Many strategists have predicted a drop, and some believe the Fed’s meeting next week will be a catalyst if the central bank sounds hawkish. Other concerns have emerged this month, which has historically been a bearish period for stocks.
“There is a possibility that the corporate tax rate will rise. The highest tax [bracket] rate is increasing. “You’ve got headline bombs on the fiscal cliff, and you’ve got this growth scare,” said Scott Redler, a partner at T3live.com. “It is September 15th. You have a difficult calendar until the middle of October.”
The S&P 500 fell 0.6 percent to 4,443, its sixth negative session in seven. The S&P 500 is down about 2% from its all-time high.
According to Redler, the S&P 500 could test its 50-day moving average of 4,428 this week. That level, which is simply the average of the last 50 closes, is a key momentum indicator. If the S&P falls below that level and remains there, it could be interpreted as a negative sign.
According to analysts, the Federal Reserve’s plan to shift away from easy policy could be the catalyst for a short-term pullback or correction.
Strategists warn that it may cause a correction, or a drop of at least 10% from the most recent high, at some point. For the time being, some technical analysts believe the market is in the midst of a minor correction.
Jill Carey Hall, an equity strategist at Bank of America, predicts that the Fed will announce a reduction in its $120 billion monthly purchases at its November meeting.
“From our perspective, the S&P and the market have obviously benefited from Fed liquidity post-crisis, and we discovered that an increasing proportion of market performance has benefited from Fed liquidity rather than earnings,” she said.
She stated that BofA now anticipates a flat market in 2022 as a result of Fed tapering, and that BofA strategists do not believe the market has priced in the Fed’s shift away from easy policy.
According to Knapp, the market has reacted negatively to each Fed shift toward tighter policy since the Great Recession. The Fed’s exit from its $120 billion monthly bond-buying program should be no different, and it will almost certainly result in a pullback.
“They lasted an average of 60 days and retraced very quickly. “The market would trade in a range for a while before moving higher,” he predicted. According to Knapp, it is unclear when the market will react to the Fed’s action.
When the market does begin to fall, he anticipates a 10% to 12% drop.
He stated that if the Democrats’ proposed new taxes are approved, they will be detrimental to the stock market. The tax increases are proposed to pay for increased fiscal spending.
“The Fed is meticulous, but Congress is a giant sausage factory. It all comes together, and the market looks at it and says, ‘holy cow, they did that,'” he explained. He believes that a higher corporate tax rate and proposed changes to how foreign earnings are taxed could be detrimental to profits, particularly for Big Tech.
Setup that is detrimental
According to Redler, the market has been preparing for a negative move, but it has had several gap up moves since the market opened recently, frustrating traders looking for a more meaningful pullback.
“This past week, all the indicators were pointing to us being lower than we were, and all we kept doing was widening the gap,” he explained. “The advance/decline line was skewed. You had 70% of the S&P trading below the 50-day moving average when the S&P was 1% off its high. You had a number of breakout failures… It was a difficult spot to try to be long in.”
Redler, who follows short-term technicals, believes the market should sell off at the open on Wednesday, and he expects it to fall 5% from its high to around 4,367.
For the month, the S&P is down 1.8 percent.
According to CFRA, the S&P 500 has been down 0.56 percent on average in a month since World War II, and has been negative 55% of the time.
Morgan Stanley cut its rating on US stocks last Wednesday, predicting a difficult September and October as the Fed reduces its bond-buying program.
Tobias Levkovich, Citigroup’s chief U.S. equity strategist, recently wrote that “the investment road could become much rougher in the months ahead, and few appear to be concerned.”
Other headwinds for stocks, according to Levkovich, will be discussions in Congress about higher taxes as it considers infrastructure spending.
However, RBC wealth management technical strategist Robert Sluymer believes the current sell-off is nearing a bottom.
He stated that there has been a significant amount of corrective activity in individual names, if not the index.
“I believe the key short-term point is that a lot of the daily indicators were becoming oversold as we approached this week’s options expiration,” he said. Friday marks the quadruple expiration of futures and options.
“We should start to see a low develop at the end of the week or the start of next week,” he said, adding that the S&P 500 could dip into the 4,375 to 4,400 range.
He believes the market’s leadership is preparing for a larger move by cyclicals. “A lot of these tech stocks don’t appear to be poised for another significant uptick. “They appear to have had a big run,” he said. “Big cap tech looks like it will plateau or pause for a while… Cyclicals, I believe many of these are setting up for a rebound in Q4.”
“The 10-year will be very important to see if it can maintain that 1.22 percent level. If it breaks through that on the downside, cyclicals will struggle to hold their July lows,” he said. “I’d like to see the 10-year yield rise to 1.37 percent. That, I believe, will be a positive statement for cyclicals.”
This year, tech stocks have been sensitive to changes in the benchmark 10-year yield, and typically fall when it rises. “The tech names have only recently begun to pause, but most other names have been pulling back for weeks,” he said. “A lot of shorter-term indicators are now oversold as a result of this.”