Last Thursday's interest rate jolt made one thing clear, more easy money will ignite inflation fears and equities are not taking higher interest rates kindly, especially those with high price-to-earnings and high price-to-sales ratios with long duration. While interest rates on the 10-Year Treasury Note have been gradually trending higher since last October, the 16 bps jump on Thursday, after an auction for 7-Year Notes showed poor demand, caused bond traders to scurry for the exit. Suddenly the frog in boiling water realized it was in trouble. More details follow the Market Review along with a mark-to-market update for last weeks' Energy Select Sector SPDR Fund (XLF)  
spread idea.

S&P 500 Index (SPX) 3811.05 dropped 95.56 points or -2.46% last week after bouncing off support at the 50-day Moving Average on Wednesday only to get whacked Thursday by the interest rate news. Bulls will point out it managed to close Friday slightly above the 50-day Moving Average now at 3808.40. Should it continue lower this week it should find support in the zone between 3750 and 3700. So far, this pullback looks a lot like the one that ended February 1, when compared to standard RSI and MACD indicators. On Jan 29, it traded below the 50-day Moving Average and then recovered the next day. Friday it again traded below the 50-day before closing just above it.

iShares Russell 2000 ETF (IWM) 218.31 lost another 6.88 points or -3.06% last week underperforming SPX by a good margin. However, unlike the SPX it's still above the 50-day Moving Average now 210.95. Since market breadth continues deteriorating it lost the "decider" title last week to SPX.

CBOE Volatility Index® (VIX) 27.95 jumped up 5.90 points or +26.76 last week. Our similar IVolatility Implied Volatility Index Mean, IVXM using four at-the-money options for each expiration period along with our proprietary technique that includes the delta and vega of each option, added 5.22 points or +31.11% ending the week at 22.00%. From the volatility chart below, expect spikes up near 30% on pullbacks. However, spikes up above the November high around 32% would begin ringing warning bells.

VIX Futures Premium

This indicator slipped out of the green bull zone between 10%-20% ending at -2.22% in the bearish red zone below zero, compared to 18.33% for the week ending February 19, suggesting caution.

Since most of the volume and open interest are in the two closest futures contracts measuring the volume-weighted premium relative to the standard 30-day VIX provides a good real-time sentiment indicator based upon actual commitments of large Asset Managers and Leveraged Funds.

VIX-VXST Spread Another Caution Signal

VIX-VXST spread -1.47 means the implied volatility of 9-day options were higher than the implied volatility 30-day options. While negative spreads don't typically last long, they are another caution signal when negative.

Market Breadth as measured by our preferred gauge, the NYSE ratio adjusted Summation Index that considers the number of issues traded, and reported by McClellan Financial Publications, turned back down Wednesday, February 17, after failing at the 50-day Moving Average then declined every day closing the week down 164.07 points or -18.65%. As the indexes made new highs, declining market breadth apparently took its toll resolving the divergence – not encouraging for the bulls.

Energy Select Sector SPDR Fund (XLE) 48.15 up 1.97 points or+4.27% last week including a 1.17 point or -2.37% decline on Friday. An original suggestion in Digest Issue 8 "Crude Oil Uptrend [Charts]."

Since XLE gained 1.60 points on Monday, February 22, the strike prices for the call spared risk reversal were adjusted upward: Long one April 16 50 strike call, short one April 16 55 call and short one April 16 40 put for a debit of .71vs. a marked-to-market value on Friday of .58 for a loss of .13 or -18%.

Despite the broad market sell-off last Thursday, regular seasonal demand along with expectations for an improving economy still favors higher crude oil prices. However, the sudden reversal of the U.S. Dollar Index (DXY) & (DX) on Friday gaining .75 or +.83% to close at 90.88, creates a headwind should it continue above 91.50 activating either a Head & Shoulder Bottom or Double Bottom pattern. See the set-up chart in Digest Issue 6 "Don't Worry, Be Happy [Charts]." As a reminder, stay focused on DXY.

Strategy

In bull markets, the best strategy is to stay long equities and/or ETFs and then tactically hedge pullbacks as they begin developing since ordinary pullbacks can become corrections when something unexpected happens. Then corrections can become downturns when something else unexpected happens, and downturns can become bear markets when many unexpected things change medium and long-term fundamentals.

Reasons for caution include the sudden sensitivity for increasing interest rates, increasing option implied volatility, especially short-term options, negative VIX futures premium, and declining market breadth. In addition, Friday's Nonfarm Payroll report could trigger another bond market sell-off should payroll additions greatly exceed the expectation of ~ 145K.

On the sunny side of the street, the iShares Transportation Average ETF (IYT) hardly skipped a beat last week gaining .94 points or +.40%, likely reflecting expectations for an improving economy.  

At the start of last week, new downside put spreads seemed unnecessary. This week they seem prudent, using either SPDR S&P 500 ETF (SPY) or Invesco QQQ Trust (QQQ) for tech-heavy portfolios.

Summary

Last Thursday's sudden and unexpected interest rate advance set off a bond and equity market rout turning many indicators negative from positive early in the week. Since a better than expected Nonfarm payroll report on Friday could potentially trigger more selling on expectation for even higher interest rates, it's time to open some protective put spreads.