FRANK CAPPELLERI: Hi, it's Frank Cappelleri, Chief Market Technician at Instinet, A Nomura Company. It's a pleasure to be back here on Real Vision. And today, I want to walk through three points.
One of being the S&P 500. We talked about what needs to happen to have a sloppy market, we're talking about that a little bit. Number two, look at the 10-Year Yield and see whether we are actually near inflection point. And number three, look at a relative long trade, estimate semiconductor ETF versus the S&P 500. So, let's get into the charts.
Okay, we're starting with the S&P 500. Now, we've used this chart before in previous presentations here in 2019. And off top is just the S&P 500 in blue and down below is what we call the Instinet bear oscillator. And you recall, this was something we used to chart the 10 steps to a sloppy market and anytime you have a bearish pattern form, but no downside target hit, we have it T-mode here between zero and three. So, that was really the case all the way through this extension from December lows until April, hard to see here. But each one of these was a failed bearish pattern was turned into a buy the dip opportunity which of course investors jumped on every single time until May.
And we know about May right now. But as it was developing, we didn't really know that it was going to obviously drop as much as it did until we got that first bearish pattern target hit back on May 9th that triggered this. And we see what happened since. Market starts to fall apart a little bit more and oscillators start to tick higher meaning that we're in cautious mode. And we see a little bit more about how this went through on a more short-term basis. We can see what happened in April, really there was no indication that this was going to turn lower.
Each one of these, again, look like just a failed bearish pattern until May happens and quite quickly, identify the short-term top and the downside target was hit at 2840. At that point again, we're not here to judge, we just know that a bearish pattern finally hit, the indicator went through that three level and we became a little more bearish on the market.
So, at that point, this is never really overweight, we always have to judge price action as it develops. So, as we went through that in the ensuing days, a bullish pattern then developed here. We can call it a cup and handle formation and upside target of 2910. So, if that were to get hit, it would have told us that maybe there is a little bit more two-sided way to market and buyers are still willing to deploy capital. Of course, we know that did not get hit, failed, and we were left with a few more weeks of pretty decidedly lower price action.
And so, when that failed, a bullish pattern developed. We had the first lower high as well over the entire 2019. So, if you look back to those 10 steps, that was step number five, create a lower high, which are then of course developed into this very identifiable, bearish head and shoulders pattern, and many people have been talking about this over the last few weeks. And we know that it was able to get triggered with the push through 2800. And so, it is a very simple measure move target gets us to 2650.
Now, we've been through many bear charts report in 2019. And so, we have to be mindful that the same thing could occur now. And now, we're just coming off of one of the biggest moves of the year from Tuesday, June 4th. So, this could very well be one of those again. So, as things break down from bearish pattern, we always have to look at other areas as potential stopping points.
And so, one of those, of course was near 2720, which was the 38.2 retracement point of the entire rally, and also the marsh low. People have been talking about this as well. But it makes sense to see where and how that works out. So, for this to do anything more than present a mean reverting move opportunity, we really need to get through 2800. And we know all about this level, it's a round number, everyone talks about it but for good reason, because it's failed numerous times on the way up as resistance, it's acted as support numerous times as well. So, this could possibly the fourth test of that level, could it be another point to sell? We'll see.
But if this market is going to turn for more longer-term prospects, then we're going to see some bullish scenario play out. This could play out this way, probably won't. But we get the idea is that you have a turn, we have to see the next Point B a more shallow pullback to then take advantage of. So, if this were to occur, probably need some more cooperation from other asset classes, in particular 10-Year Yield. And we know all about the story here. It's been shopping basically, for several months. Any little rally in the yield was short-lived, just produced lower highs all on the way and a bottom has dropped down numerous times.
So, looking at this chart alone, it really gives us no indication that things are going to actually reverse higher from yield perspective. And the reason being, of course, is that it has created this big bifurcation between the Fed Funds Rate and what the 10-Year Yield was doing. So, there's been many, many calls for cutting rates, especially over the last week or two and most recently in last few days and so one of two things has to occur, of course, for this bifurcation to get a little bit more- for this bifurcation to short or get a little bit smaller in scale. 10-Year Yield has to rise, Fed Funds Rate has to drop, or maybe a combination of the two.
And so, looking at this last seven months, the rate of change for the 10-Year Yield dropping is now at negative 33% at the end of May. This drop this severe has only happened five other times since the financial crisis. And we see each time here lined up with the vertical lines. And so, it's easy to see that each time that the yield drop that much over some period, we saw ensuing bounces in the yield, right, every single time, sometimes a little bit more extended than others.
