/ April 07 / Weekly Preview
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Monday:
N/A
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Tuesday:N/A
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Wednesday:
FOMC Minutes
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Thursday:
Core Inflation Rate YoY (3% exp.)
Inflation Rate YoY (2.6% exp.)
Initial Jobless Claims (225K exp.)
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Friday:
Michigan Consumer Sentiment Prel (54.5 exp.)PPI MoM (0.2% exp.)
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Monday:
Dave & Buster's
Levi Strauss
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Tuesday:WD-40
Cal-Maine Foods
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Wednesday:
Delta Air Lines
Constellation Brands
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Thursday:
CarMax
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Friday:
JPMorgan Chase
BlackRock
Morgan Stanley
BNY Mellon
Wells Fargo
The “Liberation Day” Crash
Last week, we expected that markets would retest recent lows. What followed on Thursday and Friday was much, much worse. President Trump’s “Liberation Day” on Wednesday afternoon liberated the market from a year’s worth of capital gains. Stocks are now trading at March 2024 levels and futures are pointing lower at the time of writing.
Before we delve into the tariff details, let’s cover the technicals first. On Thursday, SPY broke below its technical trading channel trendline following the initial tariff announcement. This exceeded our equities asset class stop-loss level in the Enterprise strategy, which proceeded to cut exposure on the next trading day.
That day was Friday, when China responded with a reciprocal 34% tariff on the U.S. plus export controls on rare earth metals needed for technological production. The market was not expecting this and the selloff accelerated. We got from the S1 level near $566 to the next support near $506 in 2 trading days. The speed is surprising, not the price levels themselves, as noted in Thursday’s Portfolio Rebalancing Article:
“We see […] potential downside to $505 on our adjusted chart…”
More importantly, the technical violation (as viewed strictly on a non-adjusted chart) completely changes the tone of the current market. Normally, a -10% drawdown is absolutely normal in any given year and could be a nice “buy-the-dip” setup. However, a more meaningful drop, especially one below the lower technical trendline, changes the focus from “buying dips” to “selling rallies”.
Enterprise, our main asset allocation strategy had already sold all equity risk exposure on Friday, as noted in the Activity Log:
Apr 3, 2025 - SELL order issued for SPY at $536.7 on a STOP-LOSS signal due to a technical trend violation. The position will be closed.
Commodities are also due to be sold today, on the same consideration, leaving only bonds and gold in play. We are constantly referencing Enterprise in our Portfolio Rebalancing process, as it is the trading system which is most resilient to market corrections.
Technicals aside, the bad news is that the tariff announcements were far worse than expected. Additionally, the computation of the “Liberation Day” tariffs was fundamentally flawed, leading markets to quickly reevaluate the effects on global trade and profit projections.
We don’t need to go into great detail about the tariffs here, as many other news sources will cover them adequately. However, we will say that the formula by which these tariffs have been calculated has nothing to do with “reciprocity”. Had these tariffs been truly reciprocal, where Japan tariffs U.S. rice by 700%, and the US tariffs Japanese rice imports by 350%, the market would have likely responded much less drastically, for example. But that is not the case today.
By our understanding, the U.S. claims that China charges a tariff of 67%. Official data indicates that in 2024, the U.S. experienced a deficit of $295.4 billion with China, while the value of imported goods from China amounted to $438.9 billion. Dividing $295.4 billion by $438.9 billion yields 67%. Consequently, the Administration divided that deficit by 50% in order to set the tariff. This calculation process is similarly applied to the other countries on the list.
Since Trump’s tariffs and actual tariffs are very different, the market has reacted in a downright ugly manner.
The problem with this approach is that there are countries with which the US should have a trade deficit for various reasons. For example, the US may import certain materials or products from a country it needs for manufacturing or production that far exceed the imports they buy from the U.S. That is not inherently bad, but that country is now being punished economically for a situation that was not necessarily their fault. This is not to say that US trade partners have ZERO trade barriers — because they do — however, they are not at the level that Trump presented.
Therefore, the resolution of this trade situation is unclear. Some countries may not be able to offer any deal that meaningfully changes the trade deficit situation. Lifting EU import duties won’t magically make the French buy more US-made bourbon for example.
