Huge Bearish Divergence on Dow Jones Calls for Caution on the Long Side

Dow Jones New York Stock Exchange
Dow Jones

Dow Jones shot higher on the news that the Fed is willing to let inflation exceeding 2%. By changing its price stability mandate, the Fed sent a dovish message to the markets. Effectively, it means lower rates for longer – bullish stocks, bearish USD.

The markets did exactly what the Fed intended – the stocks extended their gains, while the USD tumbled. If the USD had a bounce yesterday and the bulk of selling resumed today, the Dow Jones index added points continuously, stalling at 28,750.

How Does the Fed Mandate Changes?

By signaling its willingness to let inflation shoot higher, the Fed also alters its employment mandate. Unlike other central banks, the Fed also looks at job creation before changing the federal funds rate.

Therefore, lower unemployment alone will not be sufficient for the Fed to send a hawkish statement. Also, higher Personal Consumption Expenditure (PCE) (i.e., the Fed’s favorite metric for inflation) than 2% will also not trigger a change in the Fed’s communication. Instead, persistent inflation above 2% that makes the average inflation rising, will warrant a hawkish tone.

Dow Jones Technical Analysis

Despite the dovish message sent by the Fed, the Dow Jones index managed to put only a marginal new high. Such highs are typical in rising wedges formations. Moreover, when they form against divergent RSI, they signal even further downside.

Dow Jones initially escaped higher after what seemed like a bullish flag. However, the inability to complete the measured move in a timely manner transforms the pattern in a bearish one.

To trade it, consider waiting for the price to break below the lower trendline. On such a move, go short at 28,100 with a stop-loss order at the highest point in the rising wedge formation. For the take profit, use a risk-reward ratio in excess of 1:3, as a rising wedge is often fully retraced.

For more about rising wedges and how to trade them, you may want to consider the trading coaching options available.

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