Several Important Catalysts Hit a Market Looking for Direction

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The S&P 500 and DJIA have been undergoing corrective action for nearly six weeks as investors grapple with inflationary pressures, the likelihood of less Fed accommodation, supply chain issues, higher energy prices, and a variety of other challenges as it tries to shed the impact of the COVID crisis. In addition, third-quarter earnings reports will start to hit today and will have a significant impact on the market mood.

Stocks have been struggling to find some support and are so far holding above recent lows, but the CPI report this morning and release of the minutes of the last FOMC meeting this afternoon will provide a test to show to what extent higher inflation and bond yields are already priced into the market. The debate over whether inflation is ‘transitory’ or not has been ongoing for a while, and the CPI number this morning is estimated to be an eye-popping 5.3% annual rate. The market knows this is coming, but the debate over to what degree and how quickly it will cool off is the big question.

Bulls are looking for a ‘buy the bad news’ reaction to CPI and are also hoping that the start of earnings season will shift the focus to how well companies are operating in this challenging environment.

While the macro news flow will drive the primary movement in the indices, it is important to look at the reaction in individual stocks to earnings and at the rotational action that is taking place. The Russell 2000 ETF (IWM) outperformed on Tuesday, and that was reflected in positive breadth, while the S&P 500 and DJIA traded lower. This may be an indication of an inclination to shift back to stock picking as individual earnings reports are considered.

The CPI report this morning will be an important catalyst as the reaction will tell us whether this concern is being discounted by the market to some degree or is it something that is not yet under control. The inflation and interest rate issues are not new. Those worries have been out there for a while, but the big question is whether they are effectively priced in by the market. The reaction to the CPI news will provide some clues.

I continue to watch for development in charts as we head into earnings reports. There is some positive action, but it is choppy and subject to disruption by macro news flow. It still is extremely difficult to build bigger positions, but today’s action should provide some valuable clues.

We have a mixed start, but the CPI report at 8.30 am ET should generate some volatility.