ASX 200 surges more than 5% in two days: Is the rally sustainable?

We haven't seen the market rally with this kind of ferocity since the pandemic bottom, where the S&P/ASX 200 rallied 9.95% between 24-25 March.

Fueled by the RBA's dovish pivot and a decline in global bond yields, the ASX 200 has rallied 5.5% in the last two sessions to an almost three week high.

Markets have had a strong start to the month, trying to erase the bearish memories seen in September and the prior quarter. But rallying in an almost vertical fashion is a little too much for comfort.

Is this new found reversal something that's sustainable? Or will the market simply take the escalator up and then back down? Here's some food for thought.

An oversold bear market rally

The ASX 200 was in an increasingly oversold state in September, down -7.3% for the month. That isn't to say a bounce was expected, but the downside move was becoming more and more stretched.

Oversold aside, other factors that further exacerbated this newfound rally include:

• Quarter-end rebalancing

• Selling exhaustion

• Short covering

• Institutions underestimating the turnaround and increasing their exposure

• Bond yields and the US dollar topping out

Amid heightened volatility, the market has now moved from one extreme to the other.

Seasonality: September selloff, October low

From a seasonality perspective, markets tend to top out in August, sell off in September and hit a trough low in early to mid October.

Seasonality didn't quite work out in the first half of the year, where the market was selling off in response to the beginning of the tightening cycle and high inflation. But it has followed the seasonality narrative to a tee in from August onwards.

The question is, can we hold on tight in October in the lead up to a seasonally strong November and December?

High stakes US inflation print

The US releases its September inflation report on Thursday, 13 October and the stakes could not be any higher.

Last month, the market was caught off guard by a scorching hot core inflation print, up 6.3% year-on-year in August from 5.9% a month earlier. As a result, the S&P 500 nosedived -4.3% on the day of the CPI print and the ASX 200 followed suit, down -2.58%.

Next week, the market will once again face this crucial inflection point. If inflation shows signs of cooling, then a Fed pivot can inch one step closer towards reality.

If inflation is hotter-than-expected, then it will further validate the Fed's recent rhetoric of 'hiking until the job is done' and that a 'recession won't stop us from raising interest rates.'

Back to the ASX

The ASX 200 has avoided undercutting June lows and slipping into a fresh year-to-date low.

A 5.5% rally in the last two days is a start. But plenty of rallies in the last two months have fizzled. Volatility remains high, which is why the market has experienced such outsized rips and dips.

Unfortunately, the US inflation print next week will result in a rather binary outcome. Its either good and maybe a pivot , or bad and rates continue to go up.

XJO chart (Source: TradingView)