A strategy to trade the Fed rate decision with the S&P500

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  • 20.06.2019
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<p><a href=”https://admiralmarkets.com/analytics/traders-blog/strategic-fed-decision”><img style=”width:auto;” class=”img-responsive” src=”https://fxmedia.s3.amazonaws.com/articles/remote/2e6f3f9d60ef677800a58474bc30ea15.png”></a></p><p><em>Source: Economic Events Calendar June 19, 2019 – <a href=”https://admiralmarkets.com/analytics/forex-calendar”>Admiral Markets’ Forex Calendar</a></em></p><p><br></p><p>On Wednesday, June 19, the rate decision of the Fed will take place. Even though market participants do not expect the Fed to move on this specific meeting (according to the <a href=”https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html” target=”_blank”>Fed Watch Tool</a>, market participants do not see a move from the Fed with over 80%), it will be very interesting to hear whether the US central bank gives a hint towards what to expect in the second half of 2019. </p><p>This is especially true after <a href=”https://www.reuters.com/article/us-usa-fed-conference-powell/powell-fed-will-act-as-appropriate-in-face-of-trade-other-risks-idUSKCN1T51TM” target=”_blank”>Fed chairman Powell opened the door for a potential rate cut on June 4</a> with the <a href=”https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html” target=”_blank”>Fed Watch Tool</a> now pointing to the Fed cutting rates minimum once by December with a chance of over 95% and seeing a ‘rate cut cycle’ with three cuts by the end of the year with a likelihood of more than 50%.</p><p>While this may be of interest for analysts, our question as traders is: is there a chance to somehow profit from the Fed statement in any direction?</p><p><br></p><h2>The Pre-FOMC Announcement Drift</h2><p>The answer is: “Yes”. In fact, several studies show that a strategy called the ‘Pre-FOMC Announcement Drift’ has been successful since 1980 and the profitability has even intensified over the last years. </p><p>In particular, when the US yield curve flattened out (right now, the 2-10-year US yield curve finds itself in the region around its flattest levels since 2007) and the volatility in US equities (measured via the VIX) was relatively high, the 24 hours prior to the FOMC announcement could have been traded very profitably. </p><p>On average, nearly 80% of all profits in the S&amp;P500 were made within eight days leading up to the interest rate decision. </p><p>In other words: if you bought the S&amp;P500 just 24 hours before the FOMC announcement, you would have earned around 80% of the income of a buy-and-hold investor, but at a much lower risk because you were invested only on 8 days a year. </p><p>What is particularly interesting: it didn’t matter if the Fed has raised or cut interest rates. The actual interest rate decision brought no overall return. The effect performance-wise was zero in total. </p><p>It seems, as if the anticipation of an equity-markets-friendly decision of the FED was of higher importance. </p><p><br></p><h2>Why is such a simple strategy working so well?</h2><p>First of all, the reason seems to be found in the fact that In the week before the Fed decision, there is a so-called “blackout period”. That means, that voting FOMC members are not allowed any statements, give interviews or speeches which usually results in a drop in trading volume and liquidity thins out, putting it below average. </p><p>Secondly, professional investors have usually a risk-overweight in their portfolio. Before such a risk event like a Fed rate decision, these market participants tend to reduce their risk exposure, rebuild it after the rate decision. So, once the “blackout period” begins, the reduce their engagements and instead buy insurance for their portfolios via futures and options. Due to the low liquidity in the markets during that period, small purchases of equities result in a drift higher in equity markets. </p><p><br></p><h2>How to Trade The Pre-FOMC Announcement Drift</h2><p>But now the interesting question: <strong>how can we trade this</strong>? </p><p>We will use the following plan: </p><ol><li><em>We enter a long position in the SP500 CFD on Tuesday, June 18, 2019, at 20:00 CET ‘Market’ at the respective price at this time.