This is going to be potentially a very big week for the market.

I have been discussing the three catalysts that the market has been waiting for, and we are about to get answers on how they will play out:

1. Tech earnings: This week, major tech companies, like Alphabet (Google), Microsoft, Amazon, and Intel, report earnings. Investors are watching this space closely to see whether AI revenue growth continues at a rapid pace or whether issues in the economy are starting to have a negative impact.

2. Inflation: The Federal Open Market Committee (FOMC) meets October 27-28. US Treasury bond yields have been rising, in part due to inflation fears and worries that the Fed is making a policy mistake by not raising rates. The Fed is not expected to raise rates, but what it says (or doesn’t say) about inflation may move the markets.

3. The midterm elections: As I have discussed numerous times, the fourth quarter of a midterm year and the year that follows have historically been a very good time to own equities.

We start the week with the S&P 500 testing support in the lower zone of the sideways trading pattern that has been present since early August:

…and low-volatility and value areas of the market have shown higher positive momentum and relative strength vs. their high-beta and growth counterparts:

Market rotation has been favoring low-volatility and value over high-beta and growth.

The two big events this week that may change the current pattern deal with inflation and AI growth.

Inflation

First, the FOMC meets this week to decide whether to raise interest rates or not.

Currently, market participants expect the Fed to keep rates unchanged:

Futures markets are predicting a 90% chance the Fed does not change rates.

…however, the market will be closely listening to what the Fed says in its commentary on its economic outlook and future inflation policy.

Inflation continues to be a concern, and many, including myself, are worried that the Fed is mishandling the inflation risk. This worry is showing up in the bond market, as high-yield bond spreads continue to widen:

A high-yield bond spread is the difference in yields between high-yield bonds and higher-quality bonds, like US Treasuries.

A widening (rising) spread indicates higher perceived credit risk, usually associated with economic distress, while a tightening (declining) spread suggests increased investor appetite for risk and a better economic outlook.

I will be closely watching how the bond market reacts to what the Fed says about inflation. If bond investors feel that the Fed is starting to take steps to rein in inflation, high-yield spreads should drop, removing one of the fears that has been holding the market in its sideways/wait-and-see pattern.

AI Growth

On Wednesday, Google and Microsoft report earnings, followed the next day by Amazon and Intel.

The AI trade has stalled due to fears of revenue growth and the impact that higher rates will have on borrowing.

While I still believe we are in the very early stages of the AI cycle, akin to 1993 during the internet cycle:

For paid subscribers:

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• Macro events vs the AI cycle

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For the past few weeks, I have been discussing how market participants are taking a wait-and-see approach to the US stock market.

This has locked the S&P 500 in a sideways trading range since the summer:

There are three key questions about upcoming, potentially market-moving catalysts, and we are on the verge of getting answers:

1. Tech earnings. This week, major tech companies began reporting earnings. Investors are watching this space closely to see whether AI revenue growth continues at a rapid pace or whether issues in the economy are starting to weigh on it.

2. The Federal Open Market Committee (FOMC) meets October 27-28. US Treasury bond yields have been rising, in part due to inflation fears and worries that the Fed is making a policy mistake by not raising rates.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the year that follows have historically been a very good time to own equities.

   Right now, we are in the sideways, slightly more volatile range typical of past midterm cycles:

   

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What to Watch For

High-yield bond spreads have been widening since the end of September as perceived risk to the economy has increased. As bond investors worry more about future risk, such as persistent inflation, they demand a higher yield

As bond investors worry more about future risk, due to, for example, persistent inflation, they want to be rewarded with a higher yield.

This has caused high-yield spreads, the difference between risk-free and high-yield rates, to widen:

If investors begin to feel that the issues facing the economy are being resolved, we should see these spreads start to narrow again.

However, if investors feel that the issues are being ignored, we may see a continued widening of spreads, which may scare equity investors.

I always watch the relationship between high-beta and growth areas of the market and their low-volatility and value counterparts:

High-beta and growth names have been seeing a decline in momentum and relative strength, while low-volatility and value names have been improving. This indicates that investors want to own the “safer”, less volatile areas of the market.

We are nearing the point where, if equity investors feel comfortable with the answers to their three questions, we should see bargain hunting in high-beta and growth areas, such as semiconductors, which are down more than 25% from their June high:

In this week’s sector rotation report, I noted that we are at an inflection point as value sectors are nearing overhead resistance and many growth areas are nearing support levels.

For example, the technology sector is currently trading near cloud support and at a level where buyers have previously shown up:

There is a lot to watch over the next few weeks. I’ll keep you posted on what I am seeing in the credit market and in the rotation of the market.

ARTAIS AI Universe Screen

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Momentum continues to look weak for most of the AI-themed sectors I watch. Of the main subsectors within AI, momentum has been strongest in areas that deal with “Defense Tech” (adoption and utilization of defense technology), infrastructure, and energy infrastructure.

However, these three areas are still trading below the Ichimoku cloud, which tends to act as support/resistance. This means we are seeing short-term momentum improve, but it is within the longer-term downtrend.

Global X Defense Tech (SHLD):

Global X US Infrastructure Development (PAVE):

Global X MLP & Energy Infrastructure (MLPX):

The areas that are trading above the cloud are seeing momentum decline (one of the rules in the model is that price needs to be above the cloud with positive momentum):

iShares Expanded Tech-Software (IGV):

First Trust NASDAQ Cybersecurity (CIBR):

Global X Artificial Intelligence & Technology (AIQ):

AI Rotation

For much of the AI-themed universe that I follow, momentum and relative strength vs. the S&P500 has been weakening during the month of October:

Rising yields, concerns over inflation, and worries about AI revenue growth have negatively impacted most of the AI themes.

The majority of the subsectors are in the lower-left quadrant. This is where momentum and relative strength are the weakest.

It is also where things tend to bottom out (buy low, sell high) as most, if not all, of the bad news has been priced in.

For market participants to look for opportunities in these oversold areas, there typically needs to be a catalyst to drive investors back into the theme.

I have been writing about three catalysts I am watching. You can read more about them in last week’s note:

As we get answers on these three catalysts, watch the rotation to see if the market feels the issues facing the economy (such as inflation) are, or are not, being properly addressed.

