S&P 500, Nasdaq 100, Dow Jones Forecast for the Week Ahead
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Indices Technical Forecast: Bearish
- For the past six months there’s been a tug-of-war in markets, between bears driving in anticipation of continued hawkishness from the Fed and the buy-the-dip crowd, looking for the bank to pivot into less-hawkish policy despite the continued level of elevated inflation.
- While the Fed has previously displayed a pattern of passiveness in the face of equity pressure since the Financial Collapse, what’s different this time is inflation. And given prior struggles with inflation, data seems to suggest that the Fed has a tough road ahead that will necessitate a continued hawkish stance until prices are tamed.
- The analysis contained in article relies on price action and chart formations. To learn more about price action or chart patterns, check out our DailyFX Education section.
The big day nears with the Federal Reserve’s September rate decision set to take place next Wednesday. The Fed is widely-expected to hike by 75 basis points at that meeting but throughout last week there was the percolating thought that we might see a 100 bp move. This idea started to gain traction on Tuesday after another strong CPI release – highlighting the fact that inflation remains extremely-elevated even despite the Fed’s efforts over the past six months. The bank started hiking in March and the pace has picked up since then – with a 50 bp hike in May followed by the Fed going for a 75 bp hike in June and again in July.
Interestingly – equity markets rallied for two months after that June meeting. To be sure, it was messy as it was happening, but the way the Fed transmitted that message into markets is notable, in my opinion, as it highlights a point of strategy that remains relevant for next week.
Despite the Fed being in a blackout window, the Monday before that meeting saw a Wall Street Journal report introducing the idea. I talked about that in USD Price Action Setups just ahead of the meeting. The initial response in markets was bearish, as one might imagine, but by the Friday after that meeting the S&P 500 had already set support at a fresh yearly low and prices began a bounce that would last all the way into last month.
The point of this is that the Fed is trying to deliver a painful message to markets in the least-painful way possible, or they have been, and that’s what’s helped equities to refrain from a full-scale meltdown as a flurry of factors are seemingly working against the long side of stocks. That innuendo from the Fed, such as Powell saying ‘we’re at the neutral rate,’ as he did in July, have been read by bulls to mean that the bank is nearing a policy pivot. As I’ve been sharing, I’ve believed that to be incorrect as inflation is something that the Fed can’t ignore as the ramifications of failure here could be significant – and not just for the U.S. but the entire developed world. The Powell speech at Jackson Hole clearly laid out where the Fed’s priorities are.
The Fed’s Fight
When the equity market drops 5, 10 or 20% while inflation is low – that’s a big concern for the Fed. But, when you have such a move while inflation is sitting above 8% and the Fed is hiking rates 50, 75 or perhaps even 100 bps at a time – well, that’s to be expected. That’s actually by design, it seems, as we’ve constantly heard Fed members talking up the prospect of a ‘soft landing’ this year.
In my opinion – that desire for a soft landing is far more relevant for the economy than the stock market. And each hint that’s been misconstrued by bulls as prelude to a pivot over the past few months has brought in bubble-like behavior, with meme-stocks making a pronounced re-appearance – in the midst of an aggressive hiking cycle – as clear indication that markets remain far too flush with excess cash.
Given the Fed’s fight with inflation, those factors should only serve to illustrate the severity of the problem that still remains today. And to be clear – this is a problem rooted in a mistake that’s already been made. The Fed didn’t touch rates at all last year despite inflation continuing to climb. This was the fear through years and years of QE and low rates that never really came to pass until stimulus was put on steroids in response to the pandemic.
Now, it seems like the Fed has to make a mistake – to try to rectify a previous and possibly even larger mistake (letting inflation get so out of hand). The choices aren’t great – if inflation continues to run it will be that much more difficult to get control of it. And if they don’t get control of it? Well, that’s really hard to say but there’ve been a number of civilizations that have been destroyed by inflation. The longer the problem builds the harder it becomes to get control of it.
So, if the Fed is to waffle on their rate hike plans in favor of equity markets, the risk is very large and that pertains to much more than just stock market participants.
On the other hand – if the Fed tightens policy too much to the point that a recession comes in, and perhaps even a market collapse – well we’ll likely see inflation fall along with economic growth. That could put the Fed back into a place where they can move back to the familiar tools of the post-GFC backdrop. They know that they can stimulate markets easily – to quote Chair Powell from May of 2020, ‘there’s really no limit to what we can do with the liquidity programs available to us.’
