Something's Missing from Monday's Rally

Any market pundit will happily, sagely tell you that not every day in the market needs an explanation. Today's move does. Four percent rallies (intraday) are not easy to come by, even by this bull market's standards, and with recent bullish relationships not holding in today's action, it behooves us to dive deeper into Monday's session.

Notably absent in Monday's big move was a concurrent drop in the dollar. The S&P and the dollar have been steadily inversely correlated since March, and dollar declines have been associated with policy efforts to loosen financial conditions.

/NQ vs /DX 30d corr:

Investors have been hyper-focused on the possibility of fiscal stimulus since the September bottom, evidenced in large part by a quick drop in the dollar last week. To see none of that weakness today was odd. China's move to weaken the Yuan likely played some role in the dollar's stability, but still, it's surprising to see such a powerful move in the stock market without any corresponding move in the greenback, at least judging from recent market relationships. With no dollar decline, it's difficult to argue that incremental stimulus hopes are responsible for the rally. On top of that, fiscal news has been more closely tied with cyclical-stock strength, of which there was little on Monday.

It's certainly possible the market could rally as the dollar stays firm or strengthens (2019), but that would mark a change in 8-month trend and there's no clear reason as to why that would be the case. Perhaps if the U.S. reopening hastened and our economy improved markedly next to peers; not impossible, if our current COVID wave stays contained compared to Europe's current debacle. But that very much remains to be seen.

Because of the dollar's strength, the Nasdaq stood out from other recent momentum trades with which it's been correlated. Namely, gold, whose dollar correlation has been even stronger than the Nasdaq's.

/GC vs /DX 30d corr:

Gold and the Nasdaq have had a reliably positive correlation with stocks since both charts bottomed out when the Fed signaled it would reverse the 2018 rate hikes.

/NQ price w/30d corr vs /GC

Most will point to the decline in real interest rates (yield - inflation) as the bullish catalyst for gold -- and real rates did bottom out around the high in gold. That presaged stability, and then strength, in the dollar, which bottomed out as the S&P 500 peaked in early September. Stocks and gold had the lowest 30-day correlation in August as equities rallied and gold dropped. The two have reconnected as equities pulled back and bounced. One should be wary of assuming these two can move very far apart, when their two-year rally stems from the same source: the Fed's 2018 pivot.

In fact, right now, the relative strength of the Nasdaq ETF QQQ vs Gold GLD is near the highest of the past two years -- and each time we got here, it wasn't great for stocks. And in the last two instances, spring 2020 and last month, it was ultimately bad for both stocks and gold:

Point is, without clear evidence of regime change, we should expect stocks and gold to drift in the same direction. A fiscal deal that puts a floor under the worst companies without spurring inflation is the easiest way to envision a potential break between gold and stocks, but it's very early to be certain such a thing is happening.

Included in that drift has been copper, another important momentum asset of the last six months that was lower Monday. In this context, there was little corroboration of the tech rally anywhere else in either the newsflow or the market. The only possible news tie to tech is tomorrow's Apple event and Amazon's Prime Day, but these have been well-telegraphed and understood for some time.

That leaves us with the last bastion of bullish scoundrels: rates are low, risks are high, and tech stocks are the only safety trade in an economy plagued by quarantine. And indeed, Monday's market looked quite a lot like a quarantine surge, with work-from-home tech recharging. Perhaps that fits with folks wondering if our recent flare-ups will turn into a full-blown second wave a la Europe. But hard to see how far that logic can go this time, considering 1) hospitalization and death-rates contained should keep the reopening on a steady pace and 2) if the economy is as at-risk without stimulus as analysts suggest, it's hard to see how much deeper the COVID growth well can go, even for tech businesses.

A lot of people like to snarkily say narrative doesn't matter. It does. Markets can only go so far without narrative until the narrative becomes a market that has gone AWOL and begets caution. A move like this one -- which sets the most important companies on a technical path to new highs -- that happens without clear cause or corroboration across the market, demands a big story, or reversal, soon.