S&P 500: A Lot Can Change In A Few Short Weeks, But Temper Expectations

The S&P 500 burst higher Tuesday, ending last week’s stalemate between 50dma support and 2,900 resistance. The market is excited to see the ECB and Fed inching toward economically stimulating rate cuts. Further boosting sentiment, Trump and the Chinese president scheduled a face-to-face meeting next week to resolve their trade differences.

Three weeks ago the market was in the dumps and traders were abandoning stocks ahead of what many assumed would be a much larger summer swoon. Fast forward to this week and everything is great and the market is approaching all-time highs. And so swings the pendulum of sentiment. But these developments shouldn’t come as a surprise for regular readers.

Two weeks ago I wrote the following:

“[W]e trade the market we are giving and so far this one keeps acting like it wants to go higher. As long as we hold 2,800 support, then we should continue giving it the benefit of doubt.

I won’t pretend like I know what Trump is going to do and if those decisions will push the U.S. into a recession. Instead, we follow the market’s lead. If it doesn’t want to be bothered by these things, then neither should we.

[I]f prices continue recovering next week and remain above 2,800 support, Monday’s dip to 2,750 was just another buyable bump on our way higher.”

Now that prices bounced back near all-time highs, the question is, “what comes next?” I wish I could say the path is rosy for as far as the eye can see. Unfortunately, that is never the case. Momentum is definitely higher and prices will creep back toward all-time highs next week and even start encroaching on 3,000, but the thing we need to remember is we are stuck in the slower summer season. That means big money is on vacation and without their buying power, it will be hard for smaller investors to fund a larger directional move. For that, we need big money and they won’t be back until the fall. So temper your expectations until then.

The biggest headlines ahead of us continue to be a resolution/breakdown of the U.S./Chinese trade negotiations and a change in the Fed’s interest rate policy. A constructive trade deal would remove a major uncertainty hanging over the market. A breakdown and escalation will renew uncertainty. I wish I could predict the outcome, but it is hard when dealing with leaders and their egos. Neither leader wants to be viewed as caving and that is how we got to this point. Will it get better? Maybe. But there is also a reason this has dragged on for nearly a year without a resolution.

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Luckily, the market has been placing less emphasis on the trade war. People who fear these headlines sold a long time ago and were replaced by confident dip buyers who don’t mind these headlines. This process of purge and replace is how markets price bad news in. Eventually, it gets to the point where there is no one left to sell a headline and the market stops caring. The longer this trade war drags on, the closer we get to that point. May’s tumble started when Trump surprised everyone by doubling the taxes on Chinese imports. While that lead to some near-term weakness, it was short lived and the market has since recovered nicely. A further escalation will send a shock through the market again, but this reaction will be even smaller.

Far more important to traders is what the Fed does. Expectations of rate cuts grow by the day. Disappointing employment numbers were met with cheers earlier this month because that increases the odds of a rate cut. It is actually getting to the point that the market will be disappointed if the Fed doesn’t cut rates soon. And given how cautious the Fed has been, there is a good chance it could continue its “wait and see” approach. That would disappoint the overly optimistic take the air out of this hope-filled rebound.

I won’t pretend like I know what Trump and the Fed will do next. Instead, I will focus on the market and make my trading decisions based upon what it is doing and where the risks lie. The market is acting well, but prices are quickly approaching resistance near the old highs. The higher prices go, the greater the risks. The swift June rebound means buying now is riskier than it was a few weeks ago. If the market is settling into a summer trading range between 2,800 and 2,950, this is a better time to be taking profits than adding new money. That said, if the bad news holds off for a couple of weeks, we could see prices inch toward 3,000. But as always, there are no guarantees in the market. What a person does here depends on their timeframe and risk tolerance.

Most Likely Next Move: Momentum is higher and prices will return to 2,950 resistance and even break through it over the next couple of weeks if the bad news holds off.

Trading Plan: Approaching resistance is a better place to be taking profits than adding new money. If the market continues to trade well, we can always buy back in. If prices stumble, a person cannot buy the dip unless they have cash.

If I’m Wrong: The Fed cuts rates and Trump and the Chinese kiss and makeup. Adding monetary stimulus and removing political uncertainty will send prices sharply higher. But if these events trigger a bigger move, there will be plenty of time to jump aboard it.

Written By: Jani Ziedins