The Decline In The S&P 500 May Not Be Over

Stocks may have further to decline the week of October 17, 2023, before finding a short-term bottom.

Hey everyone uh this is mike uh this is saturday afternoon it’s around three o’clock new york time uh this is my free youtube channel please remember to subscribe to this channel and like this video uh so we can try to get it trending uh so it was a very busy week um for those of you that don’t know i was on the fox business news channel this week on thursday on

The charles payne show uh so we did uh some chart school with him it was a lot of fun i’m going to provide the link so you could watch that video as well in the comment in the um comment section below so please make sure to check that out when you get a chance um so obviously the big news this week was the inflation data cpi month over a month hotter than expected

Cpi core month over month hotter than expected cpi year over year hotter than expected cpi x food and energy year over year hotter than expected um and if that wasn’t enough then on month friday morning we get the university of michigan inflation expectations for consumers one year inflation expectation hotter than expected five to ten year inflation expectations

Hotter than expected so basically bottom line is that inflation is running hotter than expected on a lot of different surveys and that’s a problem for the fed another thing that we could take a look lanafed sticky cpi for the 12 months up to 6.5 you can see this nearly vertical rise right now in the c in this sticky measure of inflation so again this is a a very

You know this is basically a going back to 1982 a 40-year high and you can see the manner in which it’s rising it’s rising in very much a vertical type of fashion it’s not even uh it’s not even showing any signs of cooling it hit a new all-time high on just this past week so obviously there’s a lot going on right now in inflation and a lot more for the fed to do

And that’s immediately kind of resulting in and being shown in or repricing in fed fund futures with um fed fund futures now pricing in a peak terminal rate of 4.96 percent that’s up from a prior terminal rate of 4.67 percent and this was just all in the past couple of days that this take that this has taken place so this is a major repricing that you’re seeing in

Interest rates and um and you can see it also in the two-year yield with the two-year rising this week to 450. so that was that was significantly higher than the price prior peak around 435 and to be quite honest it almost looks like we have a bull flag within a bull flag here and potentially you know higher rates still to come from this point in time you can see

That if we kind of just extend this out you’re looking at a rate that may be going to around 4.65 percent and it sounds crazy perhaps to you but when we look at where december 23 fed fund futures are right now they’re trading 465 and that’s probably where we’re heading to on the two-year rate as well so it’s uh very much the case that we could see significantly

Higher rates from here and you know everyone was kind of confused by the price action we saw on the s p on on friday and um there’s really not much to be confused about um really when you think about what took place here on friday the cpi report came out and the market plunged lower uh to a 3 500 at the opening and as i sort of went through in a write-up that will

Be coming out sunday morning and went through a write-up on uh i’m sorry in a video session for my subscribers friday was essentially you got the market to move down very quickly and that caused the s p 500 to hit up to a critical level of support of 3500 which is the biggest area of gamut of put gamma concentration and gamma for those of you that don’t know is a

Second derivative order for options right so delta measures the rate of change of a stock gamma measures the rate of change of delta so second derivative rate of met it’s measuring the rate of change of the rate of change and um essentially what happens is when you get to a big level where the most gamma is from a put perspective it can serve as a region where the

Market all of a sudden finds a bounce because everyone who’s holding those puts those thirty five hundred dollar puts are it’s going to run out and start selling them because they’re in the money they’re making money they want to monetize it while they still can because implied volatility levels are dropping x the event and so that makes puts as implied volatility

Levels decline it makes the value of the put decline and so people want to basically go out and start selling those puts so they can lock in the biggest gains that they get this causes market makers who are hedge these puts by shorting s p 500 futures to run out and start unhedging themselves by buying s p 500 futures back and of course because we’re in the type

Of environment where everyone is trading short dated options what does that mean it means that every as the market starts going higher people start running out and buying calls and if we actually go in and look at the at the at my trading trade alert system here and if we go and look at thursday’s activity what do you see the options with the greatest amount of

Activity all expiring for the 13th basically the most active options were the 3 700 calls for thursday’s expiration followed by the 3500 puts filed by the 3600 calls filed by the 3600 calls filed by the 32 600 puts so basically you had all this activity taking place around these you know these options and as people go out and buy the calls that you know also causes

Another sort of you know squeeze higher in markets so this is what really kind of fueled everything and then of course you got this really negative bearish cup and handle pattern here normally people think of a cup and handle pattern as being a bullish thing but uh when the cup is is like this and then you have a rising handle it’s typically actually a bearish

Indicator and it typically results in the asset returning to the origin of the of the beginning of the trade so that would be somewhere around this 3500 level again and you can see we had a pretty sharp 2.4 percent decline on on friday you could also sort of see this in the s p 500 futures with again sort of that same cup and handle but in this case we formed a

Diamond reversal pattern and it was even mixed in with a throw over and of course once we came back through the other side of that diamond the market fell off and so again this would sort of suggest given that we had this reversal pattern that this also would suggest we come back and return to the origin around 3 500. and again i’ll get a massive repricing and

