OVERVIEW
Morning Setup

• Friday: SPY gained 0.84%, QQQ 0.87%, MDY 0.81% and IWM 0.41%. Nine of 11 Swingly sector ETFs finished higher, giving the market its best breadth reading in several sessions.

• CPI: Headline inflation rose 0.4% in August and 3.4% year on year, both in line with expectations. Core CPI was firmer at 0.3% month on month versus 0.2% expected, with the annual rate easing to 2.4%.

• Premarket: At 6:47 a.m. ET, Dow futures were down 0.15%, S&P 500 futures 0.68% and Nasdaq 100 futures 1.56%. Nvidia was down more than 2%, Intel 5.5%, AMD 5.1% and Marvell around 7%.

• AI: Anthropic CEO Dario Amodei called for AI developers to slow the pace of capability advances over the weekend. Elon Musk and Sam Altman broadly agreed with the need for greater caution. The immediate market reaction has been concentrated in chips and AI infrastructure names.

• Oil: Brent is up roughly 2.5% at $107.28, with WTI around $102.39. A drone attack temporarily shut Saudi Arabia’s East-West pipeline, shipping through Hormuz remains heavily restricted, and talks aimed at improving traffic through the strait have been postponed.

• Rates: The 10 year Treasury yield reached 4.9915% on Friday before easing back toward 4.95%. The market is again watching the 5% area closely.

• Fed: The September meeting takes place Tuesday and Wednesday. Futures price close to a 90% probability of a 25 basis point hike, while 85% of economists in Reuters’ latest poll expect the Fed to raise rates to 3.75% to 4.00%.

• SPY: Closed at 764.20, around 0.7% above its 50 day average at 758.61. Support near 756.64 is more relevant today than the recent high at 779.37.

• QQQ: Closed at 714.88, about 0.6% above its 50 day at 710.41. With Nasdaq futures sharply lower this morning, that average is likely to be tested quickly if the weakness carries into cash trading.

• MDY and IWM: Both bounced Friday but remain well below their 50 day averages. MDY is still 2.2% below trend and IWM roughly 2.5% below.

MARKET ANALYSIS
Friday Was A Step In Right Direction

Friday gave the market a needed bounce after a difficult week. SPY gained 0.84%, QQQ 0.87%, MDY 0.81% and IWM 0.41%. Technology rose 1.32%, Communication Services 0.99% and Consumer Discretionary 0.89%. Nine of the 11 sector ETFs in Swingly’s basket finished higher.

That was genuine improvement in participation and we saw the SPY also traded on 1.23 times its 20 day average volume, so its advance carried more weight than some of the quieter rebounds we saw earlier in September.

The part that remains unresolved is underneath the large cap indexes. MDY and IWM both finished higher, but neither recovered its 50 day average. QQQE also remains 1.53% below its own 50 day, while QQQ is slightly above its average.

We would not use that difference alone to argue that a handful of mega caps are carrying Nasdaq. It does tell us the equal weight Nasdaq universe remains weaker than the cap weighted benchmark.

Friday therefore improved breadth without fully repairing the medium term structure across the market.

The AI Trade Is Being Repriced This Morning

The biggest equity story before the open is AI. Anthropic CEO Dario Amodei called over the weekend for the industry to slow the pace at which advanced AI systems are developed, citing concerns about the potential risks of increasingly capable models. Elon Musk and OpenAI CEO Sam Altman also expressed support for greater caution.

Investors are taking the comments seriously because so much capital spending is tied to the assumption that AI development continues at its current pace.

Nvidia is down more than 2% before the open, AMD around 5%, Intel 5.5% and Marvell roughly 7%. Amazon is also lower.

The reaction does not mean hyperscalers have cancelled data centre projects or that demand for GPUs has suddenly disappeared. There is no evidence of that this morning.

The market is pricing a new possibility: if AI companies deliberately slow the pace of model development, some of the urgency around buying ever more compute could eventually soften.

That is enough to pressure stocks where a very aggressive AI growth path is already reflected in the valuation.

There is an interesting move in the opposite direction as well. ServiceNow, Adobe and Workday are all higher before the open. Those companies have spent much of the year dealing with fears that more capable AI models could disrupt traditional software businesses. A slower AI development cycle would reduce some of that perceived threat.

Money is rotating within technology based on who benefits from faster AI development and who is threatened by it.

SPY Still Looks Reasonably Healthy

SPY closed Friday at 764.20, around 0.74% above its 50 day average. The average itself sits near 758.61, while nearby support is around 756.64 which leaves SPY in a better position than MDY or IWM.

Friday’s rebound also came with above average volume, which makes the move more useful than a thin bounce would have been.

The recent high at 779.37 remains overhead, but we would not focus on it today. The immediate issue is whether SPY can absorb this morning’s weakness without giving back Friday’s progress.

