Gold and Silver could benefit from a bit of Dollar weakness. The CPI reports for June and July that will be released in mid July and mid August could also be a tailwind if Core inflation doesn’t moderate.
Gold
Gold sold off a bit more than expected but it held support near $1750 and has rallied. As noted in last week’s WTR:
“The expectation is that Gold will hold $1750 and then make a move up to $1835 to $1850. A softer than expected employment report would give the metals a lift as investors conclude the Fed will remain easy for longer and risk higher inflation.”
Although the job report wasn’t weaker than expectations, it wasn’t so strong as to scare markets, which is why Treasury yields fell, stocks rallied, as did Gold, Silver, and Gold Stocks. Gold will enter a period of strength in August and September which could deliver more gains in those months.
Silver
After Gold and Silver topped last August, Gold fell from $2070 to $1677 but Silver corrected more in time than in price. The pattern Silver has traced out looks like a 5 legged triangle, which usually appear right before a thrust higher. Silver looks more bullish than Gold. If this pattern analysis is correct, Silver will rally above the August 2020 high at $29.75 and could stretch up to $32.00.
Gold Stocks
From its low in March at $30.64 GDX rallied $40.13 a gain of $9.49. An equal rally from last week’s low would suggest GDX could rally up to $42.79. The Gold Stocks are going to have to show better relative strength to Gold if GDX is going to test the August 2020 high at $45.78.
In the June 22 WTR traders were advised to take a 50% position in IAU, SLV, and GDX on the opening on June 23. IAU opened at $33.96, SLV $24.38, and GDX opened at $35.01. Traders can increase the positions to 100% by buying IAU below $34.30, SLV under $24.92, and GDX at $34.95 or less.
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The MTI generated a Bear Market Rally (BMR) buy signal when it crossed above the red moving average on April 16, 2020 as the S&P 500 closed at 2800. A new bull market was confirmed on June 4, 2020 when the WTI rose above the green horizontal line. Although the S&P 500 exceeded the target of 4315, the underlying weakness in the overall market suggests the S&P 500 is near a top. Once the high is confirmed the S&P 500 is expected to fall 7% to 10%.
The S&P 500 is expected to decline to at least 4000 and could drop to 3725 in the third quarter if Treasury yields spike higher to 1.90% or higher as expected.
The primary 10 sectors for the S&P 500 with the Russell 2000 and Midcap included.
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