SPDR S&P 500 (SPY) ETF: Beware of these 4 important risks

on Oct 2, 2023
  • The SPDR S&P 500 ETF has pulled back in the past few weeks.
  • US equities are dealing with elevated risks as growth concerns remain.
  • Some of the risks are inflation, Federal Reserve, and technicals.

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The SPDR S&P 500 ETF Trust (SPY) stock price has crawled back after crashing to a low of $422.38 on Friday. It rose by 0.50% on Monday as investors cheered the temporary spending bill passed in Washington. Other similar funds like the Invesco QQQ ETF (QQQ) and SPDR Dow Jones Industrial Average (DIA) also rose. Still, there are several risks that could derail the recovery.

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Inflation risks remain

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The biggest risk facing the SPDR S&P 500 ETF is that inflation is getting sticky. The official consumer price index (CPI) data showed that the headline consumer price index (CPI) rose to 3.7% in August while core inflation stood at 4.5%. 

This situation likely got worse in September as the price of crude oil rose, pushing gasoline prices to $3.85. Brent crude oil sits at $92 and has already formed a golden cross, pointing to more upside. JP Morgan analysts believe oil could jump to $150.

Brent crude oil price

Brent chart by TradingView

Most importantly, service inflation has not slowed recently. Data compiled by FRED shows that the services inflation stood at 398.94 in August, up from 343 in 2020.

There are other parts of inflation that are being driven primarily by the Federal Reserve. For example, mortgage rates are nearing 8% and are at their highest level since 2000. At the same time, the average new house payment rose to $2,900 while existing home sales have dropped to the lowest point since 2010.

At the same time, the Fed has pointed to more rate hikes, which will bring the official cash rate to between 5.25% and 5.50%. Therefore, raising rates in a period of stagflation could impact American stocks.

Yield curve inversion

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The other risk for the SPDR S&P 500 ETF is the inverted yield curve. Data shows that the yield curve has inverted to the lowest level in decades. In most periods, an inverted yield curve is the best predictor of a recession.

Most importantly, other important yield curves have inverted as well. In Japan, the curve has inverted sharply, raising concerns that the Bank of Japan (BoJ) will intervene by the end of the year. It has also inverted in other places like Europe and the UK. Therefore, as I wrote recently, the probability of a recession remains at an elevated level. 

The challenge for America’s bonds is that the government borrowing is getting out of control at a time when the biggest holders like Saudi Arabia, Japan, and China are dumping their holdings.

The banking sector is still at risk

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Meanwhile, while the banking sector has stabilised recently, it remains at risk as bond yields rise. For one, most of these banks hold most of the US domestic debt. As a result, they remain at risk as the US borrowing continues rising. 

At the same time, banks have seen their unrealised losses jump to over $550 billion, ~25% of all their equity capital. Therefore, if the Fed continues hiking rates, I believe that something bigger could break.

Also banks have seen over $870 billion of deposits move out as customers look for yield elsewhere. Many of them have moved to short-term investments like CDs and money market funds that are yielding over 5%. 

SPDR S&P 500 ETF double-topped

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The other big risk for the SPDR S&P 500 ETF is that it has formed a double-top pattern. Whose neckline is at $431. In price action analysis, this pattern is one of the most bearish in the market. Also, it has broken and retested the neckline at $431. 

It has also formed a mini-death cross as the 100-day and 50-day moving averages have made a bearish crossover. Therefore, more downside for the ETF cannot be ruled out.

The other risks for the SPY ETF are its concentration in technology companies that are not growing at a faster pace and the valuation of its key companies like Tesla and Nvidia.


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