Soft Landing Scenario
January 24, 2023
China reopening optimism and expectations for an imminent Fed pause have combined to form an emerging ‘soft-landing’ scenario often cited as the driver of year-to-date gains. Investors are justifiably skeptical about the likelihood of a soft-landing and the S&P 500 (SPX) rally has only returned the index to technical resistance in the 4000-4070 range. From a purely technical perspective, we remain skeptical until the index can sustain levels north of 4070. The soft-landing scenario will likely face challenges in the days ahead with the SPX pulling back from current levels. A break above ~4100 likely requires a Fed pivot rather than a pause. The earliest sign of an imminent Fed pivot should come from the bond market in the form of a positively sloped 5/10 yield curve. Historically, a positively-sloped 5/10 yield curve has preceded a Fed pivot by 1-3 months. The 5/10 curve inversion narrowed to 7bp early last week, but currently widening out in a mean reversion trade that should stall near 12bp. The circumstances to encourage a Fed pivot requires the market to enter a ‘bad news is bad’ phase where the SPX is likely to first retest the lows from last year.