The area between roughly 756 and 759 should tell us more and a controlled pullback that holds there would leave the larger structure intact.

If SPY moves through the 50 day and cannot recover it, we would become more cautious given how much of the broader market is already trading below trend.

QQQ Is the Immediate Test

QQQ closed Friday at 714.88, around 0.63% above its 50 day average near 710.41.

That cushion is small with Nasdaq 100 futures down around 1.6% before the open, the 50 day is likely to come into play quickly if the futures move carries through.

The next support area in Swingly’s data is around 702.70 and those are the two levels that matter this morning.

The 734.58 resistance level can wait. QQQ first needs to show that the overnight AI selloff can be absorbed without reopening the breakdown we saw earlier this month.

One encouraging feature is that Friday’s QQQ bounce occurred before this new AI story emerged. Today gives us a cleaner test of how investors actually want to position around the theme.

If semiconductors sell off sharply but QQQ stabilises around the 50 day, that would suggest strength elsewhere in the index is absorbing some of the pressure.

If the AI names continue lower and QQQ moves through both the average and 702.70, we would take the weakness more seriously.

Mid Caps and Small Caps Are Still Lagging

MDY closed Friday at 678.68, up on the day but still around 2.2% below its 50 day average near 693.73. IWM closed at 288.89, roughly 2.5% below its own 50 day near 296.28.

Neither chart has repaired yet and there was some encouragement in Friday’s volume. MDY traded at 1.19 times average and IWM at 1.5 times average, so buyers did participate in the rebound.

We would rather see that than another low volume bounce and the next challenge is turning that participation into actual price repair as the MDY needs to recover roughly 689 to 694 before the chart starts looking substantially better.

IWM needs to move back toward 295 to 296 and their nearby support levels sit around 672.44 for MDY and 287.18 for IWM. With IWM closing less than two points above support, small caps have less room than mid caps if this morning’s risk-off tone spreads.

We are not adding broad lower cap exposure until those indexes give us more evidence.

Oil Is Back Above $107

Brent is trading around $107.28 this morning, up another 2.5%, while WTI is above $102.

The weekend brought several new problems with a drone attack temporarily shutting Saudi Arabia’s East-West pipeline, an important route for moving crude to the Red Sea without using the Strait of Hormuz. Regional talks over improving passage through Hormuz have also been postponed.

Shipping through Hormuz remains extremely depressed with only four commodity vessels exited the Gulf through the strait over the weekend, while ten entered. The recent 10 day average is around 14 vessels per day, compared with roughly 125 commercial vessels each day before the war.

The problem is now spreading beyond Hormuz. Houthi forces have strengthened their position around the Bab el-Mandeb route and stepped up attacks on Saudi energy infrastructure, making the Red Sea alternative less secure at the same time.

For equities, $107 oil is a much bigger problem than the low $90s we were dealing with in late August.

It puts pressure on consumers, transport costs and inflation expectations at the same time the Fed is preparing to tighten policy.

The 10 Year Is Sitting Just Below 5%

The 10 year Treasury yield reached 4.9915% on Friday, its highest level in nearly three years, before easing toward 4.95%.

That is effectively the 5% test the market has been discussing for several weeks.

There is nothing magical about 5% itself, but it is an important reference because the last major high from October 2023 sits around 5.02%.

The move has been driven by more than one thing. Inflation remains sticky, oil is rising again, the Fed is expected to hike this week, and investors continue to demand more compensation for owning long duration government debt.

Friday’s CPI did little to change that. Headline inflation was exactly in line with expectations at 0.4% month on month and 3.4% year on year. Core inflation was slightly firmer than expected at 0.3% month on month, although the annual rate eased to 2.4%.

Stocks rallied after the report because investors had feared something worse. The bond market was less relaxed about the underlying trend.

With Brent now above $107, the inflation picture has become more difficult since the period covered by the August CPI data.

A Fed Hike Is Now the Base Case

The Federal Reserve begins its two day meeting tomorrow and announces its decision on Wednesday at 2:00 p.m. ET.

Markets are pricing close to a 90% probability of a 25 basis point increase, which would take the target range to 3.75% to 4.00%.

Economists have also moved decisively in that direction. In Reuters’ latest poll, 86 of 101 economists, or 85%, expect the Fed to raise rates this week. More than half now expect at least one additional increase by the end of March.

The question has therefore shifted. A week ago the debate was whether the Fed would hike at all. The market is now more interested in what happens after Wednesday.

Fed futures have begun pricing as many as four increases further out on the curve. Warsh is unlikely to provide a precise roadmap, but the new economic projections and dot plot will give investors a better idea of how persistent policymakers think the inflation problem has become.

That matters more for equities than whether Wednesday’s 25 basis point move itself is fully priced.