The Fed vs. Stocks: What Traders Need to Know Now

Traders should keep in mind the rules set down by the late, great Marty Zweig right now...

Especially with the Federal Reserve's September meeting underway.

Zweig got rich the way many folks I've met over the past couple of decades expect to get rich, but rarely do: by being a brilliant stock trader.

Zweig's uncle reportedly bought him six shares of General Motors (GM) as a gift when he was 13. He decided right then that he'd be a millionaire someday.

After earning a doctorate in finance from Michigan State University, Zweig went on to publish an advisory called The Zweig Forecast. It generated returns of 15.9% per year for 15 years, starting in the inflation-ravaged sideways market of the 1970s. That'd make you nine times your money – not bad!

Zweig went on to win many more accomplishments. He published a popular book, Winning on Wall Street. He started a thriving asset-management business that made him very wealthy. And he appeared many times on the popular TV show Wall Street Week with Louis Rukeyser.

He's hailed among traders as one of the all-time greats.

How did he get there? We have some idea from the system he followed.

Right now, asset prices may be reaching a turning point that could surprise many traders... thanks to the Fed's next move on interest rates.

That means it's crucial to prepare – and to understand how Zweig might view this point in the markets today.

Marty Zweig's First Rule: The Trend Is Your Friend

Zweig is known best among market professionals for his list of rules, sometimes called his "commandments"...

He came up with 17 rules in all. I recommend googling the whole list. There's a lot of experience and wisdom packed into it – but we don't have the time or space to share the whole collection today.

Instead, I want you to focus on a few of Zweig's rules that are especially important to traders right now.

His first rule is perhaps the one you'll hear most often...

The trend is your friend, don't fight the tape.

In other words, if the stock, index, or commodity you're trading is in a clear uptrend, stay long and don't try to short it.

The second rule hammers this point home, too...

Let profits run, take losses quickly.

We've interviewed dozens of traders on the Stansberry Investor Hour podcast. Every single one of them gives us their version of these two rules.

They always prioritize risk management over trade selection ("take losses quickly"). And nearly all of them attempt to time a favorable entry and exit ("let profits run").

Another Zweig rule describes the first one in a different way...

The cheap get cheaper, the dear get dearer.

It reminds me of what investing legend Warren Buffett wrote in his 1979 Berkshire Hathaway shareholder letter (emphasis mine):

Both our operating and investment experience cause us to conclude that "turnarounds" seldom turn, and that the same energies and talent are much better employed in a good business purchased at a fair price than in a poor business purchased at a bargain price.

Buffett and Zweig are both telling us that stocks tend to get cheaper for a reason... And betting against that reason is risky and difficult.

It's surprising that such similar insights come from a short-term trader like Zweig and a "forever" equity holder like Buffett. To me, it suggests that they share a firm core principle.

You could probably express that same core idea in many ways. As for me? I'd say, no matter what kind of investor you are, focus on the highest-quality businesses...

And I suspect focusing on high-quality stocks will be especially important over the next several years.

To see why, let's think about another Zweig rule...

Why Low Interest Rates Don't Always Mean Rising Stock Prices

In addition to not fighting "the tape" (i.e., the trend), Zweig also recommends...

Don't fight the Fed (less valid than #1).

I've heard this rule many times. But nobody ever mentions that last parenthetical statement that Zweig thought important enough to include.

He seems to be saying that, if betting that the trend will continue means betting against the Fed, then you should keep betting on the trend. And if not fighting the Fed means betting against the trend, don't do it.

It makes you wonder... Why include the Fed rule at all, only to immediately say that it's less valid than sticking with the trend?

I can't answer that. But I can make an educated guess, based on three relevant data sets: the federal-funds rate, the S&P 500 Index, and the occurrence of recessions.

Zweig thrived and became highly successful in the '70s, '80s, and '90s. That period included five recessions, the last of which ended in 1991.

As the chart shows, the fed-funds rate was lower at the end of each of those recessions, and stocks fell during each of them. In other words, contrary to what everybody and his brother believes today, Fed rate cuts accompanied a falling stock market. Take a look...

This suggests that, during Zweig's heyday, fighting the Fed and fighting the tape were the same thing... so not doing one meant not doing the other.

The chart also shows why Zweig would pick the trend over the Fed, if a choice had to be made...

You can see how stocks tended to rebound before the end of the recession. That's when you'd prioritize sticking with the trend – and not worry about whether you're fighting the Fed or not.

Like I said, I'm only guessing at the origin of these two rules. But it does seem plausible based on history.

Nowadays, "don't fight the Fed" has a different meaning. Folks today associate Fed rate cuts with rising markets. That's why many investors are hoping the Fed might make a larger-than-expected rate cut at its meeting this week.

It's normal – and has been for years now – to believe that low rates mean rising asset prices.

That brings us to one more Zweig rule...

Adapt to change.

Folks forget that the "normal" of recent years wasn't always the norm... And it might not be forever. In fact, the idea that low rates accompany rising markets is already showing signs of stress.

The Fed cut rates three times last year... in September, November, and December. While the Fed sets short-term rates, the market sets long-term rates based on its own expectations.

You can see what the market for long-term rates thought of the Fed's three rate cuts last year...

As the Fed cut rates three times, the market pushed the 10-year yield from below 4.0% to as high as 4.8% by January of this year – its highest level since November 2023. And today, the long-term rate is still higher than it was before the Fed cuts.

Short-term and long-term rates don't always move together, and it's important to know which way each one is going at any given time.

The Fed's September Meeting: What Traders Should Watch

The bond market pushes rates higher when it's afraid inflation will erode the value of the bond's principal and effectively lower the real (inflation-adjusted) yield of the bond.

Gold and silver prices have surged upward, too – another common trend when investors are looking for assets that hold value...

Since the start of the year, gold is up about 40%, and silver is up about 47%. The VanEck Gold Miner exchange-traded funds (GDX and GDXJ) have both more than doubled in that period.

It sure seems like the market is expecting some kind of inflation. Asset prices are higher, as we've just noted. And even consumer-price inflation has been higher for longer than most folks realize...

The Fed's inflation target is 2%. The Fed's favored inflation gauge, the core personal consumption expenditures index, has been rising at more than 2% since March 2021 – four and a half years. Even though it has fallen consistently from its February 2022 high of 5.6%, it has been rising since April, from 2.6% to 2.9%.

That makes this week's Fed's meeting particularly interesting for traders...

The more folks have come to believe the Fed will cut rates, the more stocks have rallied...

The S&P 500 is up 33% since the "tariff tantrum" bottom on April 8. The Nasdaq Composite Index is up 46%.

But what happens if the Fed cuts rates and the 10-year yield rises sharply as it did last year? With stocks at all-time-high valuations by many measures, they seem more vulnerable to a correction.

Compounding the difficulty for traders is the well-known fact that September has historically been the worst month for stocks. The S&P 500 and Nasdaq are both up so far this month.

Will the Fed's cuts goose long-term rates and push stocks down sharply... keeping September's well-deserved reputation intact?

And will that downturn morph into a new downtrend that traders will want to stick with?

If so, it could mean a return to the trends of Zweig's time... when falling rates also meant falling stock prices.

I won't make a prediction. But I would suggest focusing on high-quality businesses that will perform well whatever comes. And I highly recommend that traders heed Zweig's rules today...

Watch the trend, watch the Fed, and be ready to adapt to change.

Good investing,

Dan Ferris