The U.S. Federal Reserve is billed to have its policy meeting this week and investors are paying special attention. The fed has been talking tough in the weeks preceding its September policy meeting and the majority of fed officials have voiced their support for a hawkish move to increase interest rates. However, the fact that the fed might take a stand on interest rates this week is already causing the markets to gear up for a volatile trading environment.
In addition to the fed policy meeting, this week is pregnant with market-moving events. For instance, on Tuesday, investors will be treated to data on Housing Starts. On Wednesday, investors can expect the EIA Petroleum Status Report, FOMC Meeting announcement, FOMC Forecasts, and Fed Chair Press Conference. On Thursday, the equity markets will have to grapple with data on Jobless Claims and Existing Home Sales.
Fed meeting triggers volatility in the markets
However, the recent deluge of economic data doesn’t quite support the rosy economic picture that the fed wants to paint. Last week, August retail sales disappointed with a 0.2% decline and the Consumer Price Index only managed to score marginal gains. Hence, the fed might be forced to take a dovish stance on interest rates during its policy meeting.
Interestingly, Fed Fund Futures has placed the odds of rate hike at 20% while traders are predicting a 15% chance of a rate hike on CME’s FedWatch website. More so, Wall Street seems to agree that the Fed won’t raise interest rates anytime soon.
Charles Benson, a trader on ETX Capital who has spread betting positions on the rate hike observes that “by and large, economic data doesn’t support a rate hike and the fed won’t be foolhardy enough to disrupt the relative peace in the market”. Bruce McCain, chief investment strategist at Key Private Bank in Cleveland told Reuters that “Most of the indicators I’ve seen suggest that the markets really don’t anticipate there’s much chance of a hike this month… If they come with a rate hike, a lot of investors will scramble.”
Irrespective of how the fed acts on interest rates, traders and investors can expect to see increased volatility in the market this week. The stock market has seen bouts of massive volatility in the last two weeks.
For instance, the S&P 500 has recorded 1% movements (twice up and twice down) about four times in the last six sessions. The S&P 500 benchmarks the equity markets and the fact that it has recorded such significant chances suggests that the equity markets are volatile. Interestingly, the CBOE Volatility Index made a two-week high of 20.51 last week before crashing 5.71% on Friday to end the session at 15.37.
An increase in Interest rates will lift stocks
Despite the fact that the equity market doesn’t seem all prepared for an increase in interest rates, analysts at Goldman Sachs have observed that a rate hike could be good for some stocks. Katherine Fogertey and John Marshall, derivatives strategists at Goldman Sachs observed in note to investors that the stocks of financial firms such as Bank of New York Mellon Corp, JPMorgan, Wells Fargo, and Bank of America Corp could benefit from a rate hike.
The analysts made their bullish call based on their inferences from the largest positions in the options market. The analysts noted that traders are “not differentiating among stocks where rate increases could be a positive or a negative”. They noted that for financial institutions, “sooner-than-expected hike could result in these stocks trading up sharply, but the options market is largely discounting / overlooking this possibility.”
Smart traders will do well to embrace the volatility in the market and find ways to ride the wave of volatility for profits. When the markets are volatile, investors with a deep understanding of the derivatives market can easily make money when the market goes up, down, or when it trades flat. In addition, including derivatives in your overall trading or investment strategy would also help you to hedge against volatile market conditions.
In the final analysis, derivatives such as options, spread betting, and binary options could provide investors to make money when the rest of the market are running around like headless chickens. Even if your speculative bets with derivatives don’t pay off, you’ll have safely hedged your investments and you won’t suffer a panic attack every time the market takes a dive.