Here’s one reason the stock market is squandering big early leads: ‘We’ve shifted from buy the dip to sell the rally,’ says analyst

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Another day, another rally that turned very, very pear-shaped.

A flirtation with a respectable comeback a day after entering correction territory proved short-lived, with the Nasdaq Composite COMP, -0.81% notching another ugly reversal on Thursday, mimicking a similar retreat from intraday gains on Wednesday.

The move appeared to be a head-scratcher for some participants as it seemed likely that the technology-laden Nasdaq Composite might finally finish higher, with momentum buoying the Dow Jones Industrial Average DJIA, -0.02% , and the S&P 500 SPX, -0.46% benchmarks and bargain hunters swooping in.

Read: The Nasdaq Composite just logged its 66th correction since 1971. Here’s what history says happens next to the stock market.

However, the advance couldn’t hold and the turnabout in the market was pronounced. The finish left the Nasdaq Composite, which was up over 2.1% at its Thursday peak, with its largest reversal from an intraday high since April 7, 2020, Dow Jones Market Data showed.

The Nasdaq Composite closed down around 1.3% on the session, lurching decidedly lower in the final hour of trade.

Frank Cappelleri, executive director and technical analyst at Instinet, told MarketWatch that there is a simple reason why the market is collapsing.

Check out: Opinion: A bullish sign? Nasdaq investor sentiment is worse now than it was in March 2020

“We’ve shifted from buy the dip, to sell the rip,” he explained, using market slang for a rally.

“Today was a microcosm of what has been happening,” he said, and he cautioned that many areas of the market have still failed to achieve conditions that market technicians describe as oversold, which means that more selling may be in store.

“If we continue to get closes like this, it just tells use that the market isn’t ready to turn higher,” Cappelleri said.

See: At least 7 signs show how the stock market is breaking down

The Instinet analyst said that investors need to look out for a pattern of higher highs and higher lows, wherein we have been in a downtrend marked by lower lows and lower highs. In such an environment, Cappelleri said that it has made sense to sell rallies until the complexion of the market changes.

The equity market has been under siege at least partly because of the prospect of multiple interest-rate increases from the Federal Reserve, which meets Tuesday and Wednesday. Higher rates can have a chilling effect on investments in speculative segments of the market that rely heavily on borrowing, with investors discounting future cash flows. Talk of inflation also has put a damper on the market and is one of the key reasons compelling the Fed to change from a regime of easy-money to one of policy tightening.

Buyers have tried to rotate into sectors that are expected to perform better in the coming year, such as financials and energy, but the rotation has been uneven and marked by bouts of turbulence.

See: Stock-market warning signal: Here’s what surging bond yields say about S&P 500 returns in next 6 months

Stock-market warning signal: Here’s what surging bond yields say about S&P 500 returns in next 6 months

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A sharp rise in U.S. Treasury yields so far this year may have further to run, but the speed and scope of the move so far signals that stock market returns in the months ahead could suffer, according to a top Wall Street technical analyst.

“We have found that the current yield as a percentile of its recent range, along with the pace, or rate of change it has shown over the recent path has a big impact on the forward returns” for the S&P 500 SPX, -0.46% , wrote Jeff deGraaf, founder of Renaissance Macro Research, in a Wednesday note (see chart below).

Renaissance Macro Research

“The lower the level of rates and the faster the collapse in those rates, the better for stocks out [six months] forward. The higher the level and the faster the surge in rates, the worse the returns for the SPX going out” six months, deGraaf wrote.

With the 10-year yield having broken above resistance at 1.77%, the pace of the advance has pushed RenMac’s yield impact model into its highest historical decile, “and one that pressures forward equity returns historically,” he said, as shown in the bottom third of the chart.

Read: Oil could break the stock market’s back if crude ‘goes parabolic’ — how to play it

The yield on the benchmark 10-year Treasury note TMUBMUSD10Y, 1.760% fell 4 basis points Wednesday to 1.826% after ending Tuesday at its highest since Jan. 8, 2020, based on 3 p.m. Eastern levels. The 10-year yield rose nearly 34 basis points, or 0.34 percentage point, in the month to date through Tuesday, its largest jump in the first 11 trading days of a new year since 1982, according to Dow Jones Market Data.

Deep Dive: This is the window of time when value can outperform growth in the stock market

The selloff in Treasurys, pushing debt prices down and yields up, has been blamed on expectations the Federal Reserve will be much more aggressive than previously anticipated in raising interest rates and taking other steps to tighten monetary policy as it responds to persistently high inflation.

