How the next Federal Reserve rate decision could affect your portfolio

As US policymakers prepare to announce their final rate decision of 2018, financial markets analyst Rajan Dhall analyses the possible impact on equity markets.

Stockmarkets in the US beginning to realise that the era of cheap money and zero percent interest rates (globally) is coming to an end. The S&P 500 index made an important pattern posting a lower high and lower low on the daily chart, breaking an important support level at 2,605. With the US index down nearly 14% since 13 September and the FTSE 100 off 15% since May, should we prepare ourselves for a bear market and start protecting positions?

Investors must also consider the degree of impact that share buybacks have had on the main indices, particularly in the US. Valuations have been extended and leverage has been used to prop up the prices of many companies. This distorts the natural supply/demand element of the market. 

Elsewhere, the global growth figures seem to be faltering. Protectionism is causing hardship and the world superpowers including China are feeling the brunt. Donald Trump recently agreed on a truce deal with the Chinese government which saw a small relief rally in stocks but the market does not seem to be buying into this optimism and the rout has continued.

Looking ahead to tomorrow evening, we have the latest Federal Reserve rate decision, and the US policymakers are once again expected to increase the base rate by 0.25 basis points (bps). This has been priced into markets, but we must now see how the Fed plans to move forward with its tightening program. 

It's been said by some Fed members that further hikes are required if inflation overshoots its target at or just above 2% (currently 2.2%). Hearing that FOMC policy remains data dependent is par for the course, but all will be revealed in the Fed dot plot that spells out rate projections.  

Recently, Donald Trump and some of his advisors have criticised the Fed for raising rates.  The market will watch closely for any hint that the 'independent' central bank has bowed to political pressure, potentially threatening its credibility.

The implications of the rate decision and accompanying statement will have an impact globally. If the Fed indicates a continuation of the tightening cycle, expect stockmarkets to keep falling. 

Many investment banks and market commentators have lowered their rate hike projections for next year from an average of four to two. Rates must normalise at some point, but there is plenty of risk attached as policymakers attempt the Goldilocks approach of 'not too fast, not too slow'.

Market fundamentals clearly do not currently support more hikes, with wages not growing fast enough and savings yields remaining low. Something will have to give and stockmarkets are in the firing line.

Source: TradingView   Past performance is not a guide to future performance

The S&P 500 has now made a lower low on the daily chart (above). In the chart, I have noted the next most important support and resistance levels based on the higher timeframes because, after a long bull run, sometimes it is hard to find obvious areas of support. 

There is a chance we revisit the 2,605 area if the Fed signals it might slow down the pace of rate tightening.  An indication that they will press ahead cold set the S&P on course for lower levels and a firm break of 2,533 support. 

Another possible sticky area in the coming weeks could be 2,452, as there's been a lot of volume previously at this level. 

As with any quick fall in prices it can often be followed by a correction. The RSI indicator at the bottom of the chart shows a bearish break, but the level can be tested, and we still have today's price action to contend with before tomorrow's Fed decision.