How low can we go?
As the month of August comes to a close, financial markets are once again under pressure. The last four days of August pretty much wiped out all previous gains for the month, and wiped out about 30% of the gains achieved in July. This is not a surprise to anybody reading this newsletter, as we have mentioned the low volume fade against the previous downward direction that was expected this summer, as the markets were deeply oversold and were overdue for a summer bounce.
The latest selloff was triggered by Federal Reserve Bank Chairman Jerome Powell’s reminder that a larger than normal rate hike should be expected during this September’s meeting. Inflation has slowed, but prices are still rising. Granted, it will be much slower than at the previous pace. Inflation currently stands at around 8.5 % calculated annually. As we have previously mentioned in other newsletters, the Federal Reserve’s mission is to tame the rampant inflation (which they allowed to get out of control by reacting too slowly at the onset). As long as economic indicators show that the economy can handle higher interest rates, the Fed will ratchet up the interest rates every meeting until interest rates exceed the rate of inflation by approximately two points. Traders and investors seem to have forgotten this at the beginning of the summer, when the technical bounce started in early July.
What can we expect for September?
We would expect the selling to continue until the low of the markets are tested. Markets very seldom move in a straight line, and the CCI as indicated in the chart below shows that we might be overdue for a technical bounce of some sort. Technical bounces in a bear market generally tend to be steep. What that means is they go up sharply but then they give up the gains just as quickly. More than likely, we would expect some kind of a rally in the early part of September, but then we expect that rally to quickly fade and give up its gains as we go into the Fed meeting on September 20-21. What happens after that is of course contingent upon the size of the rate hike. Many expect a 100 basis point hike, while more dovish analysts expect a 75 basis point hike, which would still be a larger than normal interest rate increase. In either case, interest rates would still be far below what is needed to tame inflation. The economy is already indicating that it is starting to slow down considerably.
Markets tend not to make a bottom without at least revisiting the prior low. As you can see here on the $SPY, we’ve made a pretty sharp move down, wiping out the entire end of the summer rally in about five days. From a technical perspective, we are overdue for a bounce of some kind. We would call this a relief rally but whatever the effects of that rally, they should only be short-lived as the underlying factors have not changed. The Fed will continue to raise interest rates by some to a determined amount and until that is done, the markets will be on edge.
Until next month, trade well and good luck in the competition!
Research content provided by Michael DiGioia, Director of Education. Mike is available for one-on-one coaching. Learn more.
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