Coiled Spring Capital Mid-week Report 10/9/24

Sideways up! Bull market trends are characterized by bullish breakouts, followed by periods of sideways consolidation, which then resolve in the direction of the main trend. It’s a simple, yet powerful dynamic—don’t overthink it.

Is it hard to spot the dominant trend when looking at a two-year chart? Not at all. Since the October '22 lows, the SPX has steadily climbed—up and to the right.

The real challenge comes in identifying when the trend is shifting. But as we’ve emphasized in recent reports, the SPX hit a peak in mid-July and spent the next three months consolidating below that level before breaking out to new all-time highs. This is classic bull market behavior. Sideways up!

Excerpted from our 10/2 report: 

“On Wednesday, the SPX tested the breakout level from July's high (5669) and bounced back. This level is significant, as it represents three months of consolidation before the index broke higher, making it reasonable to expect buying support here.”

Why are we telling you this? Because simple market structure explains the price action. Over the past two weeks, we anticipated a period of sideways chop, and up until yesterday, that’s exactly what we saw: a directionless, up-and-down market. Our strategy has been to capitalize on pullbacks and sell into strength as we navigated through this seasonally weak period. That two-week chop ended today with a powerful breakout to new all-time highs.

Most importantly—and this should not be understated—we were never bearish. We merely outlined scenarios in which we would become more defensive or even take a bearish stance. But those conditions never materialized. We’ve consistently emphasized that certain key levels needed to break before even considering a bearish position, and those breaks simply didn’t happen.

Below is an excerpt from our 10/2 report on the Nasdaq:

“…getting bearish on the Nasdaq would require losing the yellow gap window…”

That gap window was never breached. In fact, it has been defended multiple times—seven times, to be exact—since it formed on September 19th. When a level is defended that persistently, it becomes clear how formidable it is. The real question is: why are buyers so determined to defend against the sellers' attempts to push the index lower? Does the reason matter? Not to us. What matters is using this information to gauge who’s winning the tug of war: the bulls or the bears.

And right now, it's clear who won. The Nasdaq breaking out of the bull flag says it all.

Many dismiss technical analysis, often due to misunderstanding its true nature. At its core, technical analysis is the study of buyer and seller behavior, not a formula or valuation metric like P/E ratios or EBITDA margins. It’s about understanding the intentions of market participants who ultimately define the value of an asset. Simply put, stocks can’t rise without buyers, and they won’t fall without sellers. What we provide is a probabilistic roadmap for assessing the direction of an asset’s movement—and, at the end of the day, making money in the market depends on getting that direction right.

Today’s FOMC meeting minutes offered the catalyst to break the two-week sideways action. The minutes revealed that a "substantial majority" supported the 50 bps cut, and perhaps more importantly, all participants saw room for further cuts this year. Powell also signaled continued support for the economy, essentially reinstating the "Fed put."

Tomorrow’s CPI report may not move the market dramatically, but it has the potential to do so. Following that, we’ll get the PPI report on Friday.

We think this chart from CFRA offers valuable insight, highlighting the returns of previous bull markets. This Saturday marks the second anniversary of the current bull market, and historically, the third year tends to be the weakest of the cycle. As we’ve mentioned in previous reports, there’s a potential for breadth improvement to drive the next phase of this bull market. This would imply that while the broader indexes may show limited movement, other areas of the market could catch up to the mega-caps. The chart below supports this view, suggesting a potential period of muted index returns.

But alas, we still have to navigate the remainder of October. While the indexes appear well-positioned to push higher, pre-election seasonality suggests we might see one more significant dip before the month ends. It’s no coincidence that the potential mid-month pullback coincides with OPEX week. As the chart shows, next week could bring some volatility, making the market a bit dicey in the short term.

If you recall, one of the scenarios we outlined for this month was a gradual climb towards the 5800 range for the SPX. Now that we're nearly at that level, it raises the question: should we anticipate a retracement as we move into next week? Given the seasonality and potential volatility around OPEX week, it wouldn’t be surprising to see a pullback or consolidation from here. However, whether this retracement occurs or not will depend on how the market reacts to any new data or developments, particularly around macro events like inflation reports or shifting sentiment.

Let’s dig into the charts.

Subscribe to Premium to read the rest.