See: Fed to use January policy meeting to get ducks in a row for March liftoff

The sharp rise in yields has been blamed for unsettling equity markets, triggering selling pressure for technology and other growth stocks, in particular. Growth stock valuations are based on expectations for cash flow far into the future. When Treasury yields rise, the value of that future cash is discounted.

Equities continued their slide in a choppy session Wednesday, with the tech-heavy Nasdaq Composite COMP, -0.81% entering correction territory, defined as a 10% pullback from a recent high. The Nasdaq has dropped more than 8% in the new year, while the S&P 500 has declined 4.9% over the same period and the Dow Jones Industrial Average DJIA, -0.03% was off 3.6%.

Also read: Here’s what history says about the Nasdaq Composite’s near-term returns after closing below its 200-day moving average

It isn’t necessarily all doom and gloom, however. Analysts at eToro found that stocks tend to have positive returns 12 months after big yield jumps:

5 things to know before the stock market opens Thursday

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Stocks set to open higher after Nasdaq entered correction territory

Traders work on the floor at the New York Stock Exchange (NYSE) in New York. Andrew Kelly | Reuters

U.S. stock futures bounced Thursday, one day after the Nasdaq finished in correction territory, down more than 10% from its record high close in November. Tech stocks have been under heavy pressure lately as rising bond yields make it more expensive for companies to borrow to fund growth. Ahead of the new trading day, the Dow Jones Industrial Average was riding a four-session losing streak and the S&P 500 has dropped three out of the last four days. The Dow and S&P 500, at the end of Wednesday’s trading, were down nearly 5% and almost 6%, respectively, from their record closes this month. Weekly initial jobless claims increased to 286,000 to the highest level since October. The latest reading was much higher than estimates and up 55,000 from the previous week’s revised level.

American, United see rough first quarter ahead due to Covid

Delta Airlines and an American Airlines planes taxi away from their gate ahead of the Thanksgiving holiday at Logan International Airport in Boston, Massachusetts, U.S., November 22, 2021. Brian Snyder | Reuters

American Airlines shares rose 2% in the premarket after the carrier reported Thursday morning a fourth-quarter adjusted loss of $1.42 per share. Analysts had expected a bigger $1.48 per-share loss. Revenue of $9.43 billion was also better than estimates. For the first quarter, as Covid cases spike, American expects revenue to be off up to 22% from the same period of 2019 when it generated $10.6 billion in sales.

A United Airlines passenger airplane is landing on Newark Liberty International Airport in Newark, New Jersey, on January 19, 2022. Tayfun Coskun | Anadolu Agency | Getty Images

After the bell Wednesday, United Airlines delivered a narrower-than-expected adjusted loss of $1.60 per share for the fourth quarter. Revenue of $8.19 billion was also better than expected, thanks to strong holiday bookings. While a surge in Covid cases due to the omicron variant hurt bookings in the near term, the carrier sees a stronger spring and summer. United shares fell 1% in the premarket.

Netflix usually beats on Q4 earnings but maybe not this time

The Netflix logo is seen on their office in Hollywood, California. Lucy Nicholson | Reuters

Shares of Netflix, down 26% from their all-time high in November, rose nearly 1% in Thursday’s premarket. The video streaming giant is set report quarterly results after the bell. According to FactSet, Netflix is expected to earn 83 cents per share in the fourth quarter, when big movies like “Don’t Look Up” were released. The company is projected to continue to benefit from the international sensation series “Squid Game,” which was released Sept. 17. Revenue in Q4 is seen rising roughly 16% to $7.71 billion. Netflix typically beats fourth-quarter earnings expectations and sees its shares pop. However, some Wall Street analysts anticipate weaker results this time around.

Fauci says FDA could soon clear Pfizer’s vaccine for kids under 5

Dr. Anthony Fauci, director of the National Institute of Allergy and Infectious Diseases, gives an opening statement during a Senate Health, Education, Labor, and Pensions Committee hearing to examine the federal response to the coronavirus disease (COVID-19) and new emerging variants at Capitol Hill in Washington, D.C., U.S. January 11, 2022. Greg Nash | Reuters

White House chief medical advisor Dr. Anthony Fauci said the Food and Drug Administration could approve Pfizer and BioNTech’s Covid vaccine for children under 5 years old in the next month. Younger children will likely need three doses, because two shots did not induce an adequate immune response in 2- to 4-year-olds in Pfizer’s clinical trials, Fauci said Wednesday. Kids under 5 are particularly vulnerable right now because they are the only age group that is not currently eligible for vaccination.

