Beware the Fed-Cut Hangover

This post Beware the Fed-Cut Hangover appeared first on Daily Reckoning.

Imagine you’re packed shoulder to shoulder in a huge arena to see your favorite band.

The group is ripping through the final number of its encore performance and the scene is getting wild. A wall of sound slams into the sweaty crowd as everyone shouts along to the final verse. Fireworks ignite, drumsticks fly, and the singer thanks the crowd…

Everyone hustles off stage and the house lights come up as the cheering crowd starts to settle. You and thousands of strangers waited months to see this show – and it didn’t disappoint.

Now, it’s over.

You’re left drenched in sweat, ears ringing, completely exhausted. Everyone around you is aimlessly shuffling around trying to find the exit. You’re squinting to adjust to the newly bright conditions, still buzzing from the music as you slowly fade back to reality. You don’t have to go home, but you can’t stay here.

Well, folks, it wasn’t nearly as exciting as a rock concert. But last week’s rate cut and its immediate aftermath have dragged many of these same feelings out of your fellow investors.

We were led into the main event with plenty of over-the-top media fanfare, promising a brand new rate cut regime. And when Powell pulled the trigger, we were treated to 50 bps to kick off the show. Expectations were high – and the Fed delivered.

The rest of the week was a blur. After a little hesitation following the announcement, the Dow and the S&P 500 managed to log new all-time highs the next trading day. The party was on!

But the new trading week already has a different vibe. The house lights are back on. The music’s over. All that’s left are throngs of dazed investors wandering in circles, waiting to see what happens next…

The Fed-Cut Hangover

New all-time highs never felt so…uneventful.

Maybe investors are just hungover from the rate-cut noise pumped into their living rooms for the past month. Perhaps we’re simply dealing with a classic case of recency bias spurred by the late summer selloff. Or, last week’s lackluster finish led by utilities and staples soured the mood.

Any of these scenarios could have spoiled the bull market vibe.

But I think the bulk of the blame lies with the Fed’s interest rate decision.

Everyone knew a cut was coming and came into Wednesday ready to party. But now that the main event is over, the Fed’s policy shift is only creating more uncertainty. Investors from Broad & Wall to Main Street are racking their brains to decipher what drove the FOMC’s decision – and what could mean for the rest of the year.

Did the Fed wait too long to cut?

Are they behind the curve, just like they were in 2022?

Does a double-cut mean we’re hurtling toward an imminent recession?

I have no idea. But I do know that I’m not worried about the dreaded R-word. Instead, I prefer to focus on price and the underlying trend – two facts on which we can rely during any market environment.

Whether you choose to follow price or not, one thing is certain: No one likes change. Resist as we might, as scary as it may be, the rate-cut cycle is here.

And that’s not all…

The third quarter ends in less than a week, and the earnings season festivities will quickly follow. Fall is suddenly upon us. Now’s the perfect time to review how stocks are faring and the potential seasonal headwinds that lie ahead following this rate-cut uncertainty.

“Buy in October, and Get Yourself Sober”

October marks a critical turning point for stocks. It concludes the worst six months of the year for US equities, kicking off the best time of year to buy stocks…

October not only signals a significant shift in seasonal trends – it also has a knack for bottom-ticking the market, marking the low of 13 bear markets since World War II, per Trader’s Almanac (most recently, the Dow ripped 14% in October 2022).

But here’s the thing: We’re not experiencing a bear market right now.

Stock market bulls aren’t searching for potential support zones. Instead, they’re exploring unchecked levels of overhead supply.

First half leaders are making up lost ground following the late summer selling session. Rotation is leading to broadening participation beneath the surface. And a new leadership group is emerging: small-caps. These conditions would be better described as the second year of a bull run, as opposed to the end of an ugly downtrend.

Bull vs. Bear aside, the presidential election will take place in November. When it comes to the average October performance during election years, seasonal tailwinds favor the bears.

The average October returns during election years since 1950 look like this: Dow -1%, S&P 500 -0.9%, Nasdaq -2.2%.

Adjust Your Expectations

Let’s go a little farther down the seasonality rabbit hole…

Remember the stocks-only-go-up frenzy that kicked off 2021? It was impossible to miss! The stock market was handing out participation trophies made of solid gold…everyone’s a winner!

Later that year, reality set in as IWM tanked during November, its strongest seasonal month of the year.

So far, stocks are green during the weakest month of the year. In fact, a traditionally volatile September is turning into an absolute barnburner. With only five trading days left in the month, this month is well on its way to becoming the first positive September in five years.

That’s a welcome change for investors, who’ve recently dealt with some downright dreadful Septembers recently (S&P dropped almost 5% in September 2023, FactSet notes, and more than 9% in September 2022).

Bottom line: Seasonality studies serve as a roadmap, not a definitive forecasting tool.

In fact, the most useful information comes when markets buck seasonal trends (like they’re doing right now).

Your best course of action is to remain cautious and give the market room to work out some of this rate cut angst.

Anything can happen – but I would not expect an all-out meltdown going forward. Instead, stay alert for a little chop, and maybe a fake out or two lower as we kick off Q4. And keep an eye on the strongest names over the next few weeks. These could be your new leaders when melt up season arrives.

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