The initial reaction to the Fed is a ruse - don't get caught in the hype

The Federal Reserve,  or the Fed, is the central banking system of the United States. It plays a crucial role in regulating the country's economy by setting monetary policy, managing inflation, and promoting economic growth. 

However, the Fed's decisions can also have a significant impact on the stock market, with investors and traders closely monitoring any changes in policy.

This is exactly what we've been seeing in recent months as the whole world watches with keen eyes and listens with open ears to every last word that comes out of a Fed representative's mouth,

One phenomenon that has gained attention in recent years is the concept of "Fed drift." 

This term describes the tendency of the stock market to perform well during periods when the Fed is about to make an announcement about monetary policy.

In a report by two NY Fed researchers, they actually found that almost half of all stock market returns over the last few decades can be tied back to the day the Fed makes a policy change.

But why does it happen? 

Well, as per usual, it all comes back to sentiment, the psychology of a trader is what drives their actions, and inevitably the market as a whole.

You see when people know that there is a change coming from the Fed they use this time to bolster their portfolio so they can ride the announcement wave into the green.

This can typically be seen by a lower volume of trading at the beginning of the week but, the excitement and pre-speculation quickly start to grow on the day of the announcement. 

I'm sure this is something that all of us noticed throughout this morning's market.

There is usually lower than the normal trading activity before the event. Once the announcement has taken place, there is a flurry of activity as traders seek to digest the message and adjust positions. 

This initial chop can be quite deceiving because there are only two groups trading during this time - the day traders, and the unprepared...

The day traders are a given... if the market is moving so are they taking advantage of every move up and dip down - "earnings their days pay" as our friend Kenny Glick would say.

But the unprepared group is a bit more complex because they may be prepared, it's easy enough to set your expectations with all of the tools that are publicly available. 

Everybody knew that we were about to see 25 basis points well before 2 PM, but they may be holding a few positions that could have made a counter-intuitive move. 

For example, SPDR S&P Homebuilders ETF (XHB) - the group poised to be one of the hardest hit by increased interest rates actually rallied immediately after:

It was up $0.32 in 45 minutes following the initial hike.

And the Financial Select Sector SPDR Fund (XLF) or the sector that has been getting crushed because of multiple bank failures in the past two weeks and people losing trust in the institutions moved $0.11 in the same 45-minute window: 

And maybe this was just a market trying to correct itself after pricing the event into the premium in advance and going a bit too far, but that's likely not the case.

 

You can look further along in these charts - after Jerome Powell finished making his comments and see that not only did all of that upward movement get walked back but as the volume picked up both of these stocks moved to make new lows for the day.

 

But the thing that you should always have in the back of your mind is the market is infinite, what happened yesterday, today, or even tomorrow doesn't matter.

 

You're likely to see increased volatility the rest of this week but you shouldn't be looking to get into a position just so you can be a part of it.

 

At the end of the day, this market has no more clarity now than it did before Mr.Powell spoke.

 

A 25 basis point hike just wasn't what the market needed

 

We are heading into another period of uncertainty and the only thing uncertainty brings in this market is sellers.

 

Be on the lookout tomorrow as I'm spending tonight pouring through the data and you'll be getting a full rundown of what the bigger picture fallout is going to look like.

 

Until then, have a great rest of your day and I'll see you tomorrow morning for the Long and short of it

The post The initial reaction to the Fed is a ruse - don't get caught in the hype appeared first on Penny Hawk.

About the Author

Chris Johnson (“CJ”), a seasoned equity and options analyst with nearly 30 years of experience, is celebrated for his quantitative expertise in quantifying investors’ sentiment to navigate Wall Street with a deeply rooted technical and contrarian trading style.

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