Look Out, That Ratchet is Back

(Today’s musical accompaniment: Bobby Darin)

Friday afternoon, shortly after markets closed for the week, we learned that the US military bombed targets in Iran.  Iran responded with attacks on US targets in Kuwait and Bahrain.  Then, yesterday afternoon, before Asian markets opened, we received news that the US and Iran would be resuming talks on Tuesday.  If you think that timing was coincidental, I have a bridge to sell you. 

Once again, we see the “ratchet effect” in action.  We coined the term to describe a phenomenon that was relatively ever-present throughout April and May.  Hopeful news about negotiations to end the conflict and open the Strait of Hormuz would emerge and stocks would rally in response.  Even when those talks would seemingly come to naught, stocks didn’t give back their gains even if oil and bond yields reversed their declines.  We have, of course, reached a more sustainable stage of the peace process, with a ceasefire and a signed memorandum of understanding in place, even if there have been notable hiccups during its implementation.  This weekend’s activities were merely the latest in a series of breaches by both parties. 

We can see some of the aftereffects this morning.  Note that futures on the S&P 500 (SPX, ES) and Nasdaq 100 (NDX, NQ) are trading about 12 and 80 points above their respective index levels.  That is because even though cash equities had closed for the week, index futures were still open.  This morning’s premia show that although these futures traded lower in Friday’s aftermarket, the declines were relatively muted. 

Savvy traders have seen this movie before.  While this was occurring, I remarked to a summer intern that while this news sounded bad – and indeed was – I had every expectation that the hostilities would be over amid reports of renewed talks before Monday’s open.  That said, I was surprised that we heard of it so soon.  A cynic (like me) would have suggested that the announcement might have waited until after Asian stocks and US futures dipped. 

Today we once again see stocks rising alongside oil and bond yields after the emergence of peace chatter.  Considering that tankers are once again transiting the Strait, albeit with some concern about mines, tolls, and an on-again/off-again ceasefire, a $1 increase in oil seems appropriate.  The same goes for a 1-2 basis point rise in yields.  (Note that yields also barely budged after the Supreme Court blocked the President’s attempt to fire Fed Governor Lisa Cook, implying that bond markets expected this potential threat to central bank independence to be quashed.)

One other feature of the ratchet effect is occurring today.  Market leadership is coming once again from those that led during the ratchet effect’s primetime.  Tech is of course the standout, allowing large-cap indexes to rise even as many market internals such as advances/declines and sectoral leadership are mixed.  The “maker/taker” dichotomy that we discussed last week is taking a breather today, with most of the “Magnificent 7” and friends trading higher (Apple (AAPL) and Microsoft (MSFT) are notable exceptions) even as semiconductors briefly flirted with negative territory before resuming their advance.  Other sectors trading higher include energy, financials, and industrials, with most others trading lower. 

Thus, as we end the month of June, we revert to a pattern that prevailed earlier during this second quarter.  Nervousness about hostilities, a bounce when they abate, and tech stocks of all stripes, not just semiconductors, leading the way.  Of course, much of that may be related to bargain hunting and window dressing ahead of the quarter’s end, but nonetheless, today’s activity seems quite familiar.