If the robot from Lost in Space were around today, he would be warning of danger ahead.
However, I seriously doubt if anyone would be listening. The bulls have dollar signs clouding their vision and visions of a tax cut windfall that adds 15% to corporate earnings. While that may happen eventually, it is not a factor today.
The challenges for next week are many. The Fed will likely raise rates on Wednesday. The market has factored in the actual rate hike but has not allowed for any hawkish comments in the statement or from Janet Yellen in the post announcement press conference. While nothing out of the ordinary is expected, there is always that risk.
We also have the Dutch election on Wednesday and the U.S. debt ceiling expires. Congress, in its infinite wisdom, voted in Oct 2015 to suspend the debt ceiling limitation until March 15th of this year when a new president would be in office. That allowed them to go for 16 months during a major election cycle without having to fight over extending the debt ceiling every time it was hit. As a result, the national debt has ballooned to $19.942 trillion. With the current administration planning on increasing spending significantly, there will be a debt ceiling fight. The actual fight will not be until weeks from now but the headlines should begin to ramp up next week.
On Thursday the Swiss Central Bank, Bank of England and Bank of Japan will update their monetary policies. While there are no material changes expected, there is always the chance for a surprise.
Add in a flurry of economic reports and we could have a volatile week.
On the flip side, if everything goes smoothly, we could see the markets become energized again. All it would take would be a press conference where somebody begins to talk about the new tax cut proposal and investors would begin chasing prices again.
Conversely, if it appears the tax changes could slip out to the end of 2017 or even 2018, Citigroup believes we could see a 10% to 15% correction.
The S&P tested support at 2,360 on Thursday and rebounded slightly on Friday. The chart pattern is not exciting and actually suggests there will be another retest of that level. If the uptrend support were to break, we could see a decent decline. Disregarding the post speech bounce and retracement, the indexes have been moving sideways in a consolidation pattern for the last three weeks. We spent more than six weeks in Dec/Jan undergoing a consolidation that eventually led to an upside breakout. I would be thrilled to see it happen again but I am not holding my breath.
The Dow was more overbought than the S&P and the retest of 20,800 was stronger. The level did hold but the index only rebounded slightly and it is still at risk of a material decline. The Dow stocks seem to have lost their momentum and we may need a decent dip to get it back.
The Nasdaq is the best looking index. The long uptrend has ended at a broad consolidation and avoidance of the 5,800 support level despite multiple days of weakness. The consolidation candles are closer together and this pattern could actually resolve into another breakout to the upside. With GOOGL and FB closing at new highs on Friday, the big cap index closed only 5 points below a new record. If there is going to be a post Fed rally, it will likely be led by the Nasdaq.
The small cap indexes remain the weakest portion of the market. The S&P-600 rebounded only slightly after two days of support tests at 825. If the small caps break support, the rest of the market will likely follow.
One factor in the bulls favor is the trend for the Tuesday before a Fed decision to be positive. Investors have learned how to trade that with long positions entered on Friday and then exited on the announcement. That suggests Monday could also be positive assuming there are no negative headlines.
We are in a bull market until something changes. Even with all the headlines out this coming week, I doubt there will be a material change but they could produce some short-term volatility. I believe if we saw a fast 3% decline it could be followed by a new leg up to higher highs.
One last point. The "sell in May and go away" cycle this year could be stronger than normal. With the markets up double digits since the election and the potential for a negative response to the normal congressional delays, we could see investors take profits starting in April, regardless of what happens over the next several weeks.
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