The Fed Meets this Week to Discuss Interest Rate Policy, While Apple, Microsoft, and Tesla Release Earnings

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(Monday Market Open) Equity index futures are pointing lower once again after the S&P 500 (SPX) fell below its 200-day moving average last Friday. On Sunday evening, the S&P 500 futures had turned positive and looked to rally. However, the futures turned once again overnight and were trading 0.85% lower on in premarket trading. The benchmark index may be heading towards its September 2021 lows near 4300 level for support. The Cboe Market Volatility Index (VIX) has spiked higher and is near 31 suggesting that investors’ nervousness continues to rise.  

This could be a big week for stocks with heavy hitters like Apple (AAPL), Microsoft (MSFT), and Tesla (TSLA) reporting. Additionally, the Federal Reserve will meet this week and hopefully lay out a plan for hiking interest rates in the near future; this could give investors some confidence in their plan to curb inflation. While these news events will be great for those of us who write market commentary, they could spell headaches for investors.

Stocks like Apple and Tesla often provide an insight into investor psychology so this week could be a “vote of confidence” from investors on market strength. Apple has been a mainstay for investors and has often demonstrated strength compared to other technology stocks. Even with the recent pullback, Apple is down about 11% compared to the Nasdaq Composite ($COMP) which is down more than 13%. Tesla has been a “buy the dip” kind of stock and investors have been willing to go to that well several times. However, with the Fed raising rates, investors may not be so willing to drink from these wells.

Netflix Chills

After Thursday’s close, Netflix (NFLX) announced better-than-expected earnings but projected major slowdowns in subscription growth. The stock immediately fell in after-hours trading, which translated into Friday. NFLX fell more than $100 per share and closed 21.79% lower on the day. The announcement was felt throughout the Nasdaq Composite ($COMP), which fell 2.72% and broke another level of support. The index has fallen further into correction territory and is now 13% off its all-time high. The Nasdaq’s next major level of support is about 13,000. If the index falls that far, it would near bear market territory because it would be down 20% from all-time highs.

Of course, the Nasdaq wasn’t the only index to fall on the news. The S&P 500 (SPX) dropped 0.75% with materials, consumer discretionary, and financials leading the way to the downside. Ecolab (ECL) was the worst-performing stock in the materials sector of the S&P 500, falling 8.48%. ECL is a world leader in water, hygiene, and disincentive products. It announced a 12% price increase globally. The price increase could hurt the company’s sales, which is probably driving the stock lower.

As expected on a down day, defensive sectors including consumer staples, real estate, and utilities were the top performers and the only sectors to close in the green. Bonds also moved higher as the 10-year Treasury yield (TNX) dropped back to support around the 1.75% level.

The VIX (Cboe Market Volatility Index) was flirting with 30 throughout the day, which reflects the rising fear among investors. However, in an odd twist, over the last year, the 30 level has often signaled the end of a sell-off. Some sell-offs or corrections correlated with a VIX as high as 37. So, this development may be something to keep an eye on. At this point, we may start seeing investors trying to pick market bottoms next week. They’ll be looking to buy up potential bargains. For example, on Friday, investors were already buying up stocks like Peloton (PTON) and McDonald’s (MCD), which are a couple of stocks that have been pummeled by investors recently. This kind of buying could signal that the pendulum has swung too far in one direction. 

Drift to Quality

When markets turn bearish, there’s often a “flight to quality” as investors sell riskier small-cap stocks in favor of large-cap blue-chip stocks. Investors are selling small-cap stocks, with the Russell 2000 (RUT) falling another 1.20% on Friday and adding to its four-day losing streak. While dropping 7.5% this week isn’t nothing to sneeze at, it’s not the panic selling expected during a bear market when investors are shunning risk.

In fact, the S&P 600 small-cap index tracks 600 “higher-quality” small-cap stocks, and it’s actually trading in-line with the S&P 500. Of course, both indices have recently moved lower, but quality can be in small-cap as well as large-cap stocks. Like the S&P 500, the S&P 600 has seen strength in the energy and financial sectors but weakness in information technology and communication.

So, while the lack of breadth signaled from the falling Russell 2000 is still concerning, it’s a stock pickers’ market. In my January Outlook article, I warned that this year could be the year of the active fund manager because investors have to search for quality. Unfortunately, quality flights cost a little extra—in time for searching and analysis. 

CHART OF THE DAY: PLAYING WITH THE BIG BOYS. The S&P 600 ($SP600—candlesticks) small-cap index has underperformed the S&P 500 (SPX—pink) over the last half of 2021. However, the relative strength line (green) shows that the small-cap index has stayed in-line with large- and mega-cap indices. Data Sources: ICE, S&P Dow Jones Indices. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

Selling into the Close: The last hour of trading last week was brutal on stocks, which like made many glad it was a shortened holiday week. However, traders often see last-hour sell-offs as bad sign for stocks for the following trading day. Traders often pick up the next day, where other traders left off on the previous day. However, there’s no guarantee that selling into the close on one day means stocks will sell off the next day. While it may mean something to a day trader, for many investors, selling into the close goes unnoticed.

Friday’s sell-off was complicated by options expiration, which is commonly a volatile day for stocks anyway. January expirations have a little more “umph” because of the expiration of LEAPS (long-term equity anticipation securities) options. The following Monday after expiration often has some residual volatility too because of - consequences related to expiration like stock assignment. 

Tales From the Crypto: Bitcoin has dropped to multi-month lows in the last 24 hours, taking $130 billion of market value off the table according to CNBC. Bitcoin and ether are more than 50% off their all-time highs and are now trading at July 2021 levels. Many cryptocurrencies have been correlated with the riskiest technology assets that have also been falling. Rising yields may be to blame for the selloff as more and more investors revalue assets and move into “risk off” investing strategies.

NFL wide receiver Odell Beckham Jr. signed with the Los Angeles Rams last November for $4.25 million including $750,000 in base salary to be paid in bitcoin.  According to CNBC, the base salary portion of his contract when accounting for depreciation in bitcoin and the taxes paid is now worth about $35,000. Fortunately, for Mr. Beckham, he has plenty of other incentive-based pay that should add to his salary. On Sunday, the Rams advanced to the NFC Championship game, which should continue to add to his salary.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

Image sourced from Unsplash

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