Credit disallocation might cause a pullback in stocks

Commenting on today’s trading  and warning of a possible pullback in stocks Gorilla Trades strategist Ken Berman said:

pullback in stocks

geralt / Pixabay

Today’s afternoon rally is another proof of the strength of the underlying bullish trend, and while the major indices are still below their all-time highs, a breakout might be just ahead. Investors seem to shrug off all negative headlines that the media throws at them, and even today’s dismal European PMIs couldn’t break the positive trend in stocks, and this resilience could be the foundation of an explosive rally.

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Pullback in stocks ahead?

The major indices finished today’s very quiet session virtually unchanged, recovering from Friday’s late-day sell-off in the face of the worrying European economic numbers and the mixed trade-related headlines. The Dow was up 15 or 0.1%, to 26,950, the Nasdaq lost 5, or 0.1%, to 8,112, while the S&P 500 was flat at 2,992. Advancing issues outnumbered decliners by a 3-to-2 ratio on the NYSE, where volume was well below average.

Consumer-related stocks were already showing strength during the bearish morning session, together with the tech sector, and those sectors were clearly leading the afternoon rally. Services and the defensive healthcare stocks were the weakest, but despite the sell-off in Europe, which triggered a global risk-off shift, the intraday price action was bullish on Wall Street. Small-caps performed in line with the large-cap indices, and since the Volatility Index (VIX) edged lower, there is no sign of an imminent pullback in stocks.

Treasuries had a very active day compared to stocks, as investors tried to judge the possibility of a global recession and its impact on the U.S. economy and the Fed’s monetary policies. Rates hit new multi-week highs across the yield curve, but the afternoon session saw a bounce in yields, as investor sentiment improved. The U.S. Manufacturing and Services PMIs point to continued growth in both sectors, but the U.S. economy alone is unlikely to save the global economy, and that could mean that rates will be headed even lower despite the rally of the past few weeks.  

Credit markets

Last week’s funding stress in the overnight credit market eased considerably, but the Fed still had to provide liquidity today, and interbank rates remain slightly elevated. Although equities were largely unaffected by the issue, investors should continue to keep an eye on the developments, since a more widespread dislocation in the credit markets could cause a pullback in stocks as well. On a positive note, the financial sector has been showing stability even in the face of the funding woes, and today, it was among the best-performing risk-on sectors.

We will have a busy day of economic releases tomorrow, with indicators coming out from all major sectors. The CB consumer confidence number will be at the center of attention in the wake of last month’s blowout reading, but the Case-Shiller Housing Price Index and the Richmond Manufacturing Index will also be closely watched. Analysts expect housing prices to stabilize, which would be in line with the bullish surprises of the recent weeks, while consumer confidence is forecast to slightly deteriorate but remain close to its historic highs. Stay tuned!