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Vermilion Macro Vision: U.S. Equity Strategy

We are shifting to a more cautious outlook as market dynamics have meaningfully deteriorated over the past week. Notable deterioration for the broad market is evident when looking at relative strength for defensives, high yield spreads, Treasury yields, small-caps, and breadth. As a result, we are shifting exposure to defensive Sectors and we are upgrading Health Care, Utilities, and Consumer Staples to market weight, and we are downgrading Energy to market weight. Raising cash where possible is also advised. Below we summarize the basis for our cautious outlook.

What supports our cautious intermediate-term outlook? 

(1) High yield spreads are widening above key 325-340 bps resistance and are hitting wides not seen in five months.

(2) Defensives are starting to outperform; defensive Sectors/areas including Utilities (XLU), Consumer Staples (XLP), Health Care (XLV), and Treasuries (TLT) display bullish RS reversals while Real Estate (XLRE) remains in a 6-month RS uptrend.

(3) The US dollar (DXY) is on the cusp of a breakout above 92.80.

(4) Small-caps are underperforming.

(5) The Russell 2000 index (IWM) is violating uptrend support at $216.

(6) Breadth is deteriorating.

(7) The 10-year Treasury yield is below the key 1.40-1.45% level and remains volatile.

(8) Commodities have become increasingly mixed as WTI crude oil displays a major uptrend violation and copper is on the cusp of a breakdown. These items are all consistent with an equity market that is under pressure; until these dynamics improve, we expect to see further weakness for the broad market.

What are the positives? 

(1) The S&P 500, Nasdaq 100, and Nasdaq Composite remain bullish.

(2) The Russell 2000 (IWM), Russell Micro Caps (IWC), MSCI Emerging Markets (EEM), and Europe’s EURO STOXX 50 are above major horizontal support (for now).

(3) Not one S&P 500 Sector is breaking down below long-term support.

(4) Broad commodities (the Bloomberg Commodity Index) remains above major horizontal support. The list of positives is dwindling, but until the above begin to violate key levels we are not ready to turn full-on bearish.

S&P 500

Source: FactSet

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