The Fed will raise on Wednesday

US short term interest rates are still rising fast.  Last year, I noted this process was starting and suggested that the soaring stock market would one day soon take note. And on January 29, the Dow and S&P finally got the message.  Better late than never, I suppose.

That sudden awareness resulted in the 13% mini-crash in February.  But, as is normal, the tech-heavy NASDAQ blithely carried on sailing up and away.  But last Tuesday, that index finally gave in and dropped hard.  Investors believe tech companies are much less sensitive to rising interest rates, but that is an error.

Many have been buying back their own shares from borrowed funds and will they have the same appetite if rates continue rising and share values start a major decline?  Their reduced buying will create a double whammy.

On Wednesday, the Fed will announce their Fed Funds rate decision and many are wondering if they will raise this time or not.  If they do, it may well put another nail in the bull market coffin.

So can we forecast with any confidence if they will raise?  I believe we can.

Here is the 3-mo T-Bill rate that I monitor as my litmus test

Since the start of the year, the yield has risen by over 20% to the 1.6% mark – and climbing.  Remember, this is a retail instrument that the US government sells to the public and is freely tradable. To me, this suggests that the lenders (public) are demanding higher payments to lend to the government for their growing needs.

What does this suggest?  The public is either expecting higher consumer price inflation, or they see the government is becoming more risky – or both. They see an endless succession of national debt increases (recent tax cuts) – and an approaching avalanche of bond sales (with the Fed off-loading their pile).  With increased supply comes lower prices and hence higher yields.

And here is 3-mo LIBOR

which shows a similar rapid yield increase.  Remember, this is a bank-to-bank lending rate that directly influences many business and consumer rates, including mortgages, and personal loans.  With consumer credit just about maxed out, this spells much trouble for the economy – and house prices (see last week’s post).

And because the Fed always follows the market, I expect them to raise the Fed Funds rate (still only at 1.5%).  And if they wish to match the market rates, they will raise by at least 0.25% with an outside chance of a 0.5% hike.  And if that latter is the case, mayhem will prevail with both T-Bond and stocks falling hard.

So Wednesday is the date to mark on your calendar.

One of my favourite trading markets is the 30-yr T-Bond which happens to be the biggest market on the planet. It usually shows terrific tramlines, Elliott waves and Fibonacci levels. VIP Traders Club members have been trading it since the summer 2016 when the yields made an historic low around 2.1% where we started a campaign of shorting the bonds.

But here is the recent yield price action (T-Bond price is inverse) on the weekly chart

From the summer 2016 low, I have a nice five up the 3.2% high last year and then a lengthy and complex correction ensued (which we mostly avoided trading). But when the rally resumed in December, we got back on the long side (short T-Bonds) and took profits near the Feb high.  For a short term trade, we are long the T-Bonds but looking to reverse and short them.

My outlook is for the yields to push on past the 3.2% high.  This level has been very strong resistance in the past but if it can be breached, the move should be impressive.  And for those who note the moving averages, we have a bullish cross-over in the 50-wk and 200-wk with the 200-wk just about ready to turn up for the first time for many months.

And the latest COT data shows up how vulnerable the market is for a turn down now.  Last month, the hedge funds swung massively to the bullish side while the smart money commercials went the other way, which is normally the case.

That is an almighty swing of about 20% in positioning in one week.  Astounding. And is testament to the fatal habit of hedgies to just keep following the trend when the tide turns. They have no method of detecting when a trend is about to change.  They are the biggest herders in finance.

Anatomy of a superb trade we are still in – and about to close

I have been bullish on the USD/CAD cross since last September after examining first the very long term monthly chart (a place I always start from for perspective).  These were my Elliott wave labels at the time

I have a clear five down to the 2009 low as the US dollar tanked across the board.  The momentum divergence was hefty and the result was a decent reversal – and how! As the oil price crashed, the Canadian went into a tailspin and the rally reached the A wave high at the 130 level.  Then, a move down in wave B that retraced over 78% of the A wave rally but did not exceed the 2009 low – a crucial point for a bullish case.

Then the market embarked on a strong C wave rally that emerged as a classic five up to the Fibonacci 78% retrace in a magnificent buying spike climax at the 145 area in 2016.  That high was wave C of 2 and heralded a renewed  move down as ETW forecasts.

And from there, the market had moved lower in three waves to September last year.  That is where I picked it up.  Here is the weekly:

The market had retreated to the Fibonacci 62% area of a major previous wave – and also at the wave 4 of the five up rally.  Retracements often turn at previous fourth wave extremes and I also had a small momentum divergence between the a and c waves.

So that was what I had to work with in September.  Gazing at the charts, taking a bullish stance there seemed suicidal – the market was falling hard and the c wave was in full flight down.

This is when a contrarian needs nerves of steel, but I decided to go ahead and on my side was the COT data – hedge funds were expecting the down-slide to continue.  Here is the daily:

To help my case, I noted a not totally convincing five down in the c wave and the building momentum divergence.  Of course, I moved to the 2-hr chart to glean a low risk entry where I could set stop losses quite close.  My first entry was at the 1.2380 print.

As it happened, the market did then surprise most by starting a rally phase – and the trend-following hedgies were forced to begin covering their shorts ( I love it when they do that and I am on the opposite side).

Fast forward to a few weeks later and here is the picture:

As the market pushed up past the blue trendline, I felt that we had a lot more upside to go and when it hit the Fibonacci 50% area, I believed it prudent to take profits.  And that little contrarian trade left us with a tidy profit of over 500 points (a gain of £5,000 for a bet of £10 per pt).

Then I expected a trendless period and waited for another opportunity and that came in February

After a hefty retreat to what I believed was red b wave, the market hit the Fibonacci 78% retrace on a strong momentum divergence and I entered long again at the 123 area.  My forecast was for a move above the red a wave high to complete a counter-trend three up.

And t his is what I posed in yesterday’s Trade Alert