July is a historically bullish month, but be ready for a rotation out of Big Tech
The US equity gauge is poised to plunge to 4,200 by year-end, a roughly 23% drop from Thursday’s close around 5,483, the bank’s chief market strategist and his team said Friday in a mid-year outlook. It surpassed the 5,500 mark in early trading Friday after a key measure of US inflation showed signs of cooling.
–Bloomberg via Yahoo Finance, June 28, 2024
Last week we discussed strategist price targets for year-end on the S&P 500 (SPX – 5,460.49) and how reserved their upward revisions have been. I thought I’d share the latest. JP Morgan’s top strategist is sticking steadfastly to his target, which is that the index will plummet in the second half of the year. That’s a bold bet to make — after all, equity markets during election years since 1950 have only been negative three times.
The SPX closed lower on Friday and flat for the week, with month and quarter-end volatility reversing the session’s opening gap higher. The reversal produced a gravestone doji candle on the weekly timeframe, potentially indicative of an impending turnaround. The SPX is also stalling at the 5,500 level and 161.8% Fibonacci extension from the April sell-off, but sometimes that’s just it; a stall, not a rug pull. There is a small call wall on the SPDR S&P 500 ETF Trust (SPY—544.22) at 550, but it’s a manageable wall that could easily be taken out, plus nothing sticks out as a clear lid on price action and stacked put levels just below that could act supportive into July OPEX. With most bearish signals getting quickly invalidated this year, it’s hard to hang your hat on a few data points with markets still clearly in an uptrend.
To that point, June went out at another new monthly closing high and broke away from the prior 3-month range highs in the S&P 500. That’s certainly not bearish price action. On top of that, the index is only a smidge away from a 161.8% Fibonacci extension from the 2022 market correction, a spot longer-term technical traders could be targeting around 5,638, which is only 3.3% away. Furthermore, we’ve been highlighting that the lesser-followed 30-day moving average is still intact, and the trend is acting similarly to the bull rally before the April pullback, where dips to the commonly followed 20-day moving average are being bought up.
Moreover, we are heading into one of the best months of the year for equities. I probably sound like a broken record because I pop in to give you the data annually around this time of year. But here we go; over the past 20 years, July has now taken over as the best month of the year for equities, being positive 75% of the time by a mean average of +2.29%. Since 1950, it’s averaged a +0.89% return and has been positive 63.5% of the time. The caveat is during election years, it only averaged +0.27% of the time and was positive 55% since 1950. That’s not so good. However, as I’ve pointed out in the past, most of these losses occur in the back half of the month, post-options expiration.
One underbelly highlight from the last seven trading sessions I’ve witnessed is the rotation into other sectors. Since the market holiday for Juneteenth, semiconductors and other artificial intelligence (AI)-themed companies have primarily been trading sideways or pulling back. This year, the major indices have been driven by AI-themed stories. At the same time, most of the broader market has struggled to participate in a meaningful way, as evidenced by the equal weight indices for the S&P 500 (RSP — 164.28) and Nasdaq (QE – 88.74) being positive by 4.07% and 6.22% YTD respectively.
But over these last seven trading sessions, we’ve seen software and banks come back alive on top of extensive breakouts from Alphabet’s (GOOGL — 182.15) and Amazon.com (AMZN — 193.25). Additionally, the Russell 2000 (RUT — 2,047.69) finished positive on Friday and for the week. So the question will be, can July provide the spark needed to get other stocks going and break out of the range they’ve been stuck in?
The second half of May weakness may in part be explained by the shorts, who got aggressive as the SPX made new highs during this same time period. Per the chart below, short interest increased by nearly 4% from mid-May into the end of May.
There is a chance that many of these shorts are already underwater, though this is not a guarantee. Since the SPX’s recent low, its advance/decline line has been retreating, suggesting fewer stocks participating in the rally that has been led by large-cap technology.
– Monday Morning Outlook, June 17, 2024
The bear arguments are that the market is overbought, isn’t supported by broad breadth expansion, and that the Fed is behind the curve. While these may be true in some sense, one factor that could lead to stocks’ continued advance in the near term is cumulative short interest (SI), which has been ramping higher according to our data. When we look at short-interest data in the components of the S&P 500, we see that it increased +14.63% this year and, since the last report, by 3.53%.
This puts it in the 100th percentile over the past year and the 96th percentile over the past five years. In addition, the Nasdaq component short-interest is also in the 100th percentile in the past year and the 95th percentile in the past five years, with a change in SI by 7.66% since the last report. This tells us hedge funds have dug in on their short positioning, further illustrated by the Hedge Fund Exposure index at all-time lows.
Per the Goldman Sachs Hedge Fund Crowding Index, hedge funds are the most crowded in positioning since the index’s 2016 and 2020 all-time highs. According to Goldman’s hedge fund tracking data, long exposure to semiconductors is at a record high of 6.5%. This will eventually spill over as they reduce net exposure to these longs, but do hedge funds get more short at these levels? Or does this money rotate into other sectors that haven’t benefited as much from the bull rally?
In other words, July could get interesting. The majority of market participants expect it to be good as history suggests, and as long as the S&P 500 continues to hold the 20-day moving average, it’s still firmly in a near-term bullish cycle. But, I also see other possibilities. One that is interesting is a rotation trade where we see the average stocks rise while the market leaders cool and pull back as we finally get the rotation this bull market needs. It’s just one theory and not one that has worked out all year, but if it happens, July might be that month. Until next time, stay with the trend and trade them well.
Matthew Timpane is a Senior Market Analyst at Schaeffer’s Investment Research.
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