A technical breakout for the S&P500

A technical breakout

The S&P 500 on Friday made a technical breakout with a gap up that broke the previous high at 6764. Investors now have an entry point with a set strategy opportunity.

Buy the S&P 500 at market.
Set a hard stop loss at a break of 6764.
Ride the move higher with an initial target 6896 (where we would raise the stop loss).
Set a profit taking objective of 7110.

Watch for a move up in the Vix as the rally occurs because it will force investors to trade unhedged and then be vulnerable to a breach of the trend channel depicted below.

Interest Rates

The US 10-year and 2-year yields have found a floor near current levels with the market appearing to be divided between those that see the inflation bus approaching at speed and those that cannot see anything but the lagging employment indicator that has been distorted since April by the Trump policy uncertainty and now the government shutdown. Make no mistake if this shutdown goes beyond 30 days, then the markets anxiety will increase because all the data for October will not be calculated. This is an absurd and dangerous situation.

The Australian 10-year premium over the US 10 year has contracted into 13bps from the 25bps seen over the past few weeks. It is hard to see a further contraction, so we expect the 10-year to trade in line with the US 10 year over the next few months. A great deal of care needs to be taken with the outcome of the US -China trade talks as Australia will be impacted. The 2-year yield barely moved last week from 3.35% which is the current informed expectation of the terminal interest rate.

Major Credit Markets

Corporate bond spreads recovered slightly over the week especially after the CPI number Friday night that improved the likelihood of a Fed rate cut.

In Australian credit a very quiet week with the larger mutuals positioning for raisings. Great Southern came with a 3-year at +93bp which compares with a 3-year Newcastle Perm at +125bp nine months ago. Oddly, the larger credit funds have been helped by the MQG wrap and Netwealth decision to cut all funds with smaller holdings (rumoured anything less than $300m) from their super trustee offering. The outflows from some rather big fund managers has probably meant that they have not had to buy bonds at the current credit margins with outflows matching inflows (not true for us as smaller players without big marketing budgets). The other event in the IG credit space was the ongoing fallout from the First Brands and Tricolour collapses in the US. Many global credit funds (some Australian ones) were benchmarking against indices that included First Brands and so have seen at least small losses.

High Yield Markets

High yield (HY) credit markets recovered somewhat last week after large rises in spreads the week before (after the China tariff and Frist Brands bankruptcy). Secondary markets for newly issued HY bonds have been poor although the primary market is still functioning well. At this stage HY balance sheets are ok with a reasonable economy and a likely upcoming rate cut. A key sentiment indicator for HY is the VIX, which has fallen well back from elevated levels two weeks ago.

Hybrid volumes were back to normal levels last week with heaviest volumes in the middle of the curve and in the long-dated WBCPM. Margins firmed – the average major bank hybrid margin in by 5 pts – with all major bank margins tighter except for NABPF which widened by 0.30% despite being wide already on moderate volume (see next page).

Listed Hybrid Markets

ASX hybrids

Typically, the hybrid curve displays a positive slope. However, as the chart illustrates, ANZ, NAB, and Westpac hybrids are currently showing a flat curve — in effect, no curve at all — while CBA’s curve remains more typical, sitting around 0.70% over five years. This is unusual. For instance, NABPF has been positioned above the curve at the short end for several months. Being a short-term hybrid, NABPF is often mispriced, particularly within 90 days of maturity when franking benefits can no longer be fully utilised. Yet, we now see three of the four major banks exhibiting a flat structure, suggesting investors are not differentiating between maturities. This likely reflects increased buying at the longer end, which is unsurprising given the limited new issuance expected. As a result, shorter-term hybrids are being overlooked — and if this weakness persists, they may soon offer a more attractive risk–return proposition.