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Can Stock Markets Recover Over Christmas?

City

The stock markets are in a dour mood once again, and investors are hoping that the Fed, together with Santa, will come to the rescue. CME futures data indicates that the market is pricing a 78 percent chance that the Fed will announce a rate hike, the fourth in the year when it wraps up its two-day FOMC meeting on Wednesday.

That might sound counterintuitive considering that rising interest rates have a habit of depressing stocks markets over the long-term. This time, though, a rate hike appears to have be fully baked into the markets, and any news to the contrary is likely to be taken as a signal that the Fed is not confident about future economic growth (the central bank telegraphed a year-end hike back in June).

On the other hand, positive guidance for monetary policy in 2019 characterized by the Fed striking an easier tone about future rate hikes without expressing undue concerns about economic growth is expected to trigger a stock market rally.

Early Christmas?

Investors tend to painstakingly parse through Fed statements because what it fails to say can sometimes be deemed even more important than what it actually says. For instance, Nick Colas, co-founder of DataTrek Research, says that deleting the words ‘gradual increases’ from the 200-word report or reverting to the more tame ‘gradual adjustments’ might signal a more dovish stance and is likely to support a rally.

Related: Bad News Builds For Global Markets

But it will be a high-wire act for the Fed.

Drastically changing course on rates without that air cover is likely to be interpreted as pandering to the White House. Trump has openly criticized the Fed for hiking rates with the latest polemic coming just a day ago.

It also remains to be seen whether the market will be able to brush off a dimmer outlook for economic growth for a more dovish interest rate outlook. The central bank latest forecast had the U.S. economy growing at a 2.5-percent clip in 2019, and the market will be eagerly waiting for fresh projections on Wednesday.

David Bahsen, CIO at The Bahsen Group, is eyeing the following stock playbook if the Fed’s report comes across as dovish:

• Financials on a widening or stabilized yield curve

• Emerging markets on a dollar reversal and/or hopeful trade resolution

• Energy in increased capital expenditure and China trade imports Related: North America’s Largest Diamond Ever Discovered In Canada

If the markets do rally, then it will be an early Christmas gift for investors who have become accustomed to an end-of-year rally aka the Santa rally. Santa might not be real, but the Santa rally is a well-documented phenomenon characterized by the stock market rallying during the final five days of the year after Christmas and carrying on for the first two days of the new year.

Since 1969, the Santa rally has materialized on 36 of the past 47 holiday season giving it an almost 80-percent hit rate. Further, the seven-day rally has yielded a meaningful albeit smallish average return of 1.7 percent.

And so far, so good. 

The Dow Jones and the S&P 500 have climbed slightly higher for the day:

(Click to enlarge)

(Click to enlarge)

Source: CNN Money

If the Fed’s early Christmas gift is not forthcoming, the situation could get a bit dicey. Failure for the Santa rally to show up frequently precedes bear markets, and a negative tone by the central bank might only serve to make a bad situation worse. Several punters have lately been calling the beginning of a bear market, with Jeff Gundlach aka the Bond King saying he absolutely believes the S&P 500 will descend below the lows set during the February selloff.

Meanwhile, CNBC’s Mad Money host Jim Cramer has christened it the most treacherous market he has seen in many years.

Of course, these guys could be dead wrong and the market might simply turn out to be taking a breather and not about to collapse in exhaustion as Cramer fears.

By Alex Kimani for Safehaven.com

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