Why the Model Is “Risk Off”

For paid subscribers:

• The credit-market signal that moved the AI model out of equities and what it is saying now.

• Where the model is allocated right now

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• The daily AI stock screen

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1. Tech earnings. Starting this week, major tech companies begin reporting earnings. Investors will watch closely to see whether AI growth continues to accelerate.

2. The Federal Open Market Committee (FOMC) meets October 27-28. Investors, especially bond investors, are worried about inflation and believe the Fed may be making a policy mistake by not raising rates.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the following year have historically been a very good time to own equities. However, it is understandable if investors are worried about future ramifications, considering the current political environment.

As we near the answers to these questions, short-term trends are about to affect longer-term trends in numerous sectors.

Current Sector Rotation

Momentum and relative strength continue to improve in the majority of the sectors within the S&P 500 index, with the exception of technology:

This trend has been in place since the start of October, as the daily rotation below shows:

But it is the strength of this rotation that is leading us to an inflection point in the market.

The technology sector has the largest weighting within the S&P 500:

As of 10/20/26, Source: State Street

As history has taught us, the market will rebalance these weightings at some point.

In 2000, the technology sectors made up approximately 35% of the index. By the end of 2010, it was 18%.

During the period from 12/31/1999 to 12/31/2010 period, the S&P 500 Index declined 14%:

This is why it is important to watch how short-term trends can affect the bigger picture.

What about AI?

That’s the interesting part: whether this rotation becomes a longer-term move out of tech.

AI growth needs more than just tech. Data center build-out and infrastructure will positively impact non-tech sectors like Industrials, Materials, Utilities, etc.

We may be seeing the start of a long-term trend that favors areas that have been mostly ignored in the AI cycle, as evidenced by the low weightings of these sectors within the index.

Investors should be aware that, at some point, we could see an economic boom in non-tech sectors while the S&P 500 delivers years of poor returns as the index rebalances, similar to 2000–2010.

Short vs Long Term Trends

For this comparison, I am identifying short-term trends as days to weeks, while the longer-term trends are weeks to months.

Below, I am going to walk through what I am seeing in the 11 sectors that make up the S&P 500 Index. To keep it simple, they will be organized alphabetically.

Longer-term bull/bear trends are identified by whether the index is trading above the Ichimoku Cloud.

I will only be focusing on the daily trends, but here are both the daily and weekly trends:

For Paid Readers:

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The macro picture for the US stock market is still messy, to say the least. The S&P 500 index is still stuck in a trading range; as I have argued, investors are waiting for clarification on three key catalysts:

1. Tech earnings. Starting this week, major tech companies begin reporting earnings. Investors will watch closely to see whether AI growth continues to accelerate.

2. The Federal Open Market Committee (FOMC) meets October 27-28. Investors, especially bond investors, are worried about inflation and believe the Fed may be making a policy mistake by not raising rates.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the following year have historically been a very good time to own equities. However, it is understandable if investors are worried about future ramifications, considering the current political environment.

Until we have a better idea of how these catalysts will play out, longer-term focused investors seem to be taking a wait-and-see approach, while short-term traders are trying to take advantage of short-term rotation in this sideways trading range:

Macro Rotation

The rotation between growth and high-beta stocks vs. value and low-volatility continues to favor the latter:

The macro picture is telling the same story. Momentum and relative strength in the growth areas of the market continue to get weaker, while large-cap value is still hanging on:

However, zooming in on the charts themselves, this rotation between growth and value may be about to reverse, again.

For paid subscribers:

• The two charts that show growth oversold at cloud support and value overbought under it

• The sector setup aggressive traders may want to watch this week

• The credit-market signal I check before trusting any buy signal

• Today’s ARTAIS AI Universe Screen results, and why the model is still out of equities despite them

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Last week, the S&P 500 index dropped more than 2%, and the Nasdaq 4.8%, as AI and semiconductor worries, plus poor inflation data, pushed growth stocks lower.

This week, I am keeping a close eye on the data points below:

The stock market is nearing an inflection point as we are about to get a resolution to one of the three catalysts that I have been talking about.

I am watching several key levels and relationships for insight into where opportunities may be and how market participants are allocating capital in the short and long term.

Charts, Key Levels, and Catalysts to Watch This Week:

While the S&P 500 index declined last week, market breadth improved as more stocks rose above their 50- and 200-day moving averages:

Breadth is improving while the cap-weighted S&P 500 declines because money is rotating out of growth stocks, like tech, and into value and low-volatility sectors.

This is why the S&P 500, which is a market-cap-weighted index (the larger the company, the larger its weighting), declined last week, while the equal-weight version rose.

Money isn’t leaving the stock market; it is being reallocated. Whether this is a short- or long-term reallocation has yet to be determined:

Since the start of October, low-volatility and value names have seen momentum and relative strength improve, at the expense of high-beta and growth names:

In addition, the bond market is still signaling that investors are not happy with how the Fed is handling inflation. High-yield bond spreads are widening, and the stock market is finally starting to pay attention as investors reduce risk:

I have been watching three key catalysts that may drive the market higher or lower during the 4th quarter:

1. Tech earnings. Starting this week, major tech companies begin reporting earnings. Investors will watch closely to see whether AI growth continues to accelerate.

2. The Federal Open Market Committee (FOMC) meets October 27-28. Investors, especially bond investors, are worried about inflation and believe the Fed may be making a policy mistake by not raising rates.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the following year have historically been a very good time to own equities. However, it is understandable if investors are worried about future ramifications, considering the current political environment.

This week, as tech earnings season begins, we will start to get a better idea of how the first of these catalysts plays out.

A key area to watch will be how investors feel about semiconductor stocks. Will they find value at these levels, as they have in the past, or do they believe a repricing needs to happen first?

Watch Semiconductor Stocks This Week:

The SOXX ETF, which tracks the NYSE Semiconductor Index, is trading near a level where buyers have found value in the past:

Earnings from tech companies this week may start to give us a better idea of whether investors still see value at these levels or believe semiconductors are overvalued in the current economic and interest-rate environment.