Of course, that wouldn’t be ideal as a continually-expanding balance sheet doesn’t carry great long-term consequences; but we’ve already seen that playbook in action. The Fed cut rates three times in 2019 so by the time the pandemic hit in early-2020, the fear was that the Fed didn’t have the ammunition. Well, the next year and change proved that to be wrong, and that’s what led to the quote from Chair Powell in May of that year.
I expect the Fed to continue their campaign on inflation. I do expect Powell to continue doing so in the most, let’s call it ‘friendly,’ manner possible. But, until inflation has made a convincing move-lower, there’s not really much latitude for the bank to alter their path. This is why I’ve been so bearish on stocks so far this year, calling bearish equities my Top Trade for both Q2 and Q3 after going with a related theme of USD strength for Q1. We might now see bulls starting to dim that buy-the-dip behavior as it becomes more and more obvious that the Fed isn’t going to stop until they’re convinced that they’ve tackled inflation.
The prior week closed as a bullish engulf with a bounce from a really key spot of support around 3900. This kept the look as higher in the early-portion of the week, and that’s what printed on Monday.
Everything changed on Tuesday after that CPI print though, and prices pushed right back down to that prior support and squeezed below in late-week trade. The weekly bar in the S&P 500 printed as a bearish engulf which not only offsets the prior week’s bullish engulf, it’s perhaps even a bit more powerful as sellers sent a message following the bounce from the prior week.
From the weekly chart, the next major point of support is at 3802, which has already shown some support in helping to set the May low, after which it came back in as support over three weeks after that June rate decision.
S&P 500 Weekly Chart
S&P 500 Shorter-Term
The big item of note for this week is price sliding below that same support that helped to bring in a bounce a week earlier. And there was quite a bit of technical criteria in that spot, with the 61.8% Fibonacci retracement of the June bounce at 3902 and the 23.6% retracement of the 2022 sell-off at 3915. There was also a trendline that had connected June and July lows.
That test in early-September was quite tenuous, too, as it was just a week after Chair Powell’s comments at Jackson Hole and it took four days for buyers to finally lift price after a pretty clear struggle.
But, now that it’s been taken-out that becomes a spot of resistance potential. Another exists from the Fibonacci level at 3983 up to the 4k psychological level. On the support side, there’s a spot between two Fibonacci levels at 3786 up to that 3802 longer-term level. If sellers can push through that next week, 3741-3752 comes into view, after which the June low is exposed down at 3639.
S&P 500 Daily Price Chart
Chart prepared by James Stanley; S&P 500 on Tradingview
Similar to the S&P 500 above, a prior bullish engulf was more than offset this week by a bearish engulf. The Nasdaq bearish trend does appear to be more-developed on a bigger picture basis, however. By comparison, the 3802 level looked at above on the S&P 500 is the 38.2% Fibonacci retracement of the pandemic move. In the Nasdaq – we’re already below that level and prices have come very close to the 50% marker of that same move which plots around 11,700.
But, logically speaking, if we are to see a deeper rate-fueled sell-off, the tech-heavy Nasdaq could have move room to fall as speculative stocks fall further out of favor.
Current support on the weekly chart has formed around the 50% retracement from another major move, taking the 2018 swing low up to the 2021 high. Notably, that 2018 low posted just as the Fed was ending their prior hiking cycle before cutting thrice in 2019. The June low did pierce below that price at 11,294 albeit temporarily, and there have been no weekly closes below that point on the chart yet.
Nasdaq Weekly Chart
There are a few key levels nearby on the Nasdaq that had shown as support of recent and could retain some utility in the near-term. The 12k psychological level has had a big pull on Nasdaq price action, and I’ve spanned that up to 12,074 to create a resistance zone. Above that, the level of 12,262 has continued to carry some pull on near-term price action, after which 12,401 comes into the picture. On the support side of the index, it’s that 50% retracement at 11,700 that looms large, after which the longer-term 50% level comes into play (from the 2018-2021 move) at 11,294.
Nasdaq Four-Hour Price Chart
Chart prepared by James Stanley; Nasdaq 100 on Tradingview
The Dow also posted a bearish engulf pattern which keeps the look-lower on the index. Last week’s low came in right at the 78.6% Fibonacci retracement of the June bounce. But, it’s the support sitting nearby and below that looms large, and this runs between the 38.2% retracement of the pandemic move up to the 30k psychological level.
Dow Jones Weekly Chart
--- Written by James Stanley, Senior Strategist, DailyFX.com & Head of DailyFX Education
Contact and follow James on Twitter: @JStanleyFX
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