On Wednesday, the Federal Reserve (Fed) delivered another 75bp rate hike – the third one in a row. Moreover, the dots plot showed a hawkish picture, as the FOMC members project more rate hikes ahead.
Unsurprisingly, the US dollar rallied across the board.
Furthermore, US stocks tanked, as investors appear to have given up in the face of such an aggressive Fed. One should remember that the Fed not only hikes the policy rate but also does quantitative tightening (i.e., selling bonds purchased during the economic crises).
In doing so, it aims at reducing its balance sheet. Stocks surged during the balance sheet expansion, so the weakness in the stock market makes sense considering the reverse process.
However, there’s a catch.
While investors do know the effect of quantitative easing on the stock market, because of numerous precedents in the last decade, we do not know what quantitative tightening will do.
So is it time to be a contrarian and buy the S&P 500 here? Or will stocks keep diving?
Bearish technical picture for the S&P 500 index
The technical picture looks bearish, and the 4,200 is a pivotal area. The rally that started during the summer months was strong enough to break the series of lower highs – typically a reversal signal.
But it turned out to be a false breakout.
If the S&P 500 index makes a new lower low, then the bearish case gets a boost. However, contrarian traders should scrutinize the 2022 lows area in search of a reversal sign, such as a doji candlestick, a morning star, a piercing pattern, or even a bullish engulfing one.
Fed’s Powell to give a speech later in the North American session
Later in the trading day, Fed’s Chair, Jerome Powell, is scheduled to deliver opening remarks at a Fed Listens event. Not that it matters much for markets, but surely some market participants will scrutinize every word in search of anything bullish for stocks.
History gives hope.
Since 1985, the Fed delivered more rate cuts than rate hikes in the last three months of the year. However, it may just be a coincidence, but if we think of the rate cuts in the past as reflecting a dovish Fed, then it makes sense to search for a bottom in the S&P 500 around 2022 lows.