Cautious Optimism: S&P 500 Nears Key Reversal Zone Amidst Rising Oil Prices and Central Bank Tightening
Oil prices are vigorously rising after a week-long correction, with BRENT gaining $3 per barrel in just two days. It’s worth noting that the retracement from $96 per barrel down to $92, occurred in line with a much-anticipated pullback from the upper bound of the trend channel, however hardly hinted at a reversal. Prices were swinging back and forth, with a daily range of $1.5 to $2 (indicating that buyers were holding their ground). However, yesterday’s breach of the $92 level sparked a powerful bullish impulse, nearly pushing the market to the local high:
Rising oil prices undermine strength of currencies of energy-importing countries. This simple idea underpins the intense selling pressure on the EUR, GBP, and JPY and has two underlying fundamental reasons. Firstly, oil trades in dollars and rising energy prices imply demand for dollars from countries, relying on energy imports, should increase. Secondly, rising energy prices boost inflation expectations, as consumer inflation will likely respond to rising costs, namely fuel prices. Rising inflation expectations pressure central banks to deliver more policy tightening which works through demand destruction, i.e., additional economy slowdown. EURUSD has shifted its defense to 1.05, GBPUSD has fallen for the sixth consecutive session, nearly reaching 1.21, and USDJPY is eyeing a test of the 150 level. The demand for the dollar is also fueled by risk aversion, as yesterday the S&P 500 closed down by almost 1.5%, with similar dynamics seen in two other key stock indices, Nasdaq and DOW.
Today, investors are attempting to regain control and adopt a positive outlook. Major European markets are trading in positive territory, although the rally is quite modest and resembles calm before the storm. It is also noteworthy that gold has fallen below $1900 per troy ounce. This, in the context of clear signs of risk aversion in the market, indicates the presence of a factor that outweighed the demand for gold as a safe-haven asset. This factor is undoubtedly the expectations of higher central bank interest rates, which strengthened further after statements from ECB and Fed officials. For instance, Neil Kashkari, a top manager at the Fed, stated yesterday that the resilience of the American economy to high interest rates has been surprising, and if the current level of tightening does not slow down the economy, it will likely require further tightening. The official assessed the chances of a soft landing for the economy at 60%, while he associated 40% of future outcomes with an even tighter monetary policy than now.
Also of concern are the cautious remarks from Fed officials about the possible change in the neutral interest rate (i.e., one that neither stimulates nor slows down the economy). This would represent a structural shift in policy, with far-reaching consequences, especially for long-term bonds.
The S&P 500 VIX volatility index surged to 19 points yesterday, marking the highest level since May 2023:
The index itself breached the 4300 level yesterday and declined to 4265 points. It’s worth noting that the price reached the lower bound of the ascending corridor, and the intensity of the correction pushed the RSI value to the classic reversal level of 30 points:
Slightly below, around the 4200-point mark, is the 200-day moving average, which has proven to be an important support level in technical analysis. In general, from the perspective of classical technical analysis, there is a very good chance that the market will view the current range of 4270-4220 as an area to consider for a reversal. Interestingly, the previous reversal in March, around 3850, also coincided with the EURUSD reversal around 1.05, which is where the pair is currently trading:
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