Biden says he thinks Putin will order invasion of Ukraine

U.S. President Joe Biden holds a formal news conference in the East Room of the White House, in Washington, D.C., January 19, 2022. Kevin Lamarque | Reuters

Dow drops 540 points, Nasdaq falls 2.6% as 10-year yield rises to 2-year high

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The major averages fell sharply Tuesday as government bond yields hit Covid-era highs and after Goldman Sachs reported disappointing earnings.

The Dow Jones Industrial Average slipped 543.34 points, or 1.5%, to close at 35,368.47. The S&P 500 fell 1.8% to 4,577.11, and the Nasdaq Composite declined 2.6% to 14,506.90, hitting its lowest level in three months.

The technology-focused Nasdaq sits more than 10% from its most recent high and closed below its 200-day moving average for the first time since April 2020. The small-cap benchmark Russell 2000 slid nearly 3.1%.

U.S. markets were closed Monday due to the Martin Luther King Jr. holiday.

Goldman Sachs shares dropped nearly 7% on Tuesday after the bank missed analysts’ expectations for its fourth-quarter earnings. Goldman’s operating expenses surged 23% on increased pay for Wall Street employees.

Meanwhile, Treasury yields posted strong gains. The closely watched 2-year yield broke above 1% for the first time since February 2020, the month before the pandemic declaration that sent the U.S. economy into recession. The 2-year Treasury is seen as a gauge of where the Federal Reserve will set short-term borrowing rates.

Rates rose along the yield curve, with the benchmark 10-year note topping 1.87%, its highest since January 2020. The 10-year yield started 2022 around 1.5%.

“The bond market is continuing to price in a more aggressive policy tightening by Federal Reserve based on still-high inflation and the Fed’s more hawkish guidance,” said Kathy Bostjancic, the chief U.S. financial market economist at Oxford Economics.

“A fairly aggressive Fed tightening path will lead to somewhat lower valuations as economy-wide growth should slow as the Fed tries to soften the pace of demand,” Bostjancic added.

Elsewhere, Microsoft dipped 2.4% after announcing the software giant will buy video game company Activision Blizzard in an all-cash transaction valued at $68.7 billion. Shares of Activision Blizzard surged 25.9%.

Retailer Gap shares fell 6.7% after Morgan Stanley downgraded the retailer.

Technology stocks declined on Tuesday, continuing their downward trend in 2022 as interest rates rise. Higher rates typically hurt growth pockets of the market that rely on low rates to borrow for investing in innovation. Further, their future earnings look less attractive when rates are spiking.

Tesla dropped 1.8% on Tuesday. Meta Platforms and Amazon fell 4.1% and about 2%, respectively.

The shortened trading week will feature quarterly reports from 35 companies in the S&P 500, including Bank of America, UnitedHealth and Netflix.

Major banks Wells Fargo, JPMorgan Chase and Citigroup kicked off the earnings season on Friday, with the three companies posting better-than-expected profits. However, the market’s reaction to those results was mixed. Wells Fargo shares posted a gain on the back of those results, but JPMorgan Chase and Citigroup slid.

Overall, 33 S&P 500 companies have reported calendar fourth-quarter earnings thus far, according to FactSet. Of those companies, nearly 70% posted bottom-line results that beat analyst expectations.

“Recent economic data is further confirming the economy is indeed slowing due to omicron. Retail sales, consumer confidence, industrial production, and the Empire State manufacturing all told a similar story, our economy is slowing and worries are growing,” said Ryan Detrick of LPL Financial. “This isn’t the end of the world though, as we expect any near-term slowdown of output to simply be pushed back to further quarters once the omicron worries subside.”

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Shares of Boeing and Caterpillar are trading lower Wednesday afternoon, sending the Dow Jones Industrial Average into negative territory. The Dow DJIA, -0.03% was most recently trading 262 points (0.7%) lower, as shares of Boeing BA, -2.97% and Caterpillar CAT, -0.24% are contributing to the index’s intraday decline. Boeing’s shares have dropped $7.04, or 3.1%, while those of Caterpillar are off $6.86, or 3.0%, combining for an approximately 92-point drag on the Dow. American Express AXP, -0.26% , Goldman Sachs GS, -0.24% , and Apple Inc. AAPL, +0.10% are also contributing significantly to the decline. A $1 move in any one of the 30 components of the benchmark results in a 6.59-point swing.

Editor’s Note: This story was auto-generated by Automated Insights, an automation technology provider, using data from Dow Jones and FactSet. See our market data terms of use.