US STOCKS OUTLOOK:
- After a powerful rally last week, the S&P 500 trades lower on Monday amid cautious sentiment, down 0.3% to 3,900
- Despite today’s pullback, the equity index manages to stay out of bear market territory
- Quarter-end rebalancing activity could boost stocks in the coming days, but gains could be short-lived
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After last Friday’s fierce rally, U.S. stocks were subdued at the start of the week, a sign that investors remain reluctant to increase risk exposure steadily amid fragile sentiment and concerns about the economic outlook.
At the closing bell, the S&P 500 declined 0.3% to 3,900, but it managed to stay out of bear market territory for the second consecutive trading session. The Nasdaq 100, for its part, led losses on Wall Street, down 0.90% to 11,998, weighed down by the rise in US Treasury rates, with the 10-year yield up 7 basis points to 3.20%.
Despite Monday’s weak performance, the S&P 500 could build on its recent recovery in the coming days, driven by an important catalyst: quarter-end rebalancing activity. To balance risk and reward, pension and mutual funds often set target allocations by dividing investments among different assets. For example, a fund might try to have a portfolio with a 60:30:10 ratio of stocks, bonds, and cash.
When security prices change, the asset mix may deviate from the established mandate, prompting managers to buy and sell assets so that the portfolio allocation percentages return to their predetermined levels. Rebalancing is sometimes done monthly, although many institutions prefer to do it quarterly.
Although both stocks and bonds are down this quarter, stocks have underperformed by a wider margin, signaling strong rebalancing-induced stock buying this week, a period that marks the end of June, the quarter, and the first half of the year. That said, there are various estimates on Wall Street, but Goldman Sachs has said that there may be a net $30 billion of U.S. equities demand from U.S. pensions.
In theory, rebalancing activity should be supportive of stocks through the end of the month, increasing the probability of another strong S&P 500 rally, with directional moves likely amplified by thinner liquidity conditions. Gains, however, could be short-lived amid a reduced appetite for holding risk ahead of the next earnings season, when companies could begin to issue negative profit warnings and slash their outlook.
S&P 500 TECHNICAL ANALYSIS
After last week’s powerful rally, the S&P 500 has managed to crawl out of bear market territory, but buying pressure remains weak and sentiment fragile, a situation that could cap further advances. To have conviction that the worst is over and that the recent rebound is not another dead-cat bounce, we need to see stronger bullish momentum and a break above resistance near 4,000. If this scenario plays out, bulls could become emboldened to launch an attack on 4,060/4,075, the next technical barrier. On the flip side, if sellers retake control of the market and push prices lower, initial support appears at 3,810, followed by 3,675. On further weakness, the focus shifts to channel support near 3,600.
S&P 500 TECHNICAL CHART
S&P 500 Daily Chart Prepared Using TradingView
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—Written by Diego Colman, Market Strategist for DailyFX
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