<br><br></em></li><li>A big disadvantage of the strategy is that it usually works without a stop loss. Since working with no clearly defined risk is no option for us as professional traders, we want to work with a worst-case stop based on volatility. <br><br><em>Therefore, we look at the Daily chart in the SP500 CFD, the indicator ATR(14) and at the average daily trading range of the last 10 trading days.<br></em><br>&gt; The Daily ATR(14) reads ~33 points while the average daily trading range of the last 10 trading days has been ~37 points.<br><em>&gt; Therefore, our </em><em><strong data-redactor-tag=”strong”>worst case stop</strong></em><em> should be in the range between </em><em><strong data-redactor-tag=”strong”>35 to 40 points</strong></em><em><strong data-redactor-tag=”strong”> </strong>from our entry point in 1.<br><br></em></li><li>We exit the Long position in the SP500 CFD on Wednesday, June 19, 2019, at 19:55 CET at if it is not stopped out before.</li></ol><p><a href=”https://admiralmarkets.com/analytics/traders-blog/strategic-fed-decision”><img style=”width:auto;” class=”img-responsive” src=”https://fxmedia.s3.amazonaws.com/articles/remote/4bb48d86f711b2a1827f3bc2fe3f4547.png”></a></p><p><em>Source: Admiral Markets </em><a href=”https://admiralmarkets.com/trading-platforms/metatrader-5″><em>MT5</em></a><em> with </em><a href=”https://admiralmarkets.com/trading-platforms/metatrader-se”><em>MT5-SE</em></a><em> Add-on SP500 CFD Hourly chart (between May 31 to June 14, 2019). Accessed: June 14, 2019, at 10:00pm GMT – Please note: Past performance is not a reliable indicator of future results, or future performance.</em></p><p>In 2014, the value of the SP500 CFD increased by 11.39%, in 2015, it fell by -0.73%, in 2016, it increased by 9.54%, in 2017, it increased by 19.42%, in 2018, it fell by -6.24%, meaning that after five years, it was up by 36.8%.</p><p><a href=”https://admiralmarkets.com/analytics/traders-blog/strategic-fed-decision”><img style=”width:auto;” class=”img-responsive” src=”https://fxmedia.s3.amazonaws.com/articles/remote/2dfd9bcebefc982fc081cfd1e82f1f13.png”></a></p><p><em>Source: Admiral Markets MT5 with MT5-SE Add-on SP500 CFD Daily chart (between March 23 to June 14, 2019). Accessed: June 14, 2019, at 10:00pm GMT </em></p><p>Check out Admiral Markets’ most competitive conditions on the <a href=”https://admiralmarkets.com/start-trading/contract-specifications/instrument/sp500″>SP500 CFD</a> and start trading on the SP500 CFD with a low 0.4 point spread. To test Admiral Markets DAX offering in combination with the described strategy above <a href=”https://admiralmarkets.com/start-trading/forex-demo”>register for a free demo account</a> today and experience the live market risk free!</p><p><br></p><h2>Investing in Forex with Admiral Markets</h2><p>Admiral Markets offers professional traders the ability to trade with a custom, upgraded version of MetaTrader 5, allowing you to experience trading at a significantly higher, more rewarding level. Experience benefits such as the addition of the Market Heat Map, so you can compare various currency pairs to see which ones might be lucrative investments, access real-time trading data, and so much more. Click the banner below to start your FREE download of MT5 Supreme Edition!</p><p><a href=”https://admiralmarkets.com/trading-platforms/metatrader-5″><a href=”https://admiralmarkets.com/analytics/traders-blog/strategic-fed-decision”><img alt=”Download MetaTrader 5 and begin trading today!” style=”width:auto;” class=”img-responsive” src=”https://fxmedia.s3.amazonaws.com/articles/remote/bdbd530b0736e6a9f21c4bde3f7ddb53.png”></a></a></p><p><em>Disclaimer: The given data provides additional information regarding all analysis, estimates, prognosis, forecasts or other similar assessments or information (hereinafter “Analysis”) published on the website of Admiral Markets. Before making any investment decisions please pay close attention to the following:</em></p><ol><li>This is a marketing communication. The analysis is published for informative purposes only and are in no way to be construed as investment advice or recommendation. 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