There are early signs that investors may be looking for opportunities at these levels as the Bullish Percent Index for the tech-heavy NASDAQ 100 reversed up into a column of Xs:

The Bullish Percent Index (BPI) is a market breadth indicator that measures the percentage of stocks within an index or sector (like the S&P 500 or NYSE) that are currently on Point-and-Figure buy signals.

Developed by Abe Cohen in the mid-1950s, the BPI ranges from 0% to 100%. Instead of just tracking the price of an index, it gives us a look under the hood at the internal strength or weakness of the market.

(Think of a column of Xs as the offense—buyers—on the field, and a column of Os as the defense—sellers.)

In addition, the hourly RRG chart shows improving momentum and relative strength in tech and semiconductor stocks:

If this continues this week, it will be a good sign for tech investors.

But the market is also at an inflection point…

For paid subscribers:

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• The three scenarios I’m watching: rotation reverses, rotation becomes a new cycle, or both indexes break below the cloud

• Where money may go if investors decide semiconductors are overvalued

• Today’s ARTAIS Screen results and status, updated every trading day

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“Wait-and-See”

Since early August, the S&P 500 index has been stuck in a sideways trading pattern as sectors have been rotating between short-term oversold and overbought conditions.

The index’s momentum (the yellow circle) has been flat, indicating a wait-and-see attitude among investors:

In yesterday’s research note, I discussed the three upcoming catalysts I am watching. I believe most of the market is watching these too, waiting for clarification on AI growth (key tech companies start reporting earnings next week), inflation/interest rates, and the midterm elections.

What Is the Rotation in the Market Telling Us?

As these investors wait, short-term traders have been taking advantage of this sideways pattern to trade between overhead resistance and support levels.

They do this by rotating between high-beta sectors, like technology, and low-volatility sectors, like utilities.

The chart below is a Relative Rotation Graph (RRG). RRGs are one of my favorite tools, as they allow us to visualize the momentum and relative strength of the market

This RRG is from October 6, the day that the S&P 500 had a false breakout. As you can see, high-beta and growth areas of the index were seeing weaker momentum and relative strength. At the same time, value and low-volatility areas were improving:

This rotation indicated that the sideways trading pattern of the S&P 500 was going to continue, as investors were becoming more conservative at the top of the sideways trading range.

The current RRG still favors value and low-volatility over growth and high-beta:

As someone who wants to enter trends as early as possible, I am looking for clues as to when the rotation may begin to favor growth and high-beta.

Time to Rotate Back Into Tech?

Earlier this week, I wrote that money wasn’t leaving the stock market; it was just leaving tech.

Well, just as fast as it left, money appears to be flowing back into tech.

The index’s sideways pattern is still intact, and as the index nears support, the rotation back into high-beta areas seems to be starting.

Below is the Bullish Percent Index for the S&P 500 (which is roughly 40% technology stocks), and it is indicating buyers are starting to show up (it indicates that buyers are starting to show up, which is a good sign if you are worried the market is about to collapse):

The Bullish Percent Index (BPI) is a market breadth indicator that measures the percentage of stocks within an index or sector (like the S&P 500 or NYSE) that are currently on Point-and-Figure buy signals.

Developed by Abe Cohen in the mid-1950s, the BPI ranges from 0% to 100%. Instead of just tracking the price of an index, it gives us a look under the hood at the internal strength or weakness of the market.

(Think of a column of Xs as the offense—buyers—on the field, and a column of Os as the defense—sellers.)

In addition to a buy signal for the S&P 500’s BPI, the tech-heavy Nasdaq 100 index has also reversed up into a column of Xs:

This tells me interest in high-beta and growth stocks is increasing.

I am also seeing the rotation out of value and into tech begin on the hourly RRG chart:

These are all early indications, but the problem with shorter timeframes is that they are more volatile and can reverse quickly.

4th Quarter Stock Market Rally?

To help determine whether this move back into tech is the start of a longer-term trend that fuels a fourth-quarter rally, I will be watching semiconductor stocks.

Semiconductor stocks have a significant weighting in the S&P 500 index. When they move, the market tends to follow.

The iShares Semiconductor ETF (SOXX) tracks the NYSE Semiconductor Index. Currently, SOXX is oversold and trading at a minor support level.

I will be watching these support levels to see if semiconductor stocks start to rise from oversold conditions, or if buyers are waiting for a retest of the July 29 low.

I am also closely watching how traders are treating low-volatility sectors like Utilities. While the Bullish Percent Index for the Utilities sector is very oversold, it is on the verge of reversing back into a column of Os:

This is a more important signal than I think many realize. Earlier this year, the S&P 500 declined nearly 10%:

During this decline, the Utilities Bullish Percent index was rapidly rising, as investors fled to low-volatility names:

As of now, the demand for Utility stocks is low, again indicating that investors are not fleeing the market; they are just waiting.

The 30,000-Foot View

Zooming out to take a 30,000-foot view of the market, I am seeing continued sector rotation in a sideways trading range.

We are nearing three catalysts that can push the market out of this trading range. Here they are again, as I wrote earlier this week:

1. Tech earnings. Starting next week, major tech companies begin reporting earnings. Investors will be watching this space closely to see if growth in AI is continuing to improve at a rapid pace.

2. The Federal Open Market Committee (FOMC) meets October 27-28. US Treasury bond yields have been rising, in part due to inflation fears and worries that the Fed is making a policy mistake by not raising rates.

   Currently, there is a 31% chance that the Fed raises rates. But the odds have been changing rapidly with every new piece of inflation or economic data.

   A month ago, there was a 43.5% chance that the Fed would raise rates. Then last week, those odds dropped to 17%. There is a chance the market may be surprised at what the Fed actually does during the FOMC meeting.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the year that follows have historically been a very good time to own equities.

   This means that “if” investors believe we will see a similar trend play out this election, we should be seeing stocks, especially high-beta stocks, rising.

   But this hasn’t been the case. Investors may be waiting for a clearer picture from these three catalysts, which is why I think we are nearing a decision point.

