Where Does the S&P 500 (SPY) Go from Here?

These unprecedented times have been paralleled by unprecedented volatility in the financial markets. The COVID-19 black swan has triggered record-setting price moves in terms of magnitude, velocity and volatility in the S&P 500 (NYSEARCA: SPY). The SPY set a record for the fastest transition into bear market culminating in a (-35%) drop from all-time highs in a matter of five-weeks. The largest intraday point swings high records. We’ve had the reintroduction of lock-limit circuit breakers on the NYSE and Globex futures for the first time in over a decade. The SPY has recovered almost half it’s losses, so the question is where does it go from here? We will plot out the potential trajectories and the underlying narratives that will impact the sentiment moving forward.

Talking Heads

Experts chime in daily on financial networks on the status of the markets and the forward course. The “safe” narrative is for a retest of the lows or risk-off sentiment. Talking heads have repeated their conjecture the whole time the SPY was recovering 50% off the lows. The higher the SPY rallies, the more cautious the crowd gets and then when the SPY falls, they feel vindicated only to miss the rally again. This cycle illustrates the reality of markets being a minus sum game, the majority will be on the wrong side. You can literally replay the same sound bites and swap out the talking heads as the “safe” narrative remains the same. The pandemic has accelerated reactions on all sides to a point of comedy as so-called “experts” use the same rhetoric to avoid getting pinned to a firm option but remain amorphous in their statements with any lack of conviction other than leaning on the safe narrative.

Sentiment Factors

With each move in the SPY, the talking heads curve fit the reason. Nearly everyone agrees that a vaccine would be the proverbial “silver bullet” remedy for the financial markets. The current narrative driving up the market seems to be the flattening of the curve as regions hit their peaks followed by a drop off in death tolls and infections. China is the template for the world at this point. The Federal Reserve intervention with unlimited quantitative easing that even expands into the muni market is a sentiment booster. However, the devil lies in the details as headlines fade. Whether the markets actually care about the follow-through or just the initial impact from headlines remains to be seen. For now, it only cares for the headlines.

Details Not an Issue

Markets don’t place as much value on the details of programs for now. For example, while the CARES Act intends to directly aid small businesses with the Paycheck Protection Program (PPP), the reality is that most banks are prioritizing engagements with existing business and commercial lending customers. A big part of this is the rigorous Know Your Customer and Anti Money Laundering (KYC/AML) regulations that can result in hefty fines and penalties levied against the banks. The banks are so sensitive to anything that may trigger even a warning, they will run the other way. Any sniff of violation would cause compliance departments to outright reject and eradicate any banking relationships even with long-standing customers of decades or false positives. The U.S. Treasury opted to keep these regulations in place knowing it would delay and bottleneck the release of funding.

What’s in Store for Earnings Season

The earnings season sentiment remains to be seen whether markets will consider this a one-off since releases and forecasts will be distorted and immersed with uncertainty. If stocks have rallied too far off their lows, this is where the “haircuts” begin. The question of whether companies that have benefited from the demand surge promulgated from the pandemic will continue to see upside or a sell-the-news reaction remains to be seen as well. Upside may continue if the surge is believed to be a more permanent and material change in operating strategy. The narrative determines the sentiment which then drives the price action. The narrative is a dynamic factor than can be impacted by news and events both macro and micro.

Trajectory Levels

Using the rifle charts on monthly, weekly and daily time frames, we lay out the playing field suitable for swing traders and investors. The SPY monthly stochastic has crossed down through the 80-band for the first time since November 2018. Shares drastically overshot through the lower Bollinger Bands (BBs) and coiled off the lows to the $281.20 Fibonacci (fib) level. The monthly lower BBs currently sit at $238.38, which is the nominal downside from here. The monthly 5-period and 15-period moving averages (MAs) are closing in for a crossover back down. The extent of the current SPY rebound upside targets could test the monthly 5-period MA at the $293.66 fib, the weekly 15-period MA near $300.37 or the daily upper BBs at $291.09, before peaking and reversing back down based on the daily stochastic cross down. The downside reversion levels sit at the weekly market structure low (MSL)$263.33, $244.10 daily MSL fib and the $238.85 monthly lower BBs. There is a daily seed wave that triggered on the consecutive higher MSLs which provide three near term targets (PRZs) of which two have already hit. The 1.27 fib potential reversal zone (PRZ) broke at $274.83, the 1.414 PRZ hit at $281.24 and the final 1.618 target PRZ sits at $300.38. The 1.618 PRZs are often profit-taking and or short-sell area with expected reversions back to the 1.414 and 1.27 prior PRZs. The prognosis is upside remains while the daily stochastic hold up above the 80-band. When the daily stochastic fizzles out and falls back under the 80-band. Then the downside reversions come into play until the daily stochastic cross back up again. Traders can play the reversions of the fibs but need to keep stops in place because this market is notorious for extended overshoots.