Sideways Markets Face Rising Volatility as Equity Financing Costs Plunge

I will be turning off the Free Trial offer tomorrow at 9:30 AM ET. Most of what has been discussed below has been covered in videos and transcripts in the service over the past couple of weeks. If you find this helpful, the service could be beneficial. - Mike

Happy New Year. I am back after taking the past three weeks off, which may have been the longest stretch without a free daily update in nearly 10 years of doing this. That said, not much has changed for the S&P 500, the 30-year Treasury, or, for that matter, the dollar index. It was almost as if the markets were frozen in time.

While it will be another 12 weeks before spring, the markets should begin to thaw. The implied volatility selling that really started around Thanksgiving and then reemerged during Christmas now appears largely complete. The calendar will no longer be the market’s friend. This is not to say there will not be days when markets are closed, but the combination of shortened trading weeks and half-days created an ideal environment for selling volatility.

The week of Thanksgiving saw the VIX get crushed, and the week of Christmas produced a similar outcome.

Couple that with inferior trading volumes, and it created an ideal setup for stocks to rally modestly. Unfortunately, by the time we reached Christmas week, implied volatility was already too low, and there was not enough juice left in the market to push prices higher. It underscores just how important implied volatility selling has become to this market at this stage of the cycle.

The VIX 1-Day finished the week below 10. With everything going on globally and several major economic reports scheduled for this week, it would not be surprising to see the VIX 1-Day rise into the mid- to upper-teens by Friday. If that occurs, it likely implies a bearish bias at the start of the week.

The setup in the S&P 500 heading into 2026 is not much different from what we saw at the start of 2022 and 2025. In each instance, the index traded largely sideways, making only marginal new highs. Additionally, similar bearish divergences had formed in the relative strength indexes.

Additionally, in both 2022 and 2025, BTIC S&P 500 Total Return futures surged into year-end and then collapsed as the calendar turned. We have seen the same pattern emerge since mid-December as we move into 2026. Of course, we know what followed in those years: a sharp decline in the cost of equity financing, ultimately accompanied by a move lower in the major equity indexes.

The final piece is liquidity, and while the Fed has begun buying T-bills, it has had little to no impact so far, with reserves finishing the year at $2.85 trillion.

In fact, on December 31, SOFR traded 22 basis points over IORB. While that was not the highest level seen, it was close, and the issue is that the Fed’s plans to purchase T-bills will take time to become large enough to lower overnight funding rates meaningfully.

We likely will not know the full impact until Treasury T-bill issuance begins to ramp back up. Issuance was reduced in December, leading to net paydowns, which in turn pushed liquidity into the overnight market. However, that dynamic is likely to reverse sometime by mid-January.

It seems clear from this that settlement dates tend to push SOFR higher. As the flow of Treasury settlements changes, we could once again see the effects show up in the overnight funding markets. This means liquidity conditions will ease somewhat this week, but could tighten again as we head into mid-month. The liquidity constraints are likely not over.

Finally, the 10-year Treasury yield rose back to 4.2% this past week and is very close to breaking out. At least based on the chart, a move back into the mid-4.3% range now seems highly possible.

-Mike

Glossary by ChatGPT

• 30-Year Treasury – A U.S. government bond with a 30-year maturity, often used as a benchmark for long-term interest rates.

• 10-Year Treasury Yield – The interest rate on U.S. government debt maturing in ten years, a key benchmark for global financial markets.

• BTIC S&P 500 Total Return Futures – Futures contracts that allow traders to transact at the index’s total return value plus or minus a fixed basis.

• Bearish Divergence – A technical signal where price makes new highs while an indicator fails to confirm, suggesting weakening momentum.

• Cost of Equity Financing – The return investors require to hold a company’s equity, influenced by volatility and interest rates.

• Dollar Index – A measure of the U.S. dollar’s value relative to a basket of major foreign currencies.

• Implied Volatility – The market’s expectation of future price fluctuations derived from option prices.

• IORB (Interest on Reserve Balances) – The rate the Federal Reserve pays banks on reserves held at the Fed.

• Liquidity – The availability of cash or funding in the financial system to support trading and lending activity.

• Relative Strength Index (RSI) – A momentum oscillator used to measure the speed and change of price movements.

• Reserves – Cash balances that commercial banks hold at the Federal Reserve.

• S&P 500 – A market-capitalization-weighted index of 500 large U.S. publicly traded companies.

• SOFR (Secured Overnight Financing Rate) – A benchmark interest rate reflecting the cost of overnight borrowing backed by Treasury securities.

• T-Bills (Treasury Bills) – Short-term U.S. government debt securities with maturities of one year or less.

• VIX – An index measuring expected stock market volatility based on S&P 500 options.

• VIX 1-Day – A short-term volatility index reflecting expected S&P 500 volatility over the next trading day.

---

Disclosure

This report contains independent commentary to be used for informational and educational purposes only. Michael Kramer is a member and investment adviser representative with Mott Capital Management. Mr. Kramer is not affiliated with this company and does not serve on the board of any related company that issued this stock. All opinions and analyses presented by Michael Kramer in this analysis or market report are solely Michael Kramer’s views. Readers should not treat any opinion, viewpoint, or prediction expressed by Michael Kramer as a specific solicitation or recommendation to buy or sell a particular security or follow a particular strategy. Michael Kramer’s analyses are based upon information and independent research that he considers reliable, but neither Michael Kramer nor Mott Capital Management guarantees its completeness or accuracy, and it should not be relied upon as such. Michael Kramer is not under any obligation to update or correct any information presented in his analyses. Mr. Kramer’s statements, guidance, and opinions are subject to change without notice. Past performance is not indicative of future results. Neither Michael Kramer nor Mott Capital Management guarantees any specific outcome or profit. You should be aware of the real risk of loss in following any strategy or investment commentary presented in this analysis. Strategies or investments discussed may fluctuate in price or value. Investments or strategies mentioned in this analysis may not be suitable for you. This material does not consider your particular investment objectives, financial situation, or needs and is not intended as a recommendation appropriate for you. You must make an independent decision regarding investments or strategies in this analysis. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Before acting on information in this analysis, you should consider whether it is suitable for your circumstances and strongly consider seeking advice from your own financial or investment adviser to determine the suitability of any investment.