Investors are facing a difficult backdrop as the bond selloff limits the appeal of equities, a stronger dollar weighs on liquidity and renewed concerns over a potential escalation of the Iran conflict keep US crude near $90 a barrel.
A combination of higher oil prices and rising bond yields is putting pressure on the stock market, threatening to derail the broader rally investors had hoped would push major indexes to fresh records.
“It’s risk-off until the dollar peaks,” Bank of America strategists led by Michael Hartnett said, pointing to rising credit-event risks and tighter financial conditions as factors weighing on market breadth.
Despite the deteriorating environment, investors have shown little appetite for a major retreat. Goldman Sachs prime brokerage data indicates that hedge funds spent much of September adding hedges and short positions rather than significantly reducing their long exposure.
The positioning suggests that investors remain cautious but are not panicking. Instead, they are weighing risks including inflation, interest rates, oil prices and the upcoming US midterm elections while maintaining concentrated exposure to areas they believe can withstand the broader economic pressure.
Artificial intelligence remains one of the favored themes. Hartnett described the current positioning as effectively being long the Nasdaq 100 while shorting the S&P 500 Equal Weight Index, reflecting a preference for AI-related companies over the broader market.
Market Breadth Weakens
The weakness beneath the major indexes has become increasingly pronounced. Nearly 60% of S&P 500 companies are trading below their 200-day moving averages, while roughly 75% are below their 50-day averages.
Historically, similar levels of market weakness have sometimes been followed by rebounds that helped drive indexes higher. But analysts say the market currently lacks a clear catalyst capable of triggering such a recovery.
There are still reasons for optimism. The US economy continues to expand, recent manufacturing and services data have remained strong, the labor market has held up and corporate earnings growth has yet to show significant deterioration.
That makes the current earnings season particularly important. Investors will be watching closely to determine whether companies can continue delivering strong results despite higher energy costs and rising borrowing rates.
For now, the combination of expensive oil, higher yields, a stronger dollar and weakening market breadth is making it increasingly difficult for the stock rally to broaden beyond its strongest themes.