Some of the tariffs may be totally unsustainable for certain manufacturers. According to iFixit, the cost to produce and sell an iPhone 16 Pro will rise +54%, squeezing Apple’s margin by about half. To have the leading S&P 500 company lose 50% of their gross margin on its top product is dramatic indeed.
Just to illustrate this point, simply adjusting Apple’s gross margin assumption in a DCF model from the current 45% to 25% (and leaving everything else unchanged, including its 24x EBITDA multiple), would drop the price target form $212 to $83. AAPL stock is now trading at $188.
Sure, Apple could try to pass some of that added cost to consumers, but that would certainly impact its revenue growth and valuation. So there really is no short term solution.
A DCF model, by nature, is a 5 year projection. Any assumption made in the model, must hold true for a longer period of time for the model to be effective. This is where the “permanency” of the tariffs becomes key. If they are a short term tool for the US administration to negotiate a better deal with certain countries - then their real impact will be limited, as they’ll be lifted shortly after being enforced.
A prolonged trade war with key US partners is the issue here, and we don’t see any near-term resolution to differences with the EU and China. Nobody really cares that Argentina reached a deal for 0 tariffs yet.
When the tariffs start biting into companies’ bottom lines (including the key metric Earnings Per Share) - that’s when the trouble really starts. Goldman Sachs recently published its downwardly revised forecast for this year, with a range of multiples attached.
We can add our own long term P/E ratio chart to Goldman’s analysis. The most recent valuation low occurred during the Covid crash and took 12-month trailing P/E ratios to 14.8 for the S&P 500. Valuations are now sitting at 20.44, so an additional -27% downside could theoretically be expected.
In any case, the -2 standard deviation line stands at 18.47, implying a -10% additional valuation compression. Strictly from a valuation perspective (not a great timing tool), that’s when the market becomes cheap by modern standards.
So what did institutions do with all of this data? They sold first and asked questions later. Dark Pools data for Friday showed just a handful of companies had Neutral bids. Most S&P 500 top companies recorded bearish Dark Volume. There was not one single bullish stock in the top 20.
Yet according to JP Morgan, retail investors bought $4.7 billion in stocks on Thursday after the drop. This was the highest amount of net buying by retail in 10 years. Simultaneously, hedge funds sold the most stocks since 2010 on Thursday and Friday - as confirmed by our analysis and automatic model positioning.
Our Trading Strategy
While the latest economic data does not currently show evidence of a recession, we may be on the cusp of a “man made” one just about now. SPY’s technical trendline violation acts as a very powerful sell signal, one that we cannot simply ignore. IF economic data starts pointing to weakness, there is a LOT more room to the downside for equity indices.
Furthermore, Trump’s agenda still has political support from his voters. This trade war is symptomatic of a larger shift in society and turmoil on a greater level than just the stock market. It is intimately connected to many other themes including freedom of speech, the war in Ukraine and the unravelling of the global order. We expect participants will fight until the bitter end. In this war, the main rivals are the US, China and the EU. Trump is simply betting that the US won’t go bankrupt first.
Then, there’s also the side effect of falling yields, which certainly helps the US refinance at far more attractive rates. 4 rate cuts are clearly on the table right now, starting in May.
Finally, our portfolio actions will center around using rallies to reduce exposure over the next month or two. We won’t make these adjustments very vest, but we will apply them consistently in our portfolio. Since this crisis is entirely artificial, it can also be resolved very quickly (in theory).
In this state, the markets will cling to any bit of good news. As the correction was powerful, all that’s needed is a spark of optimism to ignite some serious FOMO greed. Bounces can be similarly violent, as every major sector ETF is trading in a negative GEX regime. Our target for a rally is the $550 - $570 area on SPY. If and when we get there, we will become aggressive sellers.
Signal Sigma PRO members will be notified by Trade Alert of any live portfolio changes (if subscribed). If you’re not on this plan yet, you can get a free trial when you join our Society Forum. If you need any help with your trading strategy (or would like to implement one on your account), feel free to reach out!