Depending on the outcome of these three catalysts (assuming no major escalation in the Iran war), the S&P 500 index should be able to exit its sideways trading range in the next few weeks.

I will be closely watching the relationship between high-beta vs. low-volatility names to see how investors are handling the results of these upcoming catalysts.

ARTAIS AI Universe Screen

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• Active signals, stops, and targets

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Read more

The AI theme continues to rotate in a manner similar to that of the broader market. Relative strength and momentum vs the S&P 500 index is weakening in the higher-beta areas of the theme, while lower-volatility areas like utilities are improving:

This rotation is also showing that we are trading at important levels that can give us better insight into how investors are feeling about risk as we approach three potentially market-moving catalysts:

1. Tech earnings. Starting next week, major tech companies begin reporting earnings. Investors will be watching this space closely to see if growth in the AI space is continuing to improve at a rapid pace.

   

2. The Federal Open Market Committee (FOMC) meets October 27-28. US Treasury bond yields have been rising, in part due to inflation fears and worries that the Fed is making a policy mistake by not raising rates.

   

   Currently, there is a 31% chance that the Fed raises rates. But the odds have been changing rapidly with every new piece of inflation or economic data.

   A month ago, there was a 43.5% chance that the Fed would raise rates. Then last week, those odds dropped to 17%. There is a chance the market may be surprised at what the Fed actually does during the FOMC meeting.

3. The midterm elections. As I have discussed numerous times, the fourth quarter of a midterm year and the year that follows have historically been a very good time to own equities.

   This means that “if investors believe we will see a similar trend play out this election, we should be seeing stocks, especially high-beta stocks, rising.

   But this hasn’t been the case. Investors may be waiting for a clearer picture from these three catalysts, which is why I think we are nearing a decision point.

Oversold vs Overbought

Utilities have been showing rising momentum and relative strength this month. The sector is now short-term overbought and unable to break above resistance.

Virtus Reaves Utilities ETF (UTES)

The top three holdings - Constellation Energy, Talen Energy, and Vistra - make up over a third of the ETF’s portfolio.

All three companies are painting a similar picture: short-term overbought and unable to break above key resistance levels.

Constellation Energy (CEG):

Talen Energy (TLN):

Vistra Corp (VST):

The memory subsector, the weakest area in the group’s relative rotation, shows a similar but opposite setup.

These names are short-term oversold and approaching support levels:

Roundhill Memory ETF (DRAM):

Micron (MU):

My argument has been that the rotation in the market has been just that: rotation.

So far…

My worry is that the bond market continues to panic, causing yields to rise, combined with a larger and longer-lasting spike in oil prices.

If this occurs, it may be enough to scare investors away from the normal rotation of the market (meaning investors stop buying oversold stocks that are sitting at key support levels).

How the ARTAIS AI Model Is Handling This Risk

The goal of the model is to participate in the AI growth theme while managing risk.

To do this, I look to the bond market. Bond investors are typically unemotional and logical.

(I often use Captain Kirk and Mr. Spock from Star Trek as a …

For paid subscribers:

• Exactly where the ARTAIS AI model is allocated right now

• The high-yield spread level that has preceded past equity selloffs

• The two signals I’m waiting for before the model buys AI stocks again

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Rotation away from the technology sector and into the rest of the market, continues. On the Relative Rotation Graph below, momentum and relative strength for tech stocks continue to fall, as the sector exits the upper-right, leading quadrant:

This rotation out of tech is being confirmed by the reversal in the sector’s Bullish Percent Index, which is now in a column of Os and declining:

A Quick Refresher: What the Bullish Percent Index Tells Us

The Bullish Percent Index (BPI) is a market breadth indicator that measures the percentage of stocks within an index or sector (like the S&P 500 or NYSE) that are currently on Point-and-Figure buy signals.

Developed by Abe Cohen in the mid-1950s, the BPI ranges from 0% to 100%. Instead of just tracking the price of an index, it gives us a look under the hood at the internal strength or weakness of the market.

(Think of a column of Xs as the offense—buyers—on the field, and a column of Os as the defense—sellers.)

Bent, Not Broken: Tech’s Long-Term Trend Holds

On a longer-term timeframe, technology (XLK) remains above the Ichimoku cloud, which I use to help determine whether a stock or index is in a bull or bear trend.

However, XLK’s inability to break above resistance and keep rising suggests investors are not as bullish on tech and other high-beta stocks as one might expect.

Make sure to read Monday’s research note on how investors are not behaving in line with historical election-cycle trends.

Investors Are Sitting on Their Hands

As of now, this still looks like a short-term trend that is based on a “wait-and-see” attitude from investors ahead of what the Fed does and says about inflation at its FOMC meeting at the end of this month.

(Plus - I am sure some investors are worried about the upcoming midterm elections.)

Looking at the non-tech sectors in the S&P 500 index, I see that most of them are trading below the Ichimoku cloud.:

Utilities (XLU):

Industrials (XLI):

Currently, only Technology (XLK), Energy (XLE), and Communications (XLC) are trading above the cloud:

When a sector is trading above the cloud, it indicates that a longer-term bullish trend is in place

The Sector Bell Curve: Who’s Overbought, Who’s Oversold

In addition to some of the fears in the market, short-term traders may be taking advantage of how ignored non-tech sectors have been recently.

Many sectors were, and still are, deeply oversold, and some traders are clearly taking advantage of this by looking for short-term opportunities in the rotation between overbought and oversold sectors.

Below is a bell curve showing the current Bullish Percent Index of each sector in the S&P 500.

Sectors on the left side of the curve are oversold; sectors on the right side are overbought. Green boxes mean the sector is in a column of Xs and rising, and red boxes mean the sector is in a column of Os and is declining:

Source: ARTAIS Capital

Sector Bullish Percent Index charts are overbought when 70% or more of the stocks in the sector are on a “buy” signal. The sector is oversold when less than 30% of stocks are on a “buy” signal.

The idea is that when a high percentage of stocks are on a buy signal, buying exhaustion may be near, because everyone who wants to buy has already bought.

You may have noticed that the sector BPI buy/sell signals do not line up with the cloud status of each sector.

