Yesterday was a very tough day for the market, as the S&P 500 dropped 2%, the Dow Jones dropped 1.45% and the Nasdaq Composite dropped 2.83%. This follows a seemingly good week last week, when the market dropped initially, but concerted a nice comeback to eventually ended the week in the green. Yesterday's drop was mainly discussed as a result of raising "rates" or the 10 Yr Treasury Yields, up with a high velocity from 1.3% last week to 1.5% this week. We've written about September-October as a tough period for the market here and here. Specifically, we said that any bounce seen after big drops should not be seen as the end of the tough period, and could be used as an opportunity to sell. This time would be no different, as this morning stock futures are in the green after yesterday's sell-off. In this post, we will discuss what will happen in the coming few days, what are the news driving the market, what outcomes will be bad and what outcomes will be good for the market. 

Washington DC 

This is where the world will be watching for the next few days. The political events happening here will undoubtedly affect the economy and financial market not just here in the US but throughout the world.

This week, Congress needs to pass 2 bills. First, most importantly and most imminently is the resolution to deal with the debt ceiling to avoid US defaulting on its debt for the first time ever. If this is not taken care of, the US would run into a government shutdown, the US Treasury would run out of money to pay for its bills, leading to an economic recession and eventually a financial crisis not just for the US economy but undoubtedly the whole world. There are two ways to pass this bill: i) Senate needs to work together to achieve a supermajority of 60/100 votes, meaning Democrats need to convince 10 Republicans to vote with them. However, this is impossible since Democrats cannot get Republicans to do anything. Democrats tried on Monday night, but Republicans expectedly shut it down. ii) Democrats can pass this by themselves with a one-use-remaining special process called budget reconciliation. However, since they only have one use left, if they use this for raising the debt ceiling, they will not be able to pass President Biden's economic agenda, the 3.5 trillion infrastructure package, thus would put their own political future at risk since this is what they promised to voters. Furthermore, Democrats are not willing to go this route, they argue the responsibility to raise debt ceiling also falls on the hands of Republicans, as the current debt is a result of past Republicans' spending, not just Democrats'. 

Second bill is the Build Back Better plan which is President Biden’s agenda. This includes the 1.5T “roads and bridges” and the 3.5T “human and climate” infrastructure bill. The 1.5T package was passed with the help of Republicans, but they would not help with the 3.5T package so Democrats need to use the one-use-remaining reconciliation process. However, the Democrats themselves are not unified on this at the moment, which is absolutely required to pass; 2 conservative, Republican-leaning Democrats do not want to pass this bill. 

Bottom line, this week Democrats need to pass the debt ceiling resolution bill, and want to pass the infrastructure bill. However, without the help of Republicans, they only get one shot. Unarguably the former bill has more stake, is more important for the US economy and the world, so we think eventually Democrats will pass this using the reconciliation process. This leaves the 3.5T "human and climate" infrastructure package not passable, and potentially can lead to the 1.5T "roads and bridges" package not passable as well. Unable to pass this agenda will hurt the Democrats' political future, as they would not be able to fulfill their campaign promises. Furthermore, unable to pass the infrastructure bills would hurt infrastructure stocks, as they have priced in this massive government spending (stocks like Nucor that we own).

Technicals of the S&P 500

Let's also discuss the technicals of the S&P 500 a little bit, this looks problematic to us. In black is a rising wedge that the S&P 500 has been trading in since September of 2020. We broke underneath that wedge last week and the attempt to rebound has failed. Technically speaking, this suggests either i) a consolidation period right here or ii) a substantial downside move.

Blue line is the Moving Average over 50 days. We've hug that line to the upside since... September 2020, and last week's sell off broke us underneath that line. The rebound attempt failed at that line. We're now testing out the Moving Average 100 days, which was support for last week and acted as support yesterday. We need to watch the MA 100 days this week. Failing to hold this line will take us down to the MA 150 and potentially the MA 200 (in red). 

Be careful here.