SPY Analysis (Mid-to-Late October)Below is an analysis of the S&P 500 ETF ( SPY ) for the period of mid-to-late October 2022.
Weekly Expected Move
There is a 68% chance that SPY will close the week within this price range.
High price: 375.64
Low price: 349.95
There is a 95% chance that SPY will close the week within this price range.
High price: 388.48
Low price: 337.10
For those who do not already know, the weekly expected move is the amount that an asset is predicted to increase or decrease from its current price within the current week. It is calculated using the implied volatility from the asset's options chain after the close of the prior week but before the market opens for the current week. For more information on how to calculate these values, please see the link at the bottom of this post.
Volatility & Seasonality
From a seasonality perspective, October usually opens relatively strong and can continue to be strong until about the middle of the month, then prices typically decline toward the end of the month. See the chart below.
There may be increased volatility if the CPI report that comes out before the market opens on Thursday, October 13th surprises again to the upside. My inflation predictors show that inflation moderated in September (year-over-year) and that the inflation figure will be less than the August figure.
However, there are early signs that inflation (particularly commodity price inflation) may not decline at the level needed for central banks to pivot away from tightening for some time to come. Until commodity prices stop accelerating higher, there cannot reasonably be a Fed Pivot. If the Fed were to pivot while commodities price inflation was accelerating it could lead to a hyperinflationary outcome.
The recent volatility spike put the VIX term structure into partial backwardation. VIX term structure backwardation simply means that the market is pricing in decreasing volatility in the future. The VIX term structure usually goes into complete backwardation at major stock market bottoms, as this structure reflects the type of capitulation that all major stock market bottoms typically exhibit.
In late September, the VIX broke the downward-sloping trendline. It's quite possible that there will be a capitulation event in mid- or late-October that causes the VIX to rise back above this downward-sloping trendline and which causes the VIX term structure to go into complete backwardation.
If such a capitulation event occurs then it will likely mark the bottom for 2022.
Fibonacci Levels
Price continues to cluster around the 3rd Fibonacci spiral that I discussed in my prior posts (see links to related ideas below).
It is my prediction that a capitulation event will form a lower wick below this line on the yearly candle but that prices will tend to revert back around this level by the year's end such that the yearly candle appears to sit on this line. See below for an illustration.
If there is a major capitulation event whereby volatility breaks out and prices break down, I would expect major buyers to come in around the 0.5 level (shown below). The 0.618 level is another support level to watch.
Regression Channel
Regression simply refers to the idea that price tends to revert back (or regress) to its mean for a given timeframe. Regression channels can help us identify which trend is governing price action. These channels can give insight into trend reversals.
Since mid-August, the regression channel on the 1-hour chart has been governing price action (as inferred by such a high Pearson score). Please see below.
You can see below that on Friday (October 7th), the price bounced off the mean (red line).
Unless we get a highly favorable CPI report this week, I would expect that this channel could continue to govern price action all the way until the start of November.
Here's a general sense of what that could look like. Please see below.
Weekly Chart
In my last SPY Analysis, I noted that my indicators on the weekly chart were suggesting that we could drop back below 388. That definitely happened in the midst of the end-of-September volatility.
This time I am seeing something interesting on the 2-week chart...
I noticed that the Madrid Ribbon has turned completely red twice.
This is very rare in S&P 500 history. To put into perspective how rare this is, there have been recessions where not even this occurs. Therefore, in this regard, the extent and duration of stock market declines that we have already seen have been worse than some past recessions. Unfortunately, though, when this signal presents itself, there is usually more pain ahead. We are in a precarious circumstance with price now below the entire ribbon.
Another chart that has me concerned about a potential capitulation event is the 2-day chart for the tech short derivative chart (SQQQ). As many of you well know, when tech stocks fall in price, the price of SQQQ goes up.
As the chart above shows, the moving averages on the 2-day chart are nearing a complete crossover.
This has never happened before in SQQQ's 12-year history.
While only a possibility, this could set the stage for a capitulation event whereby Nasdaq 100 ( QQQ) stocks nosedive back down to their pre-pandemic highs.
Without getting too deep into the analysis, this could also mean that as a ratio to the money supply, the Nasdaq 100 goes all the way back to the March 2020 bottom.
In future posts, I'll discuss more about the money supply and why it can be used in this manner.
Monthly Chart
In terms of the monthly chart, as noted above, I do not see the S&P 500 realistically getting much below the 0.5 level in the chart below without some kind of a major price recovery.
While anything can happen, if the Fed pivots before the Fed Funds rate has risen above the rate at which commodity prices are inflating, I do believe we can end up in a difficult situation with high inflation again in the future.
Yearly Chart
When put into the perspective of the entire history of the stock market (going back in 1871), look how high the stock market is currently valued relative to its mean and past price action.
In terms of the post-Great Recession bull run, we are hanging on by our fingertips. See below.
Below is a closer view.
At the close of 2021, the stock market was so overbought (in terms of the Shiller PE ratio) that despite nearly 10 months of selling, stock valuation is still nearly as high as the peak before the Great Depression.
The stock market is extremely overvalued because of monetary easing. Monetary easing is a central bank experiment that began in recent decades and was normalized in the years following the Great Recession. The monetary easing experiment has created tremendous reliance on its continuity.
Only time will tell how the experiment ends...
Please leave a comment if you find an error in my analysis above or if you'd otherwise like to share your constructive thoughts. Thank you.
If you'd like to plot the weekly and daily expected moves for SPY on your chart, try the indicator "SPY Expected Move by VIX", which is calculated from the VIX rather than from the implied volatility of the options chain. The expected moves that I've posted above were manually calculated by me using SPY options chain data. If you'd like to learn how to calculate the weekly expected move yourself, this video can help: www.youtube.com
