DOW JONES OUTLOOK:
- Dow (DJI) gains for the second day in a row and closes at a fresh record
- The rising interest rate environment may hurt the growth and technology segment of the market in the near term, leaving ARK Innovation in a very precarious situation
- Value stocks, with solid balance sheets and positive earnings outlook, are well-positioned to command strength in early 2022
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Most read: S&P 500, Nasdaq Forecasts - Yields Jump but Bulls Undeterred
The Dow Jones (DJI) outpaced the major Wall Street averages on Tuesday, gaining 0.6% to end the session atan all-time high of 36,799, as investors began to rotate out of tech and expensive growth stocks into sectors that are less sensitive to rising interest rates and more levered to the reopening of the economy.
Government yields have sped higherlately on expectations that the Federal Reserve will assertively withdraw stimulus in the coming months to counter red-hot inflation, which hit a four-decade high of 6.8% y/y in November. Against this backdrop, the Treasury curve has shifted upwards, with the 10-year yield up 17 basis points to 1.67% in the last two days alone, its highest level since November 24.
Recent bond market dynamics seem to be prompting investors to dump speculative and long-duration plays in favor of quality investing. Nowhere was this clearer on Tuesday than in the performance of ARK Innovation (ARKK), Cathie Wood's flagship ETF. This growth-oriented fund, comprised of companies with weak balance sheets, poor cash flows, and modest or non-existent profits, had its worst day since early December, plunging more than 4% at the closing bell.
Going forward, monetary policy normalization should fuel volatility across asset classes and become a headwind for tech and growth stocks, particularly those with lofty price-earnings multiples. In general, a higher rate regime is usually damaging for the growth factor for two reasons. First, it raises financing costs for companies that are burning cash and rely heavily on cheap credit to grow their businesses. Second, it undermines valuations by increasing the rate at which future cash flows are discounted. Based on these premises, ARKK could continue to pull back and become a market pariah in the near term, as I explained in my top trade idea for the first quarter.
Although the less accommodative environment, coupled with pervasive inflationary pressures, may create a challenging backdrop for the broader equity market early in 2022, there are still good opportunities, especially in the value segment. Once the recovery stabilizes after the omicron scare, firms with less leverage and robust balance sheets, strong pricing power, low exposure to wage inflation, and solid earnings prospects should stand out. This leaves the blue-chip Dow Jones well-placed to outshine the S&P 500 and Nasdaq 100 in the coming months (and ARKK of course).
The constructive outlook for the Dow Jones, however, rests on one assumption: the recovery must move full steam ahead. While economic activity is seen shifting into slower gear after several exceptional quarters, GDP is still expected to expand beyond its long-term potential. The historical playbook suggests that above-trend growth tends to be very positive for value stocks.
With this in mind, traders should carefully monitor incoming economic data to gauge the strength of the U.S. economy and ensure the investment thesis remains intact. Having said that, the calendar is packed this week, but attention should be paid to the ISM Services Survey to be released Thursday, but more importantly, the December Non-Farm Payroll (NFP) report due on Friday. If the services sector and the labor market remain healthy, there is room for the Dow Jones to hit new highs in the coming days/weeks.
| Change in | Longs | Shorts | OI |
| Daily | -1% | -7% | -4% |
| Weekly | 16% | -10% | 1% |
DOW JONES TECHNICAL ANALYSIS
The Dow Jones jumped to an all-time of 36,935 on Tuesday but quickly pivoted lower, unable to break channel resistance. If sellers regain control of the market, support appears in the 36,550 area, but a retreat below this floor could dent bullish sentiment and pave the way for a move towards 36,200. On the flip side, if bulls manage to push the index higher and breach the 36,935/37,000 ceiling, we’ll be in unchartered territory, but the 38,000 psychological level can become the near-term upside target.
DOW JONES INDUSTRIAL AVERAGE TECHNICAL CHART
Dow Jones Chart prepared in TradingView
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---Written by Diego Colman, Contributor
