The more dovish than anticipated message from yesterday’s Federal Reserve meeting provided a further boost for U.S. stocks overnight, enabling the S&P500 to complete the month of January with a 7.87% gain. A neat off-set to the sharp 9% fall experienced during December of 2018. For traders, the contrasting fortunes of the S&P500 over the past two months, provides a timely reminder of the importance of Central Bank guidance and interest rate expectations to equity markets.
Back in mid-December 2018, when the Federal Reserve raised interest rates to 2.25-2.50%, (for the eighth time since late 2015), the Fed noted strength in the domestic labour market, and the sustained domestic economic expansion, as well as its statutory mandate of keeping inflation in check, as the rationale behind its reason to raise interest rates and why it would continue to do so in 2019.
Yesterday’s message completed the recent U turn, as Federal Reserve Chairman, Jerome Powell made it clear there would now have to be a “reason” to hike rates and that the only reason would be rising inflation. The fear that the current global slowdown may deepen, has overshadowed the implications of the factors mentioned at the December meeting. When forced to choose between raising rates too quickly verses too slowly, the Feds decision to all but end its interest rate tightening cycle yesterday, exhibits an unwillingness to further tighten financial conditions into the current slowdown.
Of course, the dramatic shift has prompted many Fed watchers to question what the catalyst for the change of tact was. Was it a concern that recent economic data has slowed so dramatically in both China and the U.S. that a recession may be looming? Or, was it concerns of the potential damage to confidence that a falling equity market would impact on main street, via the transition mechanism, or perhaps some other unknown?
Regardless, the S&P500’s ability to rally after the Feds change in tact and enjoy the benefits of lower interest rate expectations is not a complete surprise to us, at least not from a technical perspective.
In previous articles we noted a daily close above 2625 would greatly increase the probabilities that the September-December decline of 2018 had been a corrective pullback within an uptrend.
With the S&P500 currently trading well above 2625, it can be observed that the S&P500’s rally from the December 2316.75 low, appears to be on the verge of completing an initial five wave rally. A bullish development in the medium term, however one that warns in the short term a pullback is close. Looking at possible Wave 5 targets, the 200-day moving average at 2742 looks to be a useful level from which to expect a pullback from.
The pullback should then find support in the 2600/2550 area before the next leg higher commences as mapped on the chart below. Keep in mind that after the pullback, a daily close above 2742 would pave the way for a test of the 2947 high from September 2018.
Source Tradingview. The figures stated are as of the 1st of February 2019. Past performance is not a reliable indicator of future performance. This report does not contain and is not to be taken as containing any financial product advice or financial product recommendation
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