This week, every trader on the planet is paying attention to one thing above all — the Federal Reserve’s monthly policy meeting.
That said, in recent years, most traders haven’t cared about these Fed meetings.
When interest rates were near zero for so long, there was little to learn from the Fed’s monthly updates.
But now, as inflation surges and an economic recession looms, the Fed’s actions are top-of-mind for traders.
So, what’s the most likely outcome?
The general consensus is that the Fed will raise interest rates another 75 basis points this week. If this occurs, I don’t think it’ll be a big surprise to anyone who’s been paying attention.
At this point, the more important thing to consider is the tone of Chairman Jerome Powell’s speech about the economy…
If he even hints at a pivot toward a more dovish economic policy, the market could potentially rip.
On the other hand, if the Fed hikes this week with no talk of a pivot … look out below.
In the meantime, I’m carefully considering my options (excuse the pun), waiting for a clear price direction before making any big plays.
With that in mind, let’s go over the most important factors to consider as we trade this monumental week for the stock market.
Watch for a Potential First Red Day/First Red Week
When I first joined Tim Sykes’ Trading Challenge, he taught me a handful of trading patterns that changed my life.
And depending on what the Fed does, these patterns could become extremely relevant this week.
The idea behind both of these patterns is the same. When momentum stocks hit a big reversal — moving into their first red or green close in several days — incredible trading opportunities can arise.
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The first red day is a critical component of my put-trading strategy. I often use the first red day as a trigger to buy puts on overextended charts.
In a normal year, I’d probably be doing this on a crazy meme stock. But in 2022, the S&P 500 ETF Trust (NYSEARCA: SPY) has been trading like a penny stock, so I’ve been able to open my strategy up to a wider variety of names.
The first red day is often the biggest single-day drop on an overextended chart. This can lead to incredible setups for put traders.
And we could be setting up for one on the SPY and in the overall markets.
The index is up 5% this month, leaving plenty of room for bears to strike if the Fed meeting pleases their narrative.
Strike While the Iron is Hot
I’ve missed some massive profit opportunities in my career by second-guessing myself.
But I’ve learned from my mistakes. Now, I have a new mantra…
If the pattern is perfect — be aggressive.
WARNING: This is especially critical for traders with small accounts!
During my last small-account challenge, I never would’ve been able to turn $10,000 into $130,000+ had I not maximized the setups that were presented to me.
So, take it from me …. seize golden opportunities when they come to you.
I don’t mean to say you should bet big on a sketchy trade. Always be discerning with the setups you choose to trade.
But in this crazy bear market, trading opportunities are like trains … there’s always another one coming.
The Fed meeting could open the doors for a lot of interesting setups…
Don’t fall asleep at the wheel this week. Be prepared and ready to execute when the time is right.
Examine Recent History
I’ve mentioned this before, but it bears repeating … You must know your history to trade successfully.
And this week, recent history is of the utmost importance…
To understand what might happen this week, let’s look at the recent Federal Open Market Committee (FOMC) meetings this year and examine how the market reacted…
January 25-26: The SPY rallied from $431 to $457 over the four days following the meeting before ultimately heading lower…
March 15-16: From March 14 to March 29, the SPY rallied from $417 to $461…
May 3-4: Between May 4 and June 17, the SPY dropped from $429 to $365. (This was the worst market reaction to a Fed policy meeting so far this year.
June 14-15: Following the June meeting, the SPY found a near-term bottom and ripped from $365 to $390 in a month, leading us into the July meeting…
July 26-27: The July meeting led to a continuation of the bear market rally we’d been experiencing since mid-June. The SPY went from $390 to a high of $429 before hitting resistance in mid-August.
September 20-21: The September meeting saw the Fed hike an additional 75 basis points. The SPY dropped more than 10% from $377 to a yearly low of $348 over the following three weeks.
As you can see, the market reactions to prior 2022 Fed meetings have been a mixed bag.
That’s why I think the best move is to wait until after the meeting to make any meaningful plays.
Once we have a picture of the initial market reaction, we can better assess the best path moving forward.
This back half of this week has the potential for some fireworks, Evolvers.
If the Fed hikes another 75 basis points and this rally continues, the bear market may be ending soon.
But if we see a big rejection following the Fed decision, the market could be heading back toward the yearly lows.