There is a big divergence between what is happening in the economy, and how the stock markets are reacting amid growing inflation.
I am cautious against making overly bullish bets that a strong economy will lead stocks higher. The broader market, meanwhile, could also have a difficult road ahead if the ongoing rotation from growth to value continues.
Undoubtedly, most of the investors continue to bet the economy has plenty of room to grow. This seems to be the first step towards sudden convulsion in global equity markets.
The dents of COVID-19 could be felt for a long time in the near future. The third wave is still there to delay economic recovery. But the stock markets have hardly reflected any correlation between the root cause of growing inflation and the near-term growth.
The Federal Reserve has maintained its stance that the factors driving the spike in inflation are transitory, but some market participants including Allianz chief economic advisor Mohamed El-Erian warned again on Tuesday that the Fed is behind the curve and could ultimately be forced to rein its accommodative monetary policy measures more aggressively and sooner than many expect.
I believe the S&P 500 Futures signaled the advent of a steep fall yesterday (June 1, 2021). Undoubtedly, this bearish pressure could see a sudden increase during the first half of this month.
In the daily chart, the formation of an exhaustive candle on June 1 be confirmed on June 2, if the S&P 500 Futures make a sustainable move below 4175.
If the S&P 500 Futures did a weekly closing below 4141, a steep fall could continue till June 15, 2021. A breakdown below 3980 before June 15, 2021, could be an advent of the next market crash.
For sure some buying could follow at this fall under the impression of a speedy recovery like March-April 2020.
COVID-19 has given birth to a new breed of investors who find the stock markets a tool to make easy money while they are at home amid lockdowns. This new breed of investors will come forward to buy at every fall in the stock markets that have deviated from the correlation between growth and stock markets.
During periods of economic recovery, supply disruption could continue to be a major hurdle that may increase inflation further.
And, the mismatch between supply and demand could disrupt growth for a long time. I do not know how the stock markets would take this change in the economic equation. But any negative news flow could result in a steep fall amid prevailing economic weakness.
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