This disparity indicates that, as of now, this is just a short-term rotation that has not affected the longer-term trend that still favors the technology sector.

(In today’s Sector Screen section, found below, I explain why the communication and energy sectors are not favored, despite being above the cloud.)

Trends I Need to See Fail Before I Worry

In the rest of this report: the three trends I need to see fail before I get worried, what the equal-weight S&P 500 is signaling about investor positioning, this week’s sector screen results (one sector just dropped off the active list), and an update on the ARTAIS AI portfolio.

Read more

Equity investors seem to be in a bit of a holding pattern as the S&P 500 index has yet to successfully close above a key resistance level:

This hesitation is coming in the form of rotation out of high-beta growth names and into lower-volatility value names.

High Beta vs Low Volatility

The Relative Rotation Graph (RRG) below shows a continued decline in momentum and relative strength in growth and high-beta areas of the S&P 500.

At the same time, low-volatility and value names are improving:

Relative Rotation Graphs tend to rotate in a clockwise fashion, with the upper right quadrant being the strongest and the lower left quadrant being the weakest

As of now, this looks like a rotation away from tech and not a rotation out of the stock market:

Momentum and relative strength are weakening for S&P 500 (Large-Cap) Growth and QQQ stocks, while improving in Small and Mid-Cap names

Market Breadth Is Improving

Breadth is starting to improve. As I have mentioned before, the S&P 500 index is heavily weighted towards technology stocks.

Market breadth is improving as the number of stocks trading above their 50 and 200-day moving averages rises

For breadth to improve while tech is declining, we need to see strong participation in non-tech names, which is what I am currently seeing.

However, whether there will be enough buyers in non-tech names to keep supporting the index remains to be seen.

If investors are rotating away from high-beta names to reduce risk, they may be investing only part of that money in lower-volatility areas of the market and keeping the rest in cash/short-term T-bills.

If this is the case, then we may start to see the S&P 500 index breakdown.

Bullish Percent Index

The Bullish Percent Indexes for the S&P 500, NYSE, and NASDAQ 100 are all declining.

The Bullish Percent Index (BPI) is a market breadth indicator that measures the percentage of stocks within an index or sector (like the S&P 500 or NYSE) that are currently on Point-and-Figure buy signals.

Developed by Abe Cohen in the mid-1950s, the BPI ranges from 0% to 100%. Instead of just tracking the price of an index, it gives us a look under the hood at the internal strength or weakness of the market.

(Think of a column of Xs as the offense—buyers—on the field, and a column of Os as the defense—sellers.)

Bullish Percent Index for S&P 500 Index:

Bullish Percent Index for NYSE-listed stocks:

Bullish Percent Index for NASDAQ-100:

Is This the Start of a Larger Decline?

In the rest of this report: what the long-term trend says about growth vs. value, the two events that could break this stalemate, and the semiconductor signal that would tell me investors are abandoning risk altogether.

Read more

1. This Week’s Key Economic Data and Events.

2. Charts and Key Levels to Watch

3. Continued warning signs from high-yield bonds

4. Pass/Fail Screen for AI Universe.

The Week Ahead

As a reminder, the bond market is closed today for Columbus Day (Indigenous Peoples’ Day).

This week’s big event will be Wednesday’s inflation data release. This may provide more clarity on what the Fed will do at the end of this month during its FOMC meeting.

The current debate is focused on whether the Fed will/should raise rates right before the midterm election. Currently, the CME’s FedWatch tool (which is based on the 30-Day Fed Funds Futures) is predicting an 80% chance that the Fed does nothing:

In addition, some key earnings reports are being released by companies in the Financials sector, and (more importantly) Taiwan Semiconductor.

Taiwan Semiconductor (TSM) plays an important part in the AI supply chain as the company is the world’s largest semiconductor foundry and supplies companies like Nvidia, Apple, Broadcom, Qualcomm, AMD, Intel, and Amazon (AWS).

TSM’s earnings report will test the market’s appetite for AI stocks - especially after last week’s worries about circular AI spending and OpenAI’s weaker-than-expected revenue announcement.

Charts and Key Levels to Watch This Week:

The overall market trend is still intact:

Short, intermediate, and long-term trends are still intact

But there is some rotation away from the technology (XLK) sector and into value sectors, like utilities (XLU):

Relative Rotation graph (RRG) showing momentum and relative strength of the 11 sectors in the S&P 500 index vs the index itself

What concerns me about this rotation is that we are entering a time frame that is historically very good for stocks, but the market is doing the opposite of what one would expect.

Read more

1. The 30,000 Foot View

2. S&P 500 Index: False Breakout?

3. Understanding How the S&P 500 Index is Constructed

4. Two Ways to View the S&P 500: Equal Weight vs Market Capitalization

5. Rotation from Overbought to Oversold

6. Four Scenarios I Am Closely Watching

7. Signs That Bond Yields May Start to Fall

8. Pass/Fail Screen for AI Universe

The 30,000 Foot View

I have been talking ad nauseam about the rise in yields in the bond market and how bond investors may be sending a signal to the Fed that they are not happy with how the Fed is handling inflation.

If you are new here (welcome!), you can catch up by reading last week’s research note: The 30,000 Foot View: The S&P 500 Looks Fine. Under the Hood, It Isn’t

S&P 500 Index: False Breakout?

Currently, the S&P 500 is pulling back from all-time highs, as the index failed to break out above overhead resistance:

Does this mean that equity investors are starting to agree with the bond market?

From my viewpoint, not necessarily yet.

The above chart of the S&P 500 index includes two panels showing market breadth. This includes the number of stocks trading above their 50- and 200-day moving averages.

Roughly only 31% of stocks are trading above their 50-day moving average, and less than half are trading above their 200-day moving average.

In a rising market, you would expect to see more and more stocks in the index rising, but breadth has been showing the exact opposite.

Since late summer, the majority of stocks in the index have been declining. So how has the index still been rising?

Understanding How the S&P 500 Index is Constructed

The S&P 500 index is just that, an index. The index is owned and managed by S&P Dow Jones Indices, a joint venture that is 73% owned by S&P Global and 27% owned by CME Group.

