As we usher in the new year, investors are keeping a watchful eye on the financial markets, and the consensus seems to be that January 2024 could bring about a market pullback. Several indicators and factors are pointing in this direction, from overbought equity indices to interest rate expectations and inflation concerns. In this article, we’ll explore these signs and what they might mean for the financial landscape in the early months of 2024.
Overbought Equity Indices: RSI Indicator Signals Trouble
One of the first indicators that hint at a potential market pullback in January 2024 is the Relative Strength IndexIn the world of technical analysis, the Relative Strength Index (RSI) stands as a cornerstone tool for traders seeking insights into market momentum. Developed by J. Welles Wilder ... (RSI). The RSI measures the momentum and speed of price changes in an asset. Currently, the S&P, NASDAQ, and Russell indices are all flashing warning signs as they are firmly in the overbought territory on the RSI indicator. In fact, they are more overbought than they were during the 2020-2021 market bubble, and this overbought condition has persisted for an extended period, approximately a month and a half. Such prolonged overbought conditions can often precede market corrections.
Interest Rates and Bond Market: A Scenario of Excess Rate Cuts
Another factor contributing to the anticipation of a market pullback is the situation in the bond market. The calculations indicate that the bond market is pricing in around 75 basis points of excess rate cuts. This suggests that the market is seemingly positioned for a scenario where the Federal Reserve makes a rapid pivot towards deeper and faster rate cuts. This tension between market expectations and actual Fed actions can create volatility and uncertainty.
Economic Data and Accelerating GDP: A Complicating Factor
As we delve deeper into the new year, we’re greeted with a calendar full of significant economic data releases. These indicators suggest that the economy is displaying signs of acceleration. For instance, Gross Domestic Product (GDP) has shifted from a growth rate of one-quarter percent to two and a quarter percent over the last four weeks. This economic acceleration adds complexity to the market landscape as it could influence the direction of interest rates.
Small Caps and Rate Sensitivity: A Frothy Moment
Small-cap stocks have been on an almost uninterrupted upward trajectory since the end of October. These smaller companies are often highly sensitive to interest rate movements, especially rate relief. If interest rates experience a slight uptick, it could trigger the first real correction in this segment. The small-cap market appears to be in a somewhat frothy state, making it particularly vulnerable to interest rate fluctuations.
Mega Caps and Earnings Resilience
Conversely, mega-cap stocks are expected to maintain their positive trend due to robust earnings. While the broader market may experience a short-term correction due to overbought conditions, mega-cap companies are less likely to see significant earnings downgrades.
Inflation Dynamics and the Second Fed Pivot
Looking further into the future, a potential second pivot from the Federal Reserve could be driven by inflation dynamics. Recent data from the Personal Consumption ExpendituresPCE stands for Personal Consumption Expenditures. It is a measure of how much money households spend on goods and services. More (PCE) deflator, a key inflation gauge, shows pockets of deflation within its basket of goods and services. Approximately 10-15 percent of the index has experienced deflation over the past six months. These deflationary pressures, particularly those tied to supply issues, could prompt a scenario reminiscent of 2022. In such a scenario, the Fed might once again find itself behind the curve, necessitating more rapid rate cuts to address falling inflation.
Bottom-line: While January 2024 might bring about a market pullback due to overbought conditions and interest rate expectations, the broader market outlook remains influenced by various economic factors. Economic data releases, inflation dynamics, and the Federal Reserve’s response will shape the market’s trajectory in the coming months. Investors should stay vigilant, remain diversified, and adapt their strategies to navigate potential market fluctuations and capitalize on opportunities as they arise.
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This content is provided for informational purposes only and does not constitute financial, investment, tax or legal advice or a recommendation to buy any security or other financial asset. The content is general in nature and does not reflect any individual’s unique personal circumstances. The above content might not be suitable for your particular circumstances. Before making any financial decisions, you should strongly consider seeking advice from your own financial or investment advisor.
