Why smart money was buying Monday’s bounce

Free After-Hours Analysis: 

The S&P 500 bounced Monday, adding a respectable 0.7% and ending a two-day losing streak. That said, Monday’s gains still leave the index near multi-month lows and August’s relief rally is ancient history.

All eyes are squarely on the Fed and Wednesday’s interest rate decision. But more important than what they do this week, investors are mostly interested in hearing the Fed’s plans for future hikes. Will it be a return of the dovish commentary that kicked off the summer rally? Or will Powell stick with his assertive tone that triggered this fall swoon?

My money is on Powell standing his ground. But there is a big difference when he says these things at 4,300 and when he says the same thing at 3,900. One price incorporated a lot of optimism and left us vulnerable to disappointment. The other is bracing for a stern talking too and it won’t catch many people off guard.

If prices were still at 4,300, I would be concerned about what the Fed says on Wednesday. But 400 points lower, there is already a lot of disappointment reflected in these levels and we could actually see stocks rebound on “less bad than feared” if Powell sticks to what he said in Jackson Hole last month.

Markets are always swinging between “too low” and “too high”. The August rally obviously got a little too carried away. But now that we are closer to the summer lows than the highs, there is a lot less risk in buying these levels.

I never buy dips, but I will be the first in line when prices bounce. And Monday’s bounce off of the opening lows was a great opportunity to get in because it allowed us to manage our risks by placing a very sensible stop nearby. If the bounce keeps going Tuesday, great, we add more and move up our stops. If the selling returns, no big deal, we pull the plug on our partial position at Monday’s intraday lows and start looking for the next bounce.

While it feels foolish to buy ahead of the Fed’s next rate hike, the best trades always start this way. By the time it feels good, it will be too late.

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