Tuesday, September 24, 2013

The Morning Call---Fiscal versus monetary policy

The Morning Call

9/24/13

The Market
           
    Technical

            The indices (15401, S&P 1701) were off yesterday.  Short term, the Dow, which had challenged the upper boundary of its short term trading range (14190-15550) and failed, remains within that trading range.  On the other hand, the S&P finished within its short term uptrend (1661-1815).  This leaves the Averages out of sync and directionless on their short term trends.

            Both of the Averages are well within their intermediate term (14856-19856, 1583-2169) and long term uptrends (4918-17000, 715-1800).

            Volume was anemic; breadth was mixed.  The VIX was up 9%, but continues to trade within its short term trading range and its intermediate term down trend.  The long Treasury was up, closing within its short term trading range and its intermediate term downtrend.

            GLD fell, finishing within its very short term, short term and intermediate term downtrends.  For the moment, I am staying away.

            Bottom line: following last Wednesday’s ‘no tapering’ announcement and the Market explosion to the upside, there was almost no follow through---something to which I always pay attention.  As I noted above, the Dow spiked though the upper boundary of its short term trading range, spent one more day above that resistance level then gave back all the ‘no tapering’ advance. 

This lack of follow through doesn’t bode well for further upside and supports my observation last week that with the Averages are near the upper boundaries of 80 year uptrends, the upside seems limited. 

The question is, have the Markets grown suspicious of money for nothing and no longer respond to a very easy Fed monetary policy or is the politicians’ persistent desire to commit fiscal hari kari overwhelming the QEInfinity jigginess?

If stocks continue to the upside, our Portfolios will use the advance to lighten up on any stock trading in its Sell Half Range.
   
            Bull market corrections (short):

            A look at the ‘down Friday/down Monday’ indicator (short):

            Percentage of stocks above their 50 day moving average (short):

    Fundamental
    
     Headlines

            Yesterday’s US economic news was mixed: the August Chicago Fed National Activity Index came in better than expected but the September Markit PMI manufacturing index disappointed.  Overseas, the news was upbeat: Merkel won the German elections, which means the EU can now return to working its way out of its sovereign/bank debt problem; aiding that effort, the EU composite PMI was ahead of estimates; finally, the Chinese flash PMI hit a six month high.  In sum, the economic news flow was sufficiently positive to give the Market an upward bias.

            Unfortunately, our ruling class commands the headlines.  At the moment, that includes the rapidly approaching deadlines for the continuing resolution and the debt ceiling, complicated by the FY2014 sequester and the drive to meaningfully address the unworkability of Obamacare---which, as you know, is the pin in the budget grenade right now.  All the back and forth acrimony raises concerns that ultimately there is some kind of government shutdown or even worse a default on our debt.

            I doubt that any of the worse case assumptions will materialize.  These clowns invariably take the fight right up to the edge of the cliff, then find someway to avoid disaster.  To be clear, I am not suggesting that any solution will be anymore fiscally responsible than the other policies that they have saddled the electorate with over the past decade.  In the end, I expect a lot of sound and fury that will accomplish little other than kicking the can down the road.  But that is our forecast; so I am not getting all that nervous about the upcoming internecine cat fight even if it results in a short term government shutdown. 

To be sure, a default on the debt or a downgrade of the US credit rating would be much more worrisome---the real negative consequences coming in the form of a higher risk premium imbedded in US government debt, raising, perhaps dramatically, its funding costs which means bigger deficits, more debt, an enormous unrealized loss on the Fed’s balance sheet and higher interest rates and taxes for you and me.

In addition, Fed officials spent the day seemingly trying to walk back Bernanke’s QEInfinity comments last week.  What in the world is going on ?  I am amazed that a Fed that professes to be the most transparent in history is so oblique.  Making multiple conflicting statements simultaneously is worse than saying nothing.  That said, it really doesn’t matter what these yahoos are saying because in the end, all that does matters is the risk associated with a massively overextended Fed balance sheet and the Fed’s historical ineptness at transitioning from easy to tight money.  That risk is alive, well, will likely end very badly and is by far the greater threat than fiscal policy to the economy, in my opinion.

Bottom line: despite the attention being given to the fiscal policy circus,  I think it a sideshow to the growing disaster that is monetary policy.  Yes, we might get a government shutdown (I would rejoice); and we might even get a technical default on US government debt and a downgrade in our credit rating.  Certainly, that would not make great reading especially with the media likely to go over board to paint it as the GOP’s fault.  But in the end, the politicians usually manage to come up with some sort of half assed remedy that keeps the country functioning simply because their ideological differences are not as important as facing the electorate (keeping their jobs).

On the other hand, the Fed has no such problem.  It is free to pursue its ivory tower Models with no negative consequences even if those Models prove inadequate and lead to serious unintended consequences.  I am not suggesting any deliberate malfeasance on the part of the Fed; I am suggesting intellectual hubris.   In the current circumstance, barring some near term epiphany,  I believe that the only way this massive, misguided expansion of the Fed ‘s balanced sheet ever stops is for the Markets to hold the Fed to account; and as I have said, I don’t want a heavy equity exposure when (not if) that happens.  The question now is, how long will money for nothing dominate investor sentiment before they start discounting the inevitable? 

.......in my opinion, that stocks are way over valuing the likely earnings that can be produced from an economy on the current trajectory of the US.
             
            The impact of tapering on risky assets (medium):

            The real taper problem (medium):

            Update on the ‘misery’ index (short):

     Investing for Survival

            Nine things investors don’t need (medium):





Steve Cook received his education in investments from Harvard, where he earned an MBA, New York University, where he did post graduate work in economics and financial analysis and the CFA Institute, where he earned the Chartered Financial Analysts designation in 1973. His 40 years of investment experience includes institutional portfolio management at Scudder, Stevens and Clark and Bear Stearns. Steve's goal at Investing For Survival is to help other investors build wealth and benefit from the investing lessons he learned the hard way.

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