CPI and Bank Earnings Will Determine Where the Market Is Heading

Following a solid bounce last week, many market participants are feeling more optimistic that the worst might be over for equities. There were good moves in sectors such as growth and biotechnology, inflows into ETFs have been strong, sentiment has improved, and there is some chatter that maybe the market has already discounted a slew of negatives.

We are at an important juncture and will have some clues this week about whether this was just another countertrend bounce within a miserable bear market or maybe the beginning of a positive change in market character.

The first test will be the June Consumer Price Index (CPI) report that is due out on Wednesday prior to the market opening. The previous CPI report was hotter than expected, which triggered a selloff and an intense debate about whether a very hawkish Fed is going to trigger a recession. That worry was set aside over the past week or so as there has been increased hope that the drop in energy prices was the start of a major trend. However, the CPI news will start the debate over inflation and a recession again.

If CPI is higher than expected, there will be concerns about how much more hawkish the Fed will be to get it under control. If the CPI slows down, then there will be worries that a recession is quickly developing. The jobs news last Friday helped to stem some recession fears, but that can change very quickly. The fall in oil and gas is also helping to stem some of the recession fear.

After CPI, a series of large banks will report earnings at the end of the week. Banks bounced a little last week, and the reaction to earnings this week will be a good test of how much bad news has already been discounted.

In another week, after banks report, the key growth stocks and big-cap technology names will start to report. There has been talk that expectations are too high, but the market has not been too concerned about that. If we have lowered guidance from key names, it may be a problem because the market appears to be filled with hope that the worst is over.

Also, we can’t forget that we no longer have a dovish Fed providing liquidity. Not only is the Fed very likely to raise rates by three-quarters of a percentage point at the end of the month, but quantitative tightening is now draining liquidity and we don’t know how many rate hikes may follow. It is anticipated that central banks around the world will drain roughly $4 trillion by the end of next year. That is a strong headwind with which to deal.

My game plan is to wait for further proof that a major change in trend is developing. I’m not convinced at this point that the bear market is ending. I will remain very selective with any buying, keep time frames short and will not be rushing to build longer-term positions.

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