This Tug-of-War is Set to Make or Break Stocks

What’s Driving Stocks

CPI, the best-known inflation gauge, just hit the tape this morning and investors are pleased.

The popular inflation gauge came in at +0.3% for the last month with the 12-month look at prices showing an increase of +3.4%.  Both numbers were less than economists had expected, immediately putting investors in a bullish mood ahead of the open.

Today’s CPI figure follows Tuesday’s “hotter-than-expected” Producer Price Index.  That read of the cost of goods and services “upstream” suggested that we may see another surge of inflation as we head into the summer.

Two things matter here, the response from the market and how this week’s inflation reads may affect Jerome Powell’s next move for interest rates.

Stocks responded with an immediate rally pushing all three major indices to gains of 0.5% ahead of the open.  If stocks held these levels or higher through the day they would notch a new all-time high, just weeks after that very calm and collected 5% correction.

Jerome Powell’s response will have to wait until the next Fed meeting on June 12.  Currently, the market is only giving an 8% chance that the Fed will lower rates at the meeting.  This is due to Powell’s comments that inflation has been persistent and inconsistent, a view confirmed by this week’s PPI and CPI.

What does all this mean?  It’s too soon to celebrate today’s CPI.  The market is simply trading off the “hope” that we’ll see an interest rate cut in June.  That’s not going to happen.

What is happening is an increase in speculative trading.  It’s important to remember that there is a “good” form of speculation and then there’s “bad”.

Let’s look at the “bad” speculation first.

The MEME Trade Will End this Week

Shares of GameStop and AMC Entertainment are both trading higher ahead of the opening bell indicating that the Wall Street Bets crowd is still in “pump” mode.

These stocks and others have bolstered their market caps by three and four times since Monday following some sort of cryptic marching orders from their leader Keith Gill (A.K.A. Roaring Kitty).  The “movement” has some on Wall Street excited and others looking for the other foot to drop.  Put me in the latter camp.

Here’s the problem with the MEME Rally… It will run out of steam sooner than its last run.

Investors and the Wall Street Bets crowd already know how tis ends.

Last time around we got to see the carnage caused by overzealous “investors” as screen shots of margin calls and zero balance accounts became the norm.  It won’t be different this time around.

Here’s a simple rule to follow… Do not buy anything with a price that has increased more than 10% in the last two days.

Sunpower (SPWR), one of the stocks that I covered in last night’s “Three Stocks” is trading 15% lower this morning.  The stock traded more than 50% higher yesterday.  It’s going back to $2.00 and lower.

Gamestop (GME) is set to report their quarterly earnings on June 5.  That’s likely to be the reality check that puts a stop to the madness.

GME Price

AMC Entertainment may be the smartest in the room.  The company completed the sale of stock to raise capital this week as the company’s stock more than doubled.

I always say that luck prefers the prepared, but this feels too lucky.

Again, you’ve been warned.

Here’s the real problem with the MEME Trade Revival… Seasonality

In the last three weeks the market’s fear and greed measures have spiked from fear to greed with the “MEME Trade” potentially representing the cherry on top.

The swing to a greedy market so quickly is a concern, but to do so ahead of a historically weak month could make things worse.

Most know the saying “Sell in May and go away.”  It’s an overly simple “rule” that works because of a few bad months of the year.

The first of those “bad” months is May.

S&P 500 Seasonality

Over the last 20 years, the month of June has generated average returns of -0.4% for the S&P 500.  To put that into perspective, there are only four months of the year that average negative performance.

Digging deeper, June is the most consistent month for generating negative returns with stocks losing 55% of the time.  That percentage increases to 63% of the time after the S&P 500 closes higher in May.  At its current rate, we’ll see that this month.

Here’s one thing to watch that can trump the seasonality of May.

“Good Speculation” is Back

The Russell 2000 Index crossed back above its 50-day moving average a little over a week ago.  This is important because it signals that investors have become more risk tolerant.

One of my Ten Commandments of Trading is that “Stocks are driven higher by speculation, not fundamentals.”

While the fundamental and seasonal view of the market may be weak, the speculative nature of the Russell 2000 rally will allow stocks to move higher over the short term.

This makes the Russell 2000 the one thing to watch.

IWM Price

I always like to give you a “number to watch” or a “trigger price”.  In this case, that number is $205 on the Russell 2000 ETF (IWM).

A break below this price will tell us that the speculators’ buying was short-lived and that May’s seasonal winds are likely to test the market’s will once again and that it’s time to hedge your portfolio and get ready to buy stocks as they go on sale again.

I’ll be back later this afternoon with this week’s Fast Profits trade Idea.  Hint: it glitters.