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As expected, the Fed announced that the Fed Funds Rate, the Discount Rate, and the rate paid on funds on deposit at the Federal Reserve bank all increased yesterday. As expected, each was bumped up by 25 basis points (aka 0.25%), putting the median target for Fed Funds at 0.625%. As expected, the Fed acknowledged that the economy and the job market have improved. As expected, the Fed also noted that inflation was moving in the desired direction. And as expected, the all-important "dot plot" was adjusted accordingly.

It should also be noted that the Fed's "tone" was considered to be "a bit more hawkish" than had been expected by analysts. As a result, markets did some adjusting of their own. The dollar rose. The yield on the 10-year moved to a new high for this cycle. Gold fell. And stocks declined.

The move in the 10-year actually makes sense (and is continuing in the early going today as traders are pushing the yield on the 10-year T-Note over 2.6% this morning). You see, instead of the two rate increases that had been expected in 2017, the "dot plot" (a chart showing the projection of where Fed Funds rate is expected to be going forward by each Fed member) now shows three hikes next year. And while this represents only a modest change, the bond market, the dollar, and everything associated with each, needed some adjusting as well.

Again, the moves in bonds, the dollar, gold, and emerging markets all make sense. The fly in the ointment here would appear to be the response in the stock market. After all, aren't expectations for an improving economy supposed to be good here? And if so, then why would stocks fall when the Fed essentially confirmed that the economy is indeed perking up?

While we can never know for sure, I've got four possible explanations for yesterday's reversal in stock prices.

Buy the Rumor, Sell the Fact

One of the oldest games played on Wall Street when there is some sort of "big, bad event" involved is to "buy the rumor and sell the fact." In other words, traders buy on the expectations for a positive outcome from the big event and then take profits when the news comes in as expected.

Such a trade makes a fair amount of sense here as traders have been looking for confirmation from the Fed that the economy is actually improving. That the jobs market is as good as it appears. And that some inflation is actually percolating in the economy. Check. Check. And check.

So, what do you do if you are a trader and you've been riding the post-election joyride to the upside? Lock in some profits and close your book on the year, that's what.

Not Good Enough

Another potential reason behind the pullback in stock prices after Ms. Yellen left the presser is the realization that the Fed's view of the economy going forward isn't as rosy as the market's. Remember, one of the big reasons being offered up for the nearly 9% gain seen in the S&P since the election is that the economy and earnings are going to outperform expectations.

So, the bottom line here is there may have been some disappointment that the Fed didn't recognize this "potential." Sure, there was some mention of fiscal stimulus by Ms. Yellen, but the Fed is in the business of reacting to what "is" happening in the economy, not what "might" happen. Silly as it may seem, this too could have been a contributing factor to the fast-money types deciding to hit the sell button yesterday.

Policy, Not Prognostication

On the subject of stocks discounting better days ahead due to the expectations for lower taxes, fiscal stimulus and less regulation, at some point all of the above needs to become reality. Thus, it is important to note that at this time, traders are buying stocks on the prognostication that the policies will materialize. And the reality is that all the good stuff that the new administration wants to do will take time. And since Wall Street is notorious for overdoing just about everything in both directions, some profit-taking was to be expected at some point.

Too Far, Too Fast

Along those lines is the idea that the rally in stocks has become extended. Again, the S&P has risen almost 9% in a little over a month. Thus, the term overbought has been bandied about a fair amount by technicians this week. So, what happens when a move gets a bit silly and/or overly one-sided? A short-term, countertrend reversal tends to occur. And so far at least, this looks to be what is happening.

The question, of course, is where do we go from here? Obviously, only Ms. Market knows for sure. However, given the status of the calendar and the fact that this move caught many flat-footed and underinvested, my guess is that the current dip could (a) travel a bit farther and (b) be bought in short order.

In English, this means I wouldn't be at all surprised to see a stiff intraday move lower before the week ends. Yet, I would also expect to see the underinvested dip buyers jump on the opportunity to get their portfolios positioned for the end of the year. Remember, window dressing, while technically illegal, is still a thing and no money manager wants to look like they missed the boat on the move that made the year, right?

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the "Trump Trade"
      2. The State of Global Central Bank Policies
      3. The State of Global Economies

Thought For The Day:

Kind words can be short and easy to speak, but their echoes are truly endless. -Mother Theresa

 

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

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Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided "as is" without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

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