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When I warned about market correction in mid-August, I also discussed what factors would eventually cure what ails us. One of those factors is presenting itself Thursday, as the Federal Reserve offers clarity on an uncertainty weighing on investors’ minds and weighing down stocks. The probability of Fed inaction on interest rates or the possibility of a minor action with the removal of concern about October should serve stocks immediately. I expect such a scenario should provide immediate & significant upside to the SPDR S&P 500 Trust ETF, returning it toward its highs above $210 and higher as longer term factors. Risk to this thesis could come from a Fed rate action of 0.25% or if the Fed does not clear away concern about a potential action in October. When I authored my warnings about market correction in early to mid-August, I also indicated what the cure for stocks would eventually be. One of those factors appears to be about ready to help out, and that is clarification from the Fed. No matter what happens Thursday afternoon, the Federal Open Market Committee (FOMC) will provide some clarity to investors. Stocks should benefit from the removal of some uncertainty, and I see immediate upside of 2.5% to 5.0% probable for the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) post the Fed meeting. But any gains and the length of duration of upward direction will depend on the specifics of what the Fed does and says. The longer term for stocks and the SPY will continue to depend on the U.S. economy, energy sector issues, emerging market implications, seasonal capital flow factors and the Fed path and accuracy moving forward. 1-Year Chart of SPY at Seeking Alpha In my early to mid-August warnings of imminent market correction (see several links within the summary piece), I suggested the eventual cure for stocks would require a cocktail of medicines. I discussed the implications of seasonal capital flows and that the passing of time toward November 1st and a more welcoming capital flow environment would serve stocks then. I also suggested the U.S. economy mattered far more than the Federal Reserve, and that we would need to see health in the economy to gain traction. That means that the U.S. energy sector must heal or at least not meaningfully infect the rest of the economy. It also means that China only stumbles and does not fall, and that growth recovers in that important sector of the global economy. Finally, I said we needed Fed clarity, and that uncertainty about the Fed’s path was not serving stocks. Thursday, we will receive some clarity on the Fed’s path. Most likely, the Fed will succumb to market pressures and refrain from raising rates at this meeting. However, I’m not sure that is the best case scenario. Rather, I believe a minor rate hike of less than a quarter of a percentage point would serve to satisfy expectations that Fed action is happening this year while also easing concern that the Fed could act prematurely. If the Fed makes a minor move and indicates it is not likely to act in October, pushing expectations for the next hike to possibly December or March, it will serve stocks well. It is also likely to reiterate its data dependence and to note risks to the U.S. economy including China and emerging markets, the U.S. energy sector, and the strength of the dollar. But I also anticipate the Fed will note the strength of U.S. labor and the lack of inflation, which are positives. I suggest such an outcome would be just what the doctor ordered for the stock market. The result, in my view, would be a surge in stocks and a marching of the SPDR S&P 500 Trust ETF back towards previous highs certainly above $205, and probably to $210 or higher without much disturbance. Much depends on the specifics of the very complex data set we will get from the Fed. A risk lies in the possibility that the Fed raises rates by a quarter of a point. Such a scenario, I believe, would send a shock through the market and spur a selloff back to correction lows. That is not perfectly clear, given that investors would like to see the Fed finally get started at some point. However, I expect that given the latest poor indications from China and emerging markets, the Fed will refrain from further disturbing the global economy and the U.S. economy as a result. Despite the likelihood of inaction, in my opinion, the FOMC vote could be closer than in previous meetings. Investors will need to have some indication that October is not a threat as well, or this period of volatility will simply extend to the next Fed meeting. So if the Fed does not act, but leaves the possibility of an October action on the table for investors to worry and debate about, stocks could see their upside limited or completely erased. Over the long-term, what matters far more than the Fed are the health of the U.S. economy and the health of sectors of the global economy that threaten the U.S. economy. That means, not only must U.S. data continue to reflect progress, especially in the labor market and GDP data, but weakness in the U.S. energy sector and manufacturing (relative to it) must dissipate. Also, China must stabilize rather than deteriorate; if this occurs, expect global stocks to rally significantly. Finally, as September and October pass, significant capital flow pressure from institutions ending their fiscal years will dissipate and likely offer support to stocks as the institutions look forward with many securities trading at relative value. We are in a complex period now, where the market is supersensitive to news flow. It is the worst possible time for the Fed to be contemplating action, but it is our situation. Long-term investors should be patient now, but remain focused on the matters discussed herein. I cover the market closely, and invite relative interests in the SPY security and the market to follow my column here at Seeking Alpha . Disclosure: I am/we are long SPY. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Scalper1 News
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