Here's What to Watch as Questions Linger Over Rate-Cut Ripple Effects
Overbought technical conditions and index rebalancing are the primary market issues right now.
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The market celebrated the Fed’s half-point cut on Thursday, but the issue now is whether the move will produce sustained momentum into the end of the year.
Historically, the start of a rate-cut cycle has not been positive for the market. The best returns are produced at the end of the rate hike cycle and as investors start to anticipate the first cuts.
Typically, the Fed cuts rates either because of some sort of credit event or because of significant economic slowing. The economy will already be in trouble by the time the Fed takes action. This time, it is a little different as there are only minor signs of economic slowing so far, and the Fed is being more anticipatory than usual. Investors believe that the Fed’s dovishness will help to engineer a soft economic landing and avoid a significant slowdown.
But even if the Fed helps the economy avoid a recession, does that mean that the stock market will trend even higher? The economy and the stock market are two different things and don’t always have a strong positive correlation in movement. An OK economy does not guarantee an OK stock market.
The debate over the health of the economy will continue in the months ahead as we see more news about the labor market and inflation. The jobs reports will be particularly important and will determine how aggressive the Fed is with future rate cuts.
What we have to focus on right now is the technical action. There was a big breakout triggered by the half-point cut on Thursday, but the gap created by the move is now going to be the key support level. If stocks fall into that gap, it will cause concern about a failed breakout and have a significant impact on sentiment.
The biggest problem currently is that many stocks and the indexes are technically extended, and we still have the potential for negative seasonality.
The action on Friday will be impacted by the rebalancing of the S&P 500 and other indexes. Palantir PLTR will be added to the S&P 500, but the biggest shift will be in the Technology exchange-traded fund XLF. Microsoft AAPL and Nvidia NVDA will be decreased while Apple’s AAPL weighting increases significantly.
This rebalancing will distort the price action on Friday, but we’ll see if the overbought technical conditions trigger a high level of profit-taking.
At the time of publication, DePorre was long NVDA.
