The Fed’s Cut, Traders and Volatility

The Fed cut its benchmark short-term interest rate by another -0.25 percentage point Wednesday, which investors seemingly wanted. And in his post-meeting press conference, Fed head Jerome Powell called the economy “strong,” which we reckon investors should also want. So naturally, the S&P 500 fell -2.9% on the day.^[i] As always, we suggest not reading into Fed chatter and daily swings, no matter how big.

Far be it from us to pin market movement on any one thing. But in this case, given the volatility was concentrated in the trading day’s final two hours—and the nature of all the typical accompanying commentary that overthinks all things Fed—it seems safe to say traders fixated on the prospect of fewer rate cuts next year. Some pointed to the Fed’s infamous “dot plot” of members’ interest rate projections, which showed the median projection is now two cuts in 2025. Most pointed to Powell’s comments, which included these nuggets: “If the economy remains strong and inflation does not continue to move sustainably toward 2 percent, we can dial back policy restraint more slowly,” and, “From here, it’s a new phase, and we’re going to be cautious about further cuts.”^[ii] The general consensus is that, absent a renewed inflation slowdown, the Fed will moderate its rate-cutting pace.

So let us sum all this up for you: The economy is stronger than the Fed previously expected, which logically should support profit growth, but investors owning a slice of those future earnings dumped shares because we may get one or two fewer -0.25 percentage point rate cuts. This is the illogic of sentiment-driven moves illustrated, in our view. Powell’s words allude to an economy that is growing fine and doesn’t need Fed “help.” Nothing in Powell’s comments implied the Fed sees an economy at risk of overheating. It was all kind of bland, maybe even Goldilocks. Not a reason to suddenly sour on stocks’ prospects.

At times like this, it is vital to discern between investing and trading. A lot of day-to-day market activity is the latter. Amateurs, professionals and computers making short-term plays, based on any number of assumptions about patterns and the market’s technicalities. A lot of it derives from algorithms and expectations about what other traders will do. A lot of these folks will probably buy tomorrow or next week, making new short-term plays based on new assumptions about markets’ patterns and other investors’ behavior. Round and round and round it all goes.

This happens every day, and it is part of why markets don’t move in straight lines in bull or bear markets. Stocks zig-zag, always. Bull markets and bear markets are simply the general trend of those zig zags once you zoom out. A lot of the time, the zigs and zags are mild. Sometimes they are big. Today was one of those sometimes. But it doesn’t mean one iota for what comes next, in terms of volatility or trend. It doesn’t automatically predict—or not predict—more big swings. Nor does it automatically predict—or not predict—a correction (sharp, sentiment-fueled drop of -10% to -20%). Or a bull market. Or a bear market. It is just one day, and it would hardly be the first time stocks endured a big daily drop during a bull market.

With that said, it is entirely possible a correction is underway. Because corrections swing on sentiment, they are impossible to predict and time with any certainty. But Fisher Investments founder and Executive Chairman Ken Fisher calls the stock market “The Great Humiliator” (TGH) for a reason: It loves to make as many people look as foolish as possible. Today, in mid-to-late December, we are in the midst of the traditional Santa Claus rally season. It would be very TGH for stocks to take a thumping instead of a Santa rally. We wouldn’t enjoy it. No one would. But volatility and corrections should never really be a huge surprise. They are always possible, for any or no reason.

Corrections are normal, and they are calls for patience, not action. Ditto daily volatility. So stay cool. Take time to assess the fundamental landscape and whether stocks’ outlook for the next 3 – 30 months has changed. Look carefully for risks—particularly risks that get scant attention. Look also for the negatives everyone is talking about, to see what does and doesn’t currently have surprise power. Think critically and carefully and take your time.

We are hard at work doing the same and will share our forecast for the coming year in due course. But whatever we think stocks are likely to do over the next year-plus, it will depend on forward-looking factors. Not what stocks did today because of something one Fed person said.