After tech sell-off, the stock market's Santa Claus rally could face a more difficult liftoff

Published Thu, Dec 16 20215:24 PM ESTUpdated Thu, Dec 16 20217:02 PM EST

Patti Domm @in/patti-domm-9224884/@pattidomm

The post-Federal Reserve market surge fizzled Thursday as technology shares turned lower, signaling a Santa Claus rally may have a harder time taking off. Technology stocks were the star performers in Wednesday's strong rally , but they turned into a drag on the market Thursday, along with consumer discretionary stocks. Tech rose 2.8% Wednesday, after the Fed laid out its plans for a more rapid end to its bond-buying program and forecast three interest rate hikes for next year. Gains for the sector reversed sharply in the following session. Tech, which could be hurt by higher interest rates, slid by 2.8% Thursday. Consumer discretionary stocks lost 2.2%. "Could Santa bring the S & P to one more new high at some point into Christmas? Yes, you can't rule that out. But to make money and position for it is not as easy as in the past," said Scott Redler, chief strategic officer at T3Live.com. Redler follows the short-term technicals of the market, and he said the decline in tech and growth shares Thursday and the move higher in financials was the type of reaction that might normally come after a hawkish Fed announcement. "The market is using the playbook it should have had [Wednesday]," he said. "To me, it looks very hard to trust this market into the end of the year," Redler said. It may be difficult to get a sense of direction Friday, since it is an options expiration day and markets could be volatile. Thursday's market flip High-growth stocks were pummeled on Thursday. Ark Innovation ETF, the poster child of growth-stock pain, lost 3.7%. The S & P 500 was down nearly 0.9%, ending at 4,668.67, but the decline in the Nasdaq was steeper, down 2.5%. "Looking at the S & P 500, it looks like there's still a bullish pattern there. It's fairly constructive… We could make new highs again fairly soon. There's a good chance of that happening," said Frank Cappelleri, executive director at Instinet. Cappelleri noted the rally Wednesday was the biggest for the S & P 500 since March. "A follow-through would have been constructive, but taking a breather is not out of the question... You're going to see a better indication of what the market's going to do next week," he said. Katie Stockton, founder of Fairlead Strategies, said the reversal Thursday was not surprising and showed up as a sell signal on her intraday chart. "It suggested we would get a retracement. It's not like a breakdown. It means we're not breaking out yet," she said. The next level challenging the S & P 500 is 4,719, an early November high, she noted. "A lack of a breakout is not really a negative. It's really a neutral. We are neutral short term... We plan on staying that way as long as 4,719 is intact," she said. She added that she does see stocks heading higher, and there could be a Santa rally, but the market has to move past resistance. "My feeling is we'll just remain firm. It could mean there's limited upside, and it could mean there's limited downside as well. We would feel more strongly about the Santa rally, if we saw a breakout to new highs and two consecutive closes above 2,719, just as a catalyst," she said. Signs of an aging bull market Ari Wald, head of technical analysis at Oppenheimer, said he is not concerned by the lack of follow-through of the Fed-triggered rally. He said the bull market is aging but not at a top. "You should continue to see gains at the market level, but we should get a slower pace. It's going to be a bifurcated tape," he said. Wald said he sees some signs of a rally, including a contrarian signal from the put/call ratio, which is at the most pessimistic level of the year and could provide fuel for a rally. "The U.S. composite 10-day average is 0.75, the highest reading of puts to calls since November of 2020," he said. That means of all equity options on U.S. exchanges, over a 10-day period, there was an average three-quarters puts versus calls, meaning more bets have been placed on prices going lower. In the November sell-off, the S & P 500 fell about 5%, but many stocks fell further. Wald said he is now watching to see how many regain their 200-day moving averages. That is a momentum measure based on the average of the last 200 closing prices on individual stocks or indexes. He said when the S & P 500 hits a new high, if the number of stocks on the New York Stock Exchange above their 200-day moving averages is less than 60%, it's a sign of trouble for the market. That level was 46% on Wednesday. Wald said there's a good chance for a Santa Claus rally, which is the tendency for the market to move higher in the last five days of the year and the first two trading days of the new year. He said the market has been higher 78% of the time, with an average gain of 17%. "There's a correlation to that historically. When the market's been negative during that seven-day period, it's been followed by poor returns in the new year," he said. Stock moves beneath the surface Strategists have been focusing on the moves under the surface, with many high-growth names deep into bear market territory. Stockton said high-growth names are oversold and she expects to see them bounce temporarily. She said software names — like CrowdStrike , solar stocks, as well as companies in the Invesco Solar ETF and Ark Innovation ETF — could be among those that move higher. While the S & P 500 is up more than 24% for the year, the Ark's flagship ETF is down 26%. She said that would give investors a better level to sell those battered names. Stockton said she downgraded big cap technology, represented by the Technology Select Sector SPDR ETF to equal weight. She also recently upgraded Utilities Select SPDR Fund ETF, Consumer Staples Select SPDR ETF, and the Health Care Select SPDR Fund ETF, all up modestly Thursday. Elsewhere in the market, Cappelleri was watching the odd correlation between bonds and stocks Thursday. Bond yields, which move opposite price, were falling despite the Fed's hawkish message that it could begin raising interest rates as soon as March. He pointed to the gain in regional banks in the SPDR S & P Regional Bank ETF, up about 0.2% Thursday. While banks often move in tandem with interest rates, bond yields were falling and banks were higher. "You're seeing regional banks doing better even with rates going lower. That raises the question of whether investors are going into areas that would do better when rates go higher," he said. Cappelleri noted that tech was weaker. It's a sector that's sensitive to rising rates and has done better in lower rate environments. "The question is, are investors trying to get in front of the shift in rates by the rotation that's taking place today in equities," he said. He is also watching the gains in utilities and the Consumer Staples Select Sector ETF and sees the this fund becoming extended. "The XLP is at a new all-time high again today, spiking up six straight days, which is really rare for that," he said. "To me, that looks extended. It's a bond proxy. If that's the case, it can't continue like this. If that's the case, you'd think bonds would sell off and rates would go higher."

Traders work on the floor of the New York Stock Exchange (NYSE) in New York City, U.S., December 2, 2021.

Brendan McDermid | Reuters

The post-Federal Reserve market surge fizzled Thursday as technology shares turned lower, signaling a Santa Claus rally may have a harder time taking off.