Now, the key thing to remember here is that only once that this lead to extended- for the yield extending higher for a good amount of time over two years, now, of course, was in 2016 all the way to 2018. All the other times just produced lower highs. So, I think we have to be very mindful of that scenario considering we're dealing with now with the copper rates and the economy, so forth and so on. Another reason to maybe expect a turn in rates for mean reverting move here is that of course, we're trying to do so right here 2% level, very sexy level, very identifiable round number. It also lines up with the low from 2017, which was very key because it produced that higher low there which was able to be leveraged and you saw a breakout from that point.
And there's also the 61.8 retracement level of the yield rallying from 2016 to that 2018. So, if that were to occur if we would see capital leaving safe havens, then you have to expect risk assets to benefit. And a lot of times when we have that situation, the most depressed areas tend to benefit first. And so, looking at the May performance of some of the industry ETFs, there were a handful and more than a handful that decline within 10%. Some would say that any one of these is a candidate to have a pretty substantial mean reverting move. But I want to focus on the semis for a few reasons.
Number one, we know that semis and the S&P 500 have moved pretty much in a lockstep over the last few months, so the biggest tension, just capturing here will happen from the middle of March until May and then the reversal lower. But if you look at it a little more closely, we know that the SMH, semiconductor ETFs actually topped out about a week and a half before the S&P 500 did. This is April 24th right here. And then on the reverse, it seemed to find a little bit of demand back in late May a few days before the S&P 500 did.
And that's important because we know that over the last number of years, the semis have led. And we had to pay attention to that. So, looking much longer-term, back in 2016, as the S&P was making a new low before reversing higher, the semis held. In 2018, the semis made a high back in March and then of course made lower highs all the way through the summertime to the fall when the S&P was still breaking out and ticking higher and actually going on reverse. So, this obviously took much longer to develop, but still noteworthy, nonetheless.
And then again, most recently, it looks very short-term here compared to the other two, the S&P continued to tick higher just a bit in the last week and a half of April while the SMH was already showing weakness. And then most recently, finding support before the S&P did. Another reason to consider the semis as a possible relative play is that it endured much more damage on the way down. It already achieved a downside target back in early May. And this move right here is already down 16% and obviously, a tick lower than that.
Now the risk, of course, is that there's a bigger pattern in play, much like the S&P 500, much like many other global indices and ETFs out there, this bearish pattern is still there, still in front of us. Even if we push right through 105, let's say 106,107, this is still going to be had to be dealt with. So, there's a risk we have to identify and notice there. But I think it's really important to see how severe the downturn was last month to get an idea of why this pendulum could swing to the other side. So, looking at now the stock index because it has a lot more price history, we know that that dropped 17% back in May, just about and that was the deepest monthly decline going back to the financial crisis in '08.
Now, think about how much the market had to endure during that time. We know that of course the SMH or the stocks was in an uptrend basically the entire time. But think about 2018, just a few months ago, it was worse than that. It was worse than anything we just had in 2016, 2015 and even 2011. Just historic by any means. Another way to look at this again, SoCs versus the S&P 500 on top and then their performance difference on the bottom. So, last month, the SoCs semiconductor index underperformed the S&P by nearly 11%, you have to go all the way back to 2004 to find a monthly performance discrepancy worse than that. Again, pretty historic.
And then we can look at the market as well and is looking what happened toward the end of May as things are really selling off, we got what's called a TD Combo Countdown 13. It's a mouthful, but it just shows that it's a selling exhaustion and like every other indicator, this is never going to be completely right 100% of the time, where the lines of other pieces of evidence. That's why I think we have to pay attention. That's another piece of the puzzle that I think we should factor in.
And lastly, looking at this from a daily perspective, again, going back to the SMH versus the S&P 500 here, we see that there were a number of times when we had huge spikes and very strong selloffs at the same time. So, a number of different colored arrows here. Obviously, the red shows the big selloffs that started after the estimates spiked versus the S&P 500. And then down below, we have green and blue. So, the blue signify times when the SMH had sold off versus the S&P 500 from a very extreme overbought zone, right? All these times, and each time, it came down oversold level and there is a very big rally after that.
The green also saw a rally from oversold, but the previous dips from that point were not as deep so then produced as strong of a rally versus the S&P 500 from that point. So, of course right now, we're all coming back from a very large outperformance period. And we think that again, look and thinking about this as a rubber band scenario that got so stretched out and just not back to a more normal, normal way. And so, just like taking a more magnified view of this picture, and it gives us an idea of how the trade could be set up as the same chart just looking at the last few weeks or so.
So, again, if this pendulum is going to swing all the way back, we think at least you can get to this 61.8 retracement point of this. And I think a very easy point to target downside risk is the most recent low. We don't want to be involved with this type of trade. If we're below that point, it will tell us that obviously the trade isn't working. More importantly, it would tell us that there's something really wrong with the group. And it's something we need to avoid.
Overall though, there's enough evidence to suggest that the relative performance versus the S&P 500 is due to reverse and be comfortable taking the position here. Thank you.