The index has specific criteria too:

“To qualify for the S&P 500, companies must meet specific requirements—including U.S. domicile, a minimum market capitalization (reviewed quarterly, currently set at $22.7 billion), a public float of at least 10%, sufficient trading liquidity, and positive earnings over the most recent quarter and trailing four quarters.” (source: Investopedia)

Why bring this up?

It is important to understand how the various indexes that track the stock market are constructed, so we can better understand what is causing the index to rise or fall.

The S&P 500 index is a market capitalization index, which simply means the larger the company, the larger the allocation in the index. Right now, the 10 largest holdings are all technology companies:

source: State Street

“John, you are rambling again.”

Stay with me. I am going somewhere with this…

Currently, the S&P 500 index is showing weak positive momentum and is starting to decline after signs of buying exhaustion.

Also, note that the index is still trading above the Ichimoku cloud (more on that in a second):

BUT there is more than one index and more than one methodology to measure the stocks that are included in the S&P 500.

Two Ways to View the S&P 500: Equal Weight vs Market Capitalization

The Equal Weight (EW) S&P 500 index gives an equal weighting to each stock in the index, and it is painting a very different picture, as the EW index is showing signs of improving upside momentum:

The Ichimoku cloud helps us better visualize whether an index, sector, or stock is in a longer-term uptrend or downtrend. As you can see in the two charts, the EW index is still trading below the cloud, while the market-cap S&P 500 is trading above.

What this tells me is that investors don’t seem to be moving out of equities, since both indexes are not trading below the cloud.

Rotation from Overbought to Oversold

Instead, in the short term, investors are either moving away from high-beta names to control risk as bond yields rise, or simply rotating from an overbought sector (technology) into oversold sectors.

The bell curves below compare each sector’s Bullish Percent Index within the S&P 500. Currently, a large part of the market is sitting near or at oversold levels:

Sectors like utilities are deeply oversold, and mean-reversion traders are taking advantage of it:

Four Scenarios I Am Closely Watching

Obviously, investors have plenty to worry about: rising yields, the midterm elections, inflation, a growing deficit, and the impact AI may have on the job market.

These are the four scenarios I am watching for insight into how the market is weighing these worries:

1. Technology and the majority of the other S&P 500 sectors’ Bullish Percent Indexes reverse and begin to decline.

   This indicates that investors are abandoning equities and no longer care about searching for oversold opportunities in strong names.

2. The S&P 500 Index falls below the Ichimoku Cloud

   This is a sign that the trend in the market-weight index has reversed, and we may see the selling in equities accelerate, similar to what happened earlier this year:

3. The Equal Weight S&P 500 Index nears the cloud (overhead resistance) and turns back down.

   This would signal that either equity investors don’t want to own stocks (especially if accompanied by either scenario 1 or 2) - or - the market is rotating back into tech and high-beta names.

4. Bond yields start to fall, AND equities rise.

The rise in yields in the US Treasury market has been viewed by many, including myself, as warranting caution in the stock market.

If yields start to decline, a big concern to equity investors is removed. At that point, we may start to see the market embrace the seasonality theme, which tells us that historically, we are entering a strong period for stocks.

source: Blackrock

Signs That Bond Yields May Start to Fall

As I mentioned, one of the biggest worries on investors’ minds is the rise in US Treasury yields. Signs are emerging that this rise may be nearing an end:

1. Magazine covers as a contrarian signal

One of my favorite contrarian signals has nothing to do with charts. It’s the magazine rack.

By the time a market theme makes it onto the cover of a major news magazine, the story is usually well known, the easy money has already been made, and the last of the buyers (or sellers) are already in.

The editors aren’t wrong about the trend. They are just late.

A cover story is written for the general public, and the general public tends to show up at the end of a move, not the beginning.

The classic example is BusinessWeek’s “The Death of Equities” cover in August 1979.

Stocks had gone nowhere for over a decade, and the cover declared that the asset class was finished. Three years later, one of the greatest bull markets in history began.

Even Fidelity’s legendary chart room has a section dedicated to this phenomenon:

source: Smith + St John

Well, look what The Economist put on its cover this week:

2. Economists Are Turning Bullish on Bonds

Economist Jim Bianco has been (correctly) one of Wall Street’s biggest bond market bears. For the first time in 6 years, he has changed his view:

3. France is Having Its Own Bond Market Issues

   The bond market is losing confidence that France can fix its deficit.

   France has run a deficit every year since 1973. Debt is ~119% of GDP and still rising. Interest costs are ~€65 billion this year and could top €90 billion next year, so the debt is compounding faster than the economy.

   As a result, investors in French bonds are now demanding a higher yield than on Greek and Italian bonds.

   This means they are viewing French bonds as RISKIER than Greek bonds.

   We may start to see foreign investors move to US bonds in a flight to safety. This will cause bond prices to rise and yields to fall. (Bond yields and prices trade inversely.)

   

Summary

The S&P 500 is pulling back from all-time highs, but under the hood, this looks more like a rotation than an exit.

The market-cap index is weakening because tech is weakening. The equal-weight index is improving because the oversold sectors are catching a bid.

Both are still trading above the cloud. Until that changes, I don’t think equity investors have thrown in the towel.

The bigger question is still the bond market.

Yields have been the main reason I have been cautious, and for the first time in a while, I am seeing signs that the move may be running out of steam: a magazine cover, a well-known bond bear changing his mind, and a French debt problem that could push foreign money into US Treasuries.

None of these are signals on their own. But if yields start to fall, the biggest headwind for stocks is removed, and we walk into the strongest seasonal window of the year with a lot of sectors sitting at oversold levels.

ARTAIS AI Universe Screen

Read more

1. ARTAIS AI Model Update

2. Current Rotation

3. Managing Risk in the Model

4. Current Status of the Credit Gate

5. Current Model Allocation

6. Pass/Fail Screen for AI Universe

The ARTAIS AI Model Update

The ARTAIS AI universe, like the broader market, is starting to rotate from hardware into construction.

Areas like semiconductors, servers & storage, and power & cooling are showing signs of deteriorating momentum and relative strength.

