There’s been much debate about the impact of the Evergrande debt debacle unfolding in China.

Will it lead to contagion in other markets or will it be contained and wind up being a one-off market event fed by some end of the world media headlines, and likely an excuse for some investors to take some profit?

Thomas Lee, Head of Research at Fundstrat, has been relentlessly optimistic about stocks and relentlessly right for several years.

Here are his four reasons why the major indices can continue to move higher and side step the Evergrande fallout.


by Matthew Fox, Business Insider

Investors should take advantage of Monday’s stock market decline caused by the Evergrande debt crisis and buy the dip, according to Fundstrat’s Tom Lee.

The S&P 500 fell as much as 3% on Monday after it became clear that Evergrande, China’s second-largest property developer, could default on certain debts. (It’s since defaulted on some loans as of this writing.)

The company has more than $300 billion in liabilities and its wide array of assets, including unfinished apartment complexes in virtually empty cities, may not cover the difference of what it owes to lenders and investors.

But Lee said in a note on Tuesday that the stock market sell-off could be reversed as soon as this week with several factors coming into play, including a key technical level, a contained dip in treasury yields, and retail sentiment extremes.


1. “US Treasuries didn’t get the memo.”

“On the day of the Lehman Brothers event, the 10-year yields collapsed 50 basis points. The US Treasury market bears watching because this is the ultimate safety trade.

Even gold hardly got bought [on Monday]. And the 10-year fell a mere six basis points yesterday, which as the chart shows, looks like daily volatility,” Lee said.


US 10-year chart


2. “Monday’s selling was amplified by retail panic.”

“Retail investors have been raising cash for six of the last seven weeks. Since the start of the pandemic, we have not seen this persistent level of liquidation.

At the extreme, retail investors getting cautious is a contrarian signal,” Lee said. The AAII sentiment also showed a large jump in negative sentiment, Lee highlighted.


Retail sentiment indicators


3. “S&P 500 at a key technical level.”

“The slide in the S&P 500 Monday caused it to slip below the 50-day moving average, but as shown below, turned around at the 100-day moving average.

Technicals often become key levels, reflecting both the cumulative position of investors and also because many investors focus on technicals.

The 100-day moving average seems to be a place where the intraday reversal took place, and since March 2020, it has been a key level,” Lee said.


S&P 500 technical chart


4. “VIX surge shows a level of fear seen at market turning points.”

“The nearly 40% surge in the VIX took it to a key trend-line. This has been approached/breached four times since March 2020,” Lee explained.

The past two times the level has been reached, the S&P 500 found key support and began to rally.


VIX and S&P 500 chart


“Again, we do not want to sound too definitive, but does Evergrande risk tipping the world into a recession? If this was the case, the US Treasury 10-year would be seeing a stronger bid, in our view,” Lee concluded.

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