The stock market is crushed again. The chances of it revisiting its recent bottom are now greater.
experienced its fourth consecutive day of decline on Friday. It’s now down about 13% from its mid-August summer rally peak. One main engine: Persistently high inflation urges the Federal Reserve to raise the federal funds rate at a rapid pace. This week, the Federal Reserve indicated that it sees the federal funds rate “peaking.” exceeds 4.5%, slightly higher than previously expected. The Fed is trying to reduce the rate of inflation by reducing economic demand, so the problem for the stock market is that the economy could take a hit — and so could corporate profits.
All this brought the market to a dangerously low level. The S&P 500 this week fell below a level just above 3800—it’s now on a tick below 3700. That’s the key; at just above 3,800, buyers have recently stepped in several times to support the index to the upside. These buyers have disappeared because confidence in the market outlook has faded. As the index is now in more of a downtrend, the ‘failure to hold  is a big change in the nature of the market, has increased the chances of a quick decline to the June lows,” John Kolovos, chief technical strategist at Macro Risk Advisors, wrote in a research note.
Speaking of that bottom in June, the market is certainly flirting with retesting it. The low for the day for the year was 3,636, reached in mid-June. The possibility of the S&P 500 returning to this level is scary not only because it represents a small loss going forward, but also because traders will have to hope at this point that it can get “support” to buy there. If the index breaks below this support level, the next support level is roughly just below 3500. That represents about a 5% loss from here.
That’s the bad news, but don’t lose hope just yet. There is still a bullish scenario. If the index manages to find support near the bottom, it could experience an “impulsive rally” after the 4,100 zone, Kolovos wrote. That’s where the brief rally in early September ended — and the sellers stepped in. Buyers at this level would indicate that the market is becoming more confident.
Indeed, there could be some positive developments to bring the market back up. The main development would be that the Federal Reserve is not actually raising the federal funds rate above 4.5%. Historically, the Fed has often not raised interest rates by its forecast, Sevens Report Research notes. In 2015, the Federal Reserve predicted that the federal funds rate would reach just above 3% in a few years. By 2019, it peaked at around 2%. This is because interest rates are rising as the Fed’s rate hike campaign begins, which reduces borrowing and spending. After that, economic growth slows and the Fed stops raising interest rates.
“If the economy begins to slow significantly in the coming months, history suggests that the Fed will … have to lower its expectations for tight-lipped funds,” wrote Sevens Report’s Tom Esaye.
This is likely to put a bottom below forecasts for economic growth. Profits, while taking a hit, may not reach catastrophic levels. The market can then look forward to better days when economic growth and earnings growth can be reliable.
The point is that the market is at a crossroads and the next few days of trading will be crucial.
Write to Jacob Sonnenschein at [email protected]