Meanwhile, areas focused on AI buildout and data center construction, like power/utilities, engineering/construction, and networking/optical, are starting to improve:

HOWEVER…

The ARTAIS AI model’s goal is to participate in the AI theme while managing risk.

As readers of my research will know, I have been talking about the increased risk in the credit markets.

High-yield bonds are an input in the model to help control risk. Currently, the high-yield bond market is flashing a warning sign as the spread between high-yield bonds and “safe” US Treasuries has significantly widened:

This has caused the model to switch to “risk-off."

Managing Risk in the Model

The AI Model has two parts:

1. The stock sleeve: This is where the model screens various technical signals to decide which stocks to include (the model holds up to 18 stocks).

2. The credit gate: How much of the portfolio should be allocated to the stock sleeve? The goal here is to manage risk.

The credit gate screen has three parts:

Read more

1. Current Sector Rotation

2. Bullish Percent Index Status

3. Dead Cat Bounce?

4. Pass/Fail Screen for the 11 sectors of the S&P 500 Index

5. ARTAIS AI Universe Screen Results

Sector Rotation

Rotation away from the Technology sector (XLK) and into oversold value areas of the market, like Industrials (XLI), Utilities (XLU), and Materials (XLB), is starting to form:

This rotation into oversold, non-tech names is starting to be confirmed by each sector’s Bullish Percent Index.

The Bullish Percent Index (BPI) is a market breadth indicator that measures the percentage of stocks within an index or sector (like the S&P 500 or NYSE) that are currently on Point-and-Figure buy signals.

Developed by Abe Cohen in the mid-1950s, the BPI ranges from 0% to 100%. Instead of just tracking the price of an index, it gives us a look under the hood at the internal strength or weakness of the market.

(Think of a column of Xs as the offense—buyers—on the field, and a column of Os as the defense—sellers.)

Read more

1. Growth Momentum is Starting to Weaken

2. High Beta vs. Low Volatility

3. S&P 500 Buying Exhaustion

4. Macro Screen Results

5. ARTAIS AI Universe Screen Results

Macro Update

The S&P 500 index continues to rise despite the warning signs (rising yields) coming from the bond market:

US 30 Year Treasury Yields Continue to Rise

However, the broad market is starting to rotate, and I think this is worth paying attention to.

Read more

1. This week’s key economic data.

2. What will the Fed do later this month?

3. Continued warning signs from high-yield bonds

4. Pass/Fail Screen for AI Universe.

The Week Ahead

This week, keep an eye on how the market reacts to the release of the FOMC minutes on Wednesday and Friday’s sentiment data.

In addition, there is the US Treasury 30-year bond auction on Thursday. Bond investors' continued demand for higher rates in exchange for lending to the US government has pushed yields significantly higher over the past few months.

Thursday’s auction will give us more insight into how bond traders are feeling about the state of the current yield curve:

Read more

1. The 30,000 Foot View

2. Warning Signs

3. Market Breadth Continues to Weaken

4. Here’s What I Am Watching

5. What May Calm the Bond Market

6. “The market will punish your theory”

7. Pass/Fail Screen for AI Universe

The 30,000 Foot View

For the past week, I have been discussing the growing divergence in views between bond and equity investors. The bond market has been sending warning signals that it is not happy with the current state of the economy.

Yields at the long end of the curve continue to rise:

This is occurring because bond investors are demanding to be compensated at a higher rate when they loan money to the US government.

Warning Signs

The bond market has become more worried about spending, inflation, and the fact that the Fed seems to be ignoring the inflation risk.

Eventually, the rise in yields may put too much stress on the system, causing a crisis that the equity markets will negatively respond to.

If we look at the broader stock market, everything seems fine:

Short, intermediate, and long-term trends are still intact

But if we look under the hood, the individual sectors of the index have been struggling.

Since the beginning of August, most sectors have been declining, with the exception of the technology sector:

Market Breadth Continues to Weaken

This is why market breadth has been so poor. Currently, only about a quarter of the stocks within the S&P 500 are trading above their 50-day moving average (intermediate trend), and only 40% are trading above their 200-day moving average (long-term trend):

We had a similar decline in market breadth earlier this year, and it was accompanied by a decline of nearly 10% in the S&P 500:

Due to the market capitalization structure of the S&P 500 index, the technology sector now makes up nearly 40% of the index:

source: State Street

What I Am Watching

So, my concern for the equity market is focused on two areas.

Frist: the strength of the tech sector.

Currently, technology stocks (XLK) are nearing overhead resistance. If too many short term traders start to take profits at this level, the sector may decline enough to scare longer-term investors, causing the sector and the S&P 500 index to decline:

Second: I am watching for failed buy signals - and I am starting to see some.

Below is a Bullish % Index chart, which measures the number of stocks within a sector that are in buy or sell signals.

(Think of a column of Xs as the offense -buyers -on the field, and a column of Os as the defense - sellers.)

Typically, during a normal market rotation between the various sectors of the S&P 500, we will see these sectors move back and forth between oversold and overbought conditions:

Utilities Sector Bullish % Index

So, in addition to the warning signs from the bond market and market breadth, I am now starting to see failed buy signals appearing within Bullish % Index charts.

For example - the Industrials sector is oversold, and the offense entered, THEN immediately exited the field:

We now need to ask ourselves: why are traders/investors who have been bullish on the market not taking advantage of oversold conditions?

To me, it indicates that investors are starting to worry about the warning signs from the bond market.

What May Calm the Bond Market

What needs to happen next for me to feel more bullish on stocks?

1. The Fed starts to get aggressive about inflation. This can come in the form of a strong speech by Fed Chair Warsh or a signal that the Fed will raise rates right before the midterm elections (it is assumed by numerous Wall Street analysts that the Fed will stay quiet before the election to avoid political scrutiny).

2. A large number of investors throw in the towel on equities and allocate a significant amount of their portfolio towards a 10-year bond that will pay them 5.1%.

   Of course, the problem with scenario 2 is that inflation eats away at the real return. Assuming inflation is at 3.4%, the real return is only 1.7%. I think yields need to rise higher before scenario 2 occurs.

