Inflation Is Hot. Will Rising Prices Impact Earnings?

July 13, 2021

Posted 9:30 AM ET – Yesterday the market rallied through my first target at SPY $436. That was a measured move from the last drop a few weeks ago and we are still likely to test SPY $440. Earnings season has officially started this morning and banks will dominate the scene this week. Inflation worries are pressuring the market this morning.

J.P. Morgan Chase is down slightly after reporting earnings. Banks will struggle now that interest rates have fallen. Consumer spending has also been lighter than expected and this will weigh on credit card revenues. Financial institutions that rely on trading (Goldman Sachs and Morgan Stanley) should fare better. The big earnings news will come in two weeks when tech giants start reporting. Typically the market bid remains strong until then.

In yesterday’s comments I mentioned that the inflation numbers this week would be important. This morning, CPI increased .9% and that is “hot”. The Fed raised its inflation projections to 3.4% and this could prompt tightening sooner than expected. PPI will be released tomorrow. As a trader, it is always important to look ahead and to identify potential speed bumps. Yesterday you should have been aware of the CPI release and you should have trimmed your overnight long exposure. Any losses this morning could have been avoided.

Swing traders should place an order to sell the 1/2 position in SPY at $430 (stop) and $440 (target). Even if we are stopped out we will still make a little money on the trade. Option implied volatilities are skewed to the upside (calls are more expensive than puts) and this is unusual. It is a sign that Asset Managers are not buying protective puts. This typically happens when the market is in a steady grind higher. They hate seeing these protective puts expire worthless and eventually they stop buying them. This has a couple of implications. First of all, put premiums are very cheap and selling out of the money bullish put spreads does not make sense from a risk/reward standpoint. Secondly, big market drops happen when no one is expecting them. Asset Managers are relatively unprotected and bullish speculators have a “full boat”. When the market finally does rollover everyone will try to make adjustments at the same time and that amplifies the selling pressure. We saw this in February 2020 and that is one of the reasons that we had such a big correction. The best strategy for swing traders with a 3 to 4 week time horizon is to wait patiently for market drop.

Day traders are in the “sweet spot”. I found excellent shorting opportunities yesterday (DELL, SPCE) and the moves were sustained. Make sure that you are looking for opportunities on both sides of the market. The CPI has typically been discounted and I believe that we will see an early bounce this morning. The price action the last few days has been extremely strong and I don’t believe that bullish speculators will be flushed out on the move lower this morning. After the market bounces and stalls, there will be an excellent shorting opportunity. Option Stalker day trading searches have been gold the last few months. Gaps down are the best day trading scenario for a two reasons. First of all, it’s easier to spot relative strength. Second of all, the reversals off of the low tend to be strong because the market is in a longer-term uptrend. This will be an excellent trading day. Today I believe the bounce off of the low could be a trap so be careful.

Support is at SPY $435 and $432.50. Resistance is at $437 and $440.
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