The stock market (SPY) is at a fork in the road coming into the 2/1 Fed announcement at 2pm ET. However, in this case, there are 4 different directions stocks can go from here and thus 4 trading plans that you should be aware of by now. 40-year-old investment professional Steve Reitmeister lays it all out in his timely commentary below.
January was quite bullish. Not only the solid overall gains for equities, but also the character risk of the groups that outperformed.
At this stage, investors are holding their breath, waiting for the next Fed announcement on Wednesday, 1/2 at 2pm ET. Anything is possible, including a softening of their aggressive stance that would give bulls the go-ahead to keep running ahead.
Just as likely, the Fed is doubling down on its previous statements that stocks would fall again.
Indeed, much depends on Wednesday’s announcement. So let’s discuss how each possible outcome would change our trading plans.
Market Commentary
I see 4 possible scenarios after this very crucial announcement from the Fed on February 1st. Let’s take a look at each of them and see how it would affect our trading plans to get a profit from the stock market.
Scenario 1: Raging Bull (the bear is dead!)
In this scenario, the Fed makes a clear and distinct pivot in their rate hike regime. This means they will see inflation fall faster than expected and they will not have to keep interest rates high until the end of the year as mentioned earlier.
This unexpected easing will delight investors as it greatly increases the likelihood of a soft landing for the economy as stock prices rise. This should prompt investors to quickly abandon their bear market outlook and move to more Risk On selections that would outperform in a new bull market.
Or simply sell everything that did well in 2022 and buy the investments that did poorly last year with an emphasis on growth over value.
Note that I think the odds of the Fed pivoting that clearly at this stage are incredibly low. The next section is the more likely bullish opportunity.
Scenario 2: Cautious Bull
Here we get more subtle hints from the Fed about a possible future policy pivot. As if they are encouraged by moderating inflation… and will keep interest rates high longer to ensure that rating inflation is good and dead… but maybe they won’t have to do it for as long as previously stated.
This would increase the current bullish bias in the market. The overall benefit would be more limited, however, as investors would still be overly concerned about the Fed’s next statement. And will also be very cautious as they look at economic data that is increasingly leaning towards a recession.
In this case, I would recommend being moderately bullish. While Scenario 1 would force investors to go back to 100% long… this would be more like 50% long in the stock market. And yes, that should be with the same kind of Risk On selections mentioned above. Just a smaller allotment with plenty of cash on hand.
Keep in mind that this scenario still leaves open the possibility that the Fed will remain aggressive for too long and that we will still end up in a recession with a return of the bear market. That explains why only 50% as long as downside risks still exist.
Scenario 3: Bear Returns with a Vengeance
The Fed has proactively talked bulls out on 2 previous occasions and ended premature rallies. I’m referring to the famous Jackson Hole speech in August, where Powell gave everyone a senseless scare and ended the 18% summer rally with new lows on the horizon.
A more subtle version of this happened in early December, where he “longer higher ratesmantra more times than I can count. Plus, it was clear they’d rather risk a recession than let inflation enter the economy, because that’s the greater evil in the long run.
So if Powell comes back to the “bully pulpit“, or by any means implying that bulls are WAY ahead of themselves, then the bear market comes back with a vengeance. That’s because the longer the Fed remains hawkish…the greater the chance of a hard landing (recession) for the economy.
In this case, stay bearish and stick with the 2022 bear market playbook with inverse ETFs and conservative stocks to squeeze out gains as the market heads down.
Scenario 4: dazed and confused
This is where the Fed is sending mixed signals. Still hawkish for a long time to save face given previous statements. And yet they doff their hats a bit to moderate inflation.
This gray area leads to a trading range until investors have more facts in their hands. I’m guessing 4,000 is the low end with 4,200 on the high end. This goes hand in hand with a lot of volatility as investors have to recalibrate bull/bear odds with every new head.
This trading range will evolve into 1 of 3 other scenarios in the future, depending on future Fed statements and the health of the economy. The more you think it’s going to be like scenario 1 or 2, the more optimistic you become about your trading strategy. And if you still believe that the bearish scenario 3 is where we end up…then you play the trading range with the same amount of caution.
Conclusion
Yes, a lot depends on the Fed’s statement. I am prepared for each of these scenarios to play out, with 2 and 3 being the most likely, followed by 4.
No doubt you think to yourself”isn’t there an easier way to invest in the stock market?”
Unfortunately not.
The outlook for the economy, and therefore stock prices, is never 100% certain. And so it is MOST confusing at the 180 degree turns from bearish to bullish or vice versa.
Once we’ve made that big turn, we’re going straight through. Once there, the outlook becomes clearer, allowing us to execute plans with greater certainty.
I will, of course, dissect every word of the Fed announcement to determine what scenario we are in with the appropriate change in trading strategy that we need to follow quickly.
Hold on tight to the wheel and be ready for anything!
What to do now?
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Wishing you a world of investment success!
Steve Reitmeister…but everyone calls me Reity (pronounced “Righty”)
CEO, StockNews.com and Editor, Reitmeister Total Return
SPY shares fell $0.47 (-0.12%) in after-hours trading on Tuesday. Year-to-date, SPY has gained 6.29% versus a percentage increase of the benchmark S&P 500 index over the same period.
About the author: Steve Reitmeister
Steve is better known to the StockNews audience as “Reity”. Not only is he the CEO of the company, but he also shares his 40 years of investing experience in the Reitmeister Total Return Portfolio. Learn more about Reity’s background, along with links to his most recent articles and stock picks.
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