Hawkish ‘Fed Speak’ Keeps Pressure On Market
Losses continued to mount across the board as the stock market turned negative for the year.
Signs are that a promising new year isn’t showing in the ticker tape.
Top of the mind for traders is continued, and consistent, “Fed speak” from central bank leaders maintaining a hawkish stance on monetary policy.
Traders await next Fed meeting for market clarity
The next few weeks will see traders waiting for “directional clarity” as the market sorts through the heart of earnings season and economic news events.
Market confusion has been fueled by anticipation of the Federal Open Market Committee (FOMC) two-day meeting with remarks on Feb. 1. Central bank members have been giving speeches and continued “Fed speak” sticking to hawkish plans for raising benchmark interest rates have stock market participants nervous.
FOMC leaders are committed to raising interest rates through 2023 in the fight to bring down inflation by slowing economic growth. Speculation is for the Federal Reserve (Fed) to raise interest rates from 25 basis points (or .25%) to 50 basis points (or .50%).
Economic growth is slowed in this scenario when, as an example, mortgage rates rise and fewer people are able or willing to buy at the higher cost level. This example can be applied across economic spending from manufacturers to suppliers to consumers.
“That is definitely going to slow down the economy,” said Bruce Marshall, Senior Director of Options and Income Trading at Simpler Trading. “It’s going to keep pressure on the market.”
Make-or-break point facing market, traders
“The Fed is taking all this data into account and then coming out and saying what they will do,” Bruce said. “The more they say that the more it spooks the market. We’re at a make-or-break point. I think the odds are stacking up in favor of more downside.”
In the market today, the Dow closed at 33,044.56 points to fall .76% (dropping 252.40 points on the day). The Nasdaq dropped to 10,852.27 points for a .96% loss while the S&P 500 stumbled .76% to 3,898.85 points.
The big question is how much more the Fed will raise rates. Above or below the expected range and the next hike could quickly shift the market lower or higher, respectively.
Bruce sees the market positioned where about the only thing to overcome bad economic data reports or Fed influence is a series of really strong earnings reports from highly valued companies. This could break the downtrend, but Bruce is cautious of leaning too heavily into that sentiment because the market keeps cycling up and down in sharp spikes.
The upcoming Fed meeting is a point of “directional clarity” for Bruce and traders in general.
“I’m not loading the boat heavy either way until the Fed gives us some more clarity,” Bruce said. “It’s going to be really hard for this trend to turn and change in any meaningful way. At some point it will break, but it’s not looking like it now.”
Pro trader targets small wins during volatility
In this choppy, sideways market movement, Bruce continues to target small wins that add up and he is watching the Chicago Board Of Exchange (CBOE) Volatility Index (VIX).
The VIX anticipates stock market volatility – or fear – over the next 30 days. VIX levels pushed above 30 at various points throughout 2022. Anything above 20 is considered high volatility and above 30 extreme volatility with heightened fear among stock market participants.
A concerning signal for Bruce, who has been trading for more than 30 years, is the VIX suddenly dropping to 18 early this week. This signal has preceded past drops in stock prices.
He doesn’t see this as a catastrophic signal, but he doesn’t trust the sudden positive sentiment.
The VIX dropping so low signals a reversion to the mean for the index. A reversion to the mean for the VIX at this point would send the index higher. Moves toward the height of the VIX range have historically shown that stocks move the opposite way – dropping in price.
Bruce described the recent drop in the VIX as an unsettling signal.
“It’s definitely good to watch,” Bruce said. “Keep an eye on the VIX.”
From 18 earlier this week, the VIX closed .89% higher at 20.57 on Thursday. In contrast, all three major indexes closed lower for the same session.
Staying nimble with trades, waiting on clarity
As the stock market continued its daily losses on Thursday – and now sits in the negative across the board for the year – Bruce is sticking to his trading plan. He has focused on trading shorter time frames and being nimble with setups, taking smaller profits and not waiting for big gains.
“That’s really working very well so far this year,” Bruce said. “We’ll continue using that strategy until we get a little more clarity, and I don’t think we will before that next Fed meeting. That should give us a lot more clarity.”
Bruce continues to encourage traders in his training program to target potential trades with this strategy.
“Stay nimble and take profits when you can,” Bruce said. “Really watch your risks on trades.”