Hope, Fear, and QE

By Jani Ziedins | End of Day Analysis

Dec 17
S&P500 daily at end of day

S&P500 daily at end of day

End of Day Analysis

Stocks gave up five-points Tuesday, failing to hold Monday’s rebound.  The market briefly slipped under 1,780, but recovered this support level by midday.  It is at the lower end of the recent 1,780 to 1,810 range.  Falling under this level will likely lead to further selling, a test of the 50dma, and prior support at 1,750.  If the market holds current levels through the end of this week, it will likely rally in the final weeks of the year.

Fear Taper, hope for no-Taper, or don’t care.  Those are the three attitudes the crowd can take toward the Fed’s policy statement.  The reason we want to gauge sentiment is it is often profitable to take the other side of the trade.  This isn’t because the crowd is “dumb money” but because the crowd’s opinion is already priced in and supply and demand dictates the market will do something else.

If the crowd fears Taper, it will come into the policy statement underweight so it won’t be hurt by the anticipated selloff.  That means most of the selling already happened, making it far easier for the market to rally on the news.

If it hopes for no-Taper, it is holding through recent weakness, expecting the Fed’s non-move will lead to yet another surge in prices.  But since most already own stocks coming into the event, there are few left to buy the news and that lack of demand makes it harder to support current levels.

And finally, if few change their mind based on the Fed statement, the crowd will maintain current positions and the lack of trade will keep up the status quo.

Expected Outcome:
Since there is little fear in the market, it doesn’t seem like the market sold ahead of Wednesday’s policy statement  Without an ample supply of underweight traders to buy the news, it is unlikely we will get a no-Taper pop we’ve seen following past meetings.  And since so few people sold ahead of time, that leaves a large supply of optimistic owners that could easily become nervous sellers.

Alternate Outcome:
A month of sideways trade saw cautious owners lock in profits bears lay on short positions.  These traders are ready-made buyers if the Fed forces them to chase a surge higher.

Trading Plan:
Given bullish sentiment and proximity to all-time highs, the potential for an explosive move higher is limited.  On the other hand, given those same conditions, we are vulnerable to a material selloff if confident owners become fearful sellers.  Nothing shatters confidence like seeing everyone else rush for the exits.  While the high probability is sticking with the up-trend, the potential for a larger move is to the downside.  How a person trades this setup is up to their style, risk appetite, and trading plan.

AAPL daily at end of day

AAPL daily at end of day

AAPL bulls got an early Christmas present with the China Mobile announcement, but the stock is surprisingly down on the news.  It seems like everyone widely expected it and there was no one left to buy the news.  Now that all the positive catalysts of product refreshes, buybacks, dividend increases, and China Mobile are behind us, what is left to convince people to bid up the stock?  If the story returns to decreasing profits, margins, and market share, this might be a good time to lock in recent profits and wait to buy the stock back at lower levels.

Plan your trade; trade your plan


About the Author

Jani Ziedins (pronounced Ya-nee) is a full-time investor and financial analyst that has successfully traded stocks and options for nearly three decades. He has an undergraduate engineering degree from the Colorado School of Mines and two graduate business degrees from the University of Colorado Denver. His prior professional experience includes engineering at Fortune 500 companies, small business consulting, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two children.