Rates during the week and you know when you think about it from a logical perspective you know why should stocks be rising when rates are rising as dramatically as they were and so then of course if you start thinking about you know and you start going through the process of trying to figure it out you would begin to realize that the rally in the s p 500 made no

Sense and so you know the immediate reaction is like well the vix didn’t move and it is right the vix didn’t move but we need to remember the options that we’re trading the most were all the options that were expiring on the 13th not 30 days from now right so the vix measures implied volatility for the next third you know over the next 30 days or where it’s going

To be 30 days from now it doesn’t measure where implied volatility is at that moment in time for today’s expiration and so the vix really wouldn’t have been a very good measure of trying to figure that out the only way you would have figured it out is by literally watching the implied volatility levels for these specific contracts for those contracts that were

Expiring on thursday and if you had been watching those contracts specifically you would have been seeing implied volatility levels dropping right from the beginning of the trading session and that’s what caused that big squeeze and so right now another thing that’s sort of interesting is taking place is we have this f-r-a-o-i-s spread which is uh rising right

Now up to 40. that’s actually the highest level it’s been at in this whole cycle and this is an indication perhaps that you know again financial conditions are tightening there’s some funding overnight funding stress taking place in the market in fact and and i’m not talking about the equity market specifically we’re talking about you know the lending the repo

Markets the the lending markets overnight lending uh and what you see here is that when you look at the s p with this fra ois it doesn’t usually have the stress usually happens when you have bouts of market volatility not when things are like really fine and dandy does it it usually also kind of precludes another move a leg down in stocks and you can see that as

This was rising in 2018 if we zoom in a little bit closer here if we sort of look at during this periods of time it happened during lots of volatility and typically when you got surges in this fra ois you also had a big decline in stocks so um again this this may very well be indicating to us that we’re you know going to see more downside pressure here on equity

Prices especially should this continue to rise also another way to sort of measure this and another sort of validation point to this is by looking at you know the vix you can see the vix also tends to trade very much with this fra ois spread which is basically measuring three-month libor minus fed funds rate and again that’s an indication of overnight funding stress

And so again this is just yet another sort of signal that we could see even more implied volatility that we could see even higher implied volatility in the days to come and if we do continue to see implied volatility well then we’re likely to see you know this 3580 level challenged again maybe even by gapping lower monday morning and then of course you know it all

Comes into question do we start to see you know this this low here be challenged at 34.90 and of course if 3490 starts to get challenged you know do some of these big gaps that exist between 3 500 and 3220 begin to play out and that’s certainly a possibility and if we just kind of wrap this up with the s p 500 of 2008 versus the present you can see that you know

The move down this week wasn’t you know again unexpected uh again you can see right here this is sort of the red dotted line is where we closed on friday and again you can see we had a very big sharp rally here then we had a massive decline then we had another little rally and then we had a the last couple of days going into a what was a basically a low point or a

Short-term bottom in the market which ultimately led to prices rising for a little uh and that that continues to sort of play out right here is the timing exact no but i mean again this is is meant to be somewhat of a guide in terms of what could be happening next and what this tells us is that there’s probably still lower prices to come and that we haven’t really

Seen a short-term bottom yet and again if we kind of go back to some of these gauges here that sort of suggests that we might see higher implied volatility levels which suggests that we should see lower stock prices again higher rates a more need for a more hawkish fed should also result in lower stock prices and certainly if we continue to see you know the two-year

And 10-year yields continue to move higher that’s also another indication perhaps that we’re likely to see lower prices and then finally you can see the 10 minus 2 is still at negative 47 here not even really clear to me that it’s showing that we’re even putting in a low because we just made sort of a fresh intraday low uh on friday so we’ll have to continue to watch

This this is obviously an indication if we should start seeing this begin to rise that may be the fed is is getting closer to a point where it’s going to pivot i can’t really say that at this point because this almost looks like the 10 minus 2 wants to continue to go lower and if that should happen that’s going to tell us that we’re getting further and further away

From a fed pivot so again there’s a lot of a lot of stuff going on in the market a lot of things to watch but most of the data points we’re looking at here kind of all conclude and point to still yet another another leg down coming and again it brings us closer to that short-term bottom it’s just a question of where that short-term bottom is is it going to be at 3

400 or is it going to be at 3200 and and that’s 200 points on the s p and that’s a pretty big difference but again you know there there is that sort of gappiness in the chart going back to the year 2020 that suggests 3220 is not out of the question for this final move down um so anyway i hope you had a good i hope you have a good weekend don’t let this ruin this

We’ll we’ll take it you know step by step i do try to put out updates during the week for you but it just seems like these weeks just fly by and i never quite get everything accomplished that i want to get accomplished so i apologize for that but um again i’m here to help so i hope you enjoy these videos if you have any questions you can leave a comment i’ll try

To respond uh if i can or if i read through the comments i’ll try to address them in future videos have a great weekend bye

Transcribed from video
The Decline In The S&P 500 May Not Be Over By Mott Capital Management LLC