Risk of a Market Breakdown Is Building as Oil Pressure Continues
The market has been able to absorb several negatives but the pressure is intensifying.
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Oil hit $100 a barrel Wednesday for the first time since July, and the market is indicated to be mildly lower in the early going. The question of the day is whether the market can continue to hold up against the mounting pressure from higher oil prices and higher interest rates.
The market handled the pressure fairly well Tuesday, but there are no signs of positive news and few reasons for buyers to jump in.
Oil at $100 and Iran Is a Mess
Brent crude crossed $100 after a fresh round of strikes. The U.S. destroyed four Iranian tankers in the Gulf of Oman and one near Kharg Island Tuesday after Iranian attempts to hit American warships. Oil is now 40% above its pre-war level and about $20 higher than it was a few weeks ago.
Another issue for oil is that the Houthis attacked Saudi energy facilities Tuesday, injuring dozens and temporarily disrupting operations. Saudi Arabia uses the Red Sea route, which is the alternative to the Strait of Hormuz. Both exits from the Gulf are under pressure at the same time, which is what is moving oil.
While oil is the primary issue, it matters most because of its impact on refined products, especially gasoline. Gasoline is back above $4 nationally and diesel is near $6, which is a record high. Those are the prices that show up in shipping and food costs and drive inflation.
The Wall Street Journal points out that $100 oil is roughly average for this century once you adjust for inflation. That is true, but the problem is the rate of change, and there does not appear to be any slowing in the rise.
Foreign Money Is Choosing Stocks Over Bonds
Deutsche Bank’s currency team reported that, for the first time since the financial crisis, foreign equity inflows into the U.S. have overtaken inflows into fixed income. Overseas investors are favoring American stocks over Treasuries as their appetite for our sovereign debt declines.
That explains a great deal about market movement over the past month, and it explains something I have been writing about since June. Foreign money coming into U.S. equities goes into the largest and most liquid names, which means the S&P 500 and the Mag 7. It does not go into small-caps or biotech or the average stock. So the indexes stay sticky to the upside while the rest of the market deteriorates underneath.
I’ve been writing about why the indexes are misleading for a long time and this is a good explanation of why that is happening right now. It is more about the flow of overseas capital than anything fundamental.
The same shift hits the Treasury market simultaneously. The money has not left the country. It has moved from the bond side to the stock side. That dynamic is pushing Treasury Secretary Bessent to announce another Treasury buyback. He is expected to announce additional buybacks of $5 billion to $6 billion per operation.
Without foreign bond buyers, someone has to absorb the supply, and the government is now bidding for its own paper ahead of a 10-year auction Wednesday and a 30-year auction Thursday.
The AI debt deluge I have been writing about is competing for the same foreign buyers who are now pulling back. Both the AI buildout and the Treasury are chasing a shrinking pool of foreign funds and the natural impact is a rise in interest rates.
Why the Market Has Held Up
The bullish view of the market currently is that the indexes are holding up quite well and have traded sideways for the past month despite a long list of negatives including the escalation in Iran, the oil move, and the rise in rates. A market that absorbs this much bad news without breaking suggests that there is strong underlying demand.
This is the main reason that I’m not more bearish. The foreign flow into equities is helping and the booming corporate profits are another. Neither of those are going away just because oil is moving higher.
The issue now is that pressure is still building with oil at $100 and yields at 20-month highs into PPI Thursday and CPI Friday. The support that is out there for the market can quickly disappear if the oil and interest rate pressure does not relent soon.
What Is on the Calendar
Apple (AAPL) holds its iPhone event Wednesday, the first major product launch under new CEO John Ternus. Thursday brings PPI, the ECB rate decision where a hike is fully priced, Oracle (ORCL) and Adobe (ADBE) earnings, and the 30-year auction. Friday is CPI.
Can any of these events deliver sufficient good news as we battle negative seasonality?
Game Plan
I am not adding exposure into a market that has two substantial inflation reports and two Treasury auctions coming with oil at $100. The stocks I want are on my shopping list and they aren’t offering entry points that I like right now.
What I am watching is whether the sideways consolidation of the indexes holds through Friday. If that holds, the market has absorbed the worst of the oil move and the setups will develop faster. If the indexes break on the news flow, the selling pressure will expand fast and my shopping list will hold more bargains.
At the time of publication, Rev Shark had no positions in any securities mentioned.