3. A significant new AI model release or tools that are quickly being adopted into the supply chain. One argument from policymakers is that AI will double worker productivity and lower the cost of goods due to better efficiency and better workflow/systems management.

While this may be true (we saw a similar scenario play out with the internet), I think we are still too early in the AI cycle for the relief the bond market wants now.

4. Economic data begins to support the Fed outlook. If we start to see continuing trends in the data (like this morning’s weak jobs reports), the bond market may calm down, as a weaker consumer may cause less consumer spending - which means less demand, forcing prices lower.

5. Equity investors flat-out ignore the warning signs and start to take advantage of the oversold conditions within the various areas of the market.

"The market will punish your theory" is a classic Wall Street saying that serves as a brutal reminder: the financial markets do not care about opinions, academic models, or intellectual pride.

For now, keep an eye on the charts and your process.

I use a systematic, rules-based methodology that helps remove the emotion of investing. If the market begins to strengthen due to an increasing demand for equities, then the charts will tell us.

In the model I run for investors at ARTAIS Capital, I have been raising cash and allocating to non-correlated asset classes, while keeping tight exit rules on the stocks we are invested in.

Read more

1. The ARTAIS AI Model: Overview

2. Current Rotation

3. The Risk Is Not AI

4. Using Credit Markets to Help Identify Market Risk

5. How I Handle the Data

6. Pass/Fail Screen for AI Universe

The AI Model: Overview

At ARTAIS Capital, I manage a model that is based on the AI theme. Last week, I discussed where we are in the AI cycle and how it compares to the internet/tech cycle of the 1990s.

This week, I will be discussing the current rotation of the theme, the outside/non-AI themes that can temporarily disrupt the cycle, and some of the tools I use to manage this risk.

The ARTAIS AI Universe

To be included in this universe, the following must be true (a full list of the individual names and the pass/fail results of the screen is found below in the ARTAIS AI Universe Screen section):

1. A documented, primary role in the AI value chain. A company qualifies when there is dated public evidence that a meaningful part of its business supplies, houses, powers, or delivers AI computing: chips and accelerators, foundry and memory, semiconductor equipment and advanced packaging, servers, storage, networking and optical, data centers, cooling and electrical systems, power generation and grid equipment, the metals and materials those require, hyperscale and AI-cloud hosting, chip-design tools, AI-enabled software and data platforms, security software, and IT services that implement enterprise AI. The evidence has to be specific — a product line, contract, partnership, or segment inflection — not a press-release mention of “AI.”

2. Liquidity. To be eligible in a given quarter, a member must show a median daily dollar volume of at least $25 million over the prior 63 trading days, an unadjusted share price above $5, and at least 63 days of trading history. The $25 million floor is derived from a sizing rule: a 5% position in a $50 million portfolio, traded at no more than 10% of a day’s volume.

3. U.S. listing. All members trade on U.S. exchanges, including ADRs.

From this list, I have organized the stocks into categories that align with their purpose within the AI theme. For example, companies that provide power and cooling equipment to data centers, or semiconductor manufacturers.

ARTAIS AI Universe Categories

Current Rotation

The current rotation within the ARTAIS AI Universe shows that the leadership names within the AI theme are being led by Semiconductors, Semiconductor Equipment and Materials, and Server Storage & Hardware.

These three categories have the strongest positive momentum and relative strength compared to the S&P 500 index:

After a weak summer for the AI theme, the majority of the AI categories have been outperforming the S&P 500 since the start of September:

September Performance of categories within the ARTAIS AI Universe vs the S&P 500 Index (thick black line)

This outperformance is being driven by investors moving into high-beta areas of the market, like the technology sector, which has been showing rising positive momentum and relative strength vs the S&P 500:

The Risk Is Not AI

Read more

1. Shorter-Term Sector Rotation

2. Sector Bell Curve

3. Intermediate to Long-Term Sector Rotation

4. What the Charts are Telling Us About the Health of the Market

5. Pass/Fail Screen for the 11 sectors of the S&P 500 index

6. ARTAIS AI Universe Screen Results

Sector Rotation

The technology sector continues to show the strongest positive momentum and relative strength vs the S&P 500 index:

Note that industrials are starting to see improving momentum as well.

However, if we start to drill down into the charts, we may see a pause in the rise of the tech sector.

Short Term Rotation

Currently, tech (XLK) is nearing overhead resistance and struggling to break above it:

Additionally, the Bullish % Index (which measures how many stocks are in a Point and Figure buy signal) has reversed back into “O”s.

(Think of “X”s as the offense is on the field and “O”s as the defense is on the field.)

This is indicating that tech investors are taking a pause here - possibly due to rising yields in the bond market and the worry that the Fed is about to make a policy mistake.

If we take the Bullish % Indices of the 11 sectors of the S&P 500 index and place them on a bell curve, we can get a better visual of how overbought or oversold the various sectors are:

Read more

1. Changes to Research

2. Macro Update

3. Macro Screen Results

4. ARTAIS AI Universe Screen Results

Changes to Research

I’ve decided to start publishing my research on a daily basis. Each day will have a specific focus:

1. Monday: The Week Ahead - Potential market-moving catalysts (news, earnings, data, etc.)

2. Tuesday: Macro Watch - Macro themes that are driving the market.

3. Wednesday: Sector Watch - Sector rotation, leadership, and where the next opportunities may emerge.

4. Thursday: AI Model Update - An update on my AI-themed model.

5. Friday: The 30,000 Foot View - An opinion/observation piece on the themes driving the market/economy.

Each day, I will also include the names within my AI Universe (companies involved in the AI theme) that pass or fail my screen. These are not just technology companies, but companies across various sectors that are benefiting from the growth in AI.

Macro Update

Large-cap growth stocks continue to lead as investors shift back into tech and AI-themed stocks:

Despite weakening breadth and a new warning from high-yield bonds (see Monday’s research report), equity investors are still “risk-on.”

High-beta and growth stocks are showing improving momentum and relative strength vs value and low-volatility names:

From my perspective, there are two competing narratives among investors: history vs rising yields in the US Treasury market.

Inflation and spending worries have caused yields to skyrocket since early spring:

Read more