Week Ahead: Will Fed Provide Markets With Stimulus?
The Stock Market: Bucking the Historical Trend!
Wall Street: Bernanke Input -- Good News Is Good News And Bad News Is Good News!
by Ian Harvey
September 08, 2012
At the start of the historically weakest month for equities there are plenty of reasons to believe stocks may be just about reaching a top - at least in the short term.
The S&P 500 has surged 14 percent this year and is at its highest level in more than 4 years. Not counting 2009 when equities rebounded from their crisis lows, this could be the best year for stocks since 2003 - nearly a decade.
The markets will be laser focused on the Federal Reserve in the week ahead, anxiously awaiting word on whether the central bank will initiate another round of economic stimulus.
The 'Federal Open Market Committee - FOMC', which sets most Fed policy, is meeting Wednesday and Thursday and a statement is due at the end of the second day. Fed Chairman Ben Bernanke will hold a press conference Thursday afternoon.
Stock markets are all hoping for another round of quantitative easing, in which the Fed buys U.S. securities in an effort to goose the stumbling U.S. economy. Friday’s dismal labor report which revealed that just 96,000 jobs were created in August only boosted hopes among investors for QE III.
The Fed could also extend programs already in place, such as historically low interest rates, rather than pull the trigger on more full-blown stimulus. Markets will certainly be disappointed by anything less than QE III, however.
The expectations for central bank intervention, both from the Fed and the European Central Bank, had fueled a rally that took the S&P 500 to its highest level since January 2008 on Thursday and pushed the Nasdaq to a 12-year high.
The gains were fueled by the ECB's decision to launch a potentially unlimited bond-buying program to lower struggling euro zone countries' borrowing costs.
There appears to be plenty of demand for stock, particularly after the ECB announcement, and then a very weak jobs report, but the market manages to follow-through! Leading stocks continued to make new highs. The banks were up three days in a row, showing power.
Stocks held steady at four-year highs on Friday, closing out their best week since June as a sharply disappointing jobs report only fueled expectations that the Federal Reserve would act to stimulate the economy in the week ahead.
The S&P closed higher but strength in both the Dow and Nasdaq was limited by blue-chips Intel and Kraft, both of which warned on their profit outlooks.
The August nonfarm payrolls report showed job growth of only 96,000, well under the 125,000 expected. That added to hopes the Federal Reserve will announce additional stimulus after its policy meeting ends Thursday, but investors could be in a holding pattern until then.
Thanks to Thursday's big rally, the week was a winner after two weeks of small declines.
• The Dow Jones Industrial Average (DJI) was up 1.7 percent to 13,306, the highest level since Dec. 28, 2007. For the year, the Dow has gained 8.9%
• The Standard & Poor's 500 Index (SPX) was up 2.2 percent for the week to 1437, the highest level since January, 2008. For the year, the S&P 500 has added 14.3%.
• The Nasdaq Composite Index (COMP) rose 2.3 percent to 3136, its best level since November, 2000. For the year, the Nasdaq was up 20.4%.
The CBOE Market Volatility Index (VIX), widely considered the best gauge of fear in the stock market, continued its recent downtrend, slipping 1.2 points on Friday, or 7.8%, and landing at its lowest point since Aug. 21. The market's fear gauge buckled 17.7% for the week.
**For a more in-depth look at the past week…..CLICK HERE…..**
The Major ETFs in the Past Week
Stocks jumped up this past week, especially on September 6 when the indexes climbed near 2%. For some of the major index Exchange-Traded Funds (ETFs), that was enough to push them just above resistance levels. However, other index ETFs remained below resistance, but was close to it. As mentioned in prior weeks, this is a pivotal area for stocks. How the market reacts in this area is likely to dictate the next major move that's to occur, and whether it is to the upside or downside.
TOP OPTIONS TRADES SINCE JULY 01, 2012
|DLTR Aug 110 Calls||32%||UIS Oct 17 Calls||79%|
|HSY Aug 70 Calls||56%||TSO Nov 25 Calls||54%|
|NKE Oct 92.50 Calls||49%||HLF July 47.50 Calls (again)||38%|
|FB Aug 25.00 Puts||500%||DISH Sept 30.00 Calls||100%|
|APPL Jan 13 650.00 Calls||71%||CSTR Oct 42.50 Puts||400%|
|LNKD Aug 92.50 Puts||30%||LNKD Aug 100.00 Calls||250%|
|SLV Nov 30.00 Calls||114%||JCP Nov 25.00 Calls||67%|
|GLD Nov 165.00 Calls||72%|
Elections and the 5% POP!!!
There is concern the election season will become increasingly volatile for stocks, and the market could get slammed in the fourth quarter if Congress does not act to resolve the "”fiscal cliff”. The fiscal cliff describes the hit the economy would take if Congress fails to stop the expiration of the Bush era tax cuts Dec. 31, or prevent a wave of automatic spending cuts that would take effect Jan. 1.
However, this scenario is not the most likely. Instead, the market may be acting as it historically has when a presidential election is a close call – even though the election has not played much of a role at the moment.
Historically, in all those close elections, what typically happens is the market is essentially flat September and October going into the election, and then you see a very robust five-percent increase between Election Day and year end.
Therefore, we should get the typical five-percent pop -- the election could provide more “pop” if Republicans win the presidency or take control of the Senate from Democrats, as they are viewed as better for the stock market and could make clear moves to avoid the fiscal cliff.
The S&P 500 and Earnings for the Stock Market
The S&P 500 is now trading at 13.3 times its forward earnings estimates, meaning investors are willing to pay just over $13 for a dollar of expected earnings from S&P 500 companies.
Although that is below a median forward price-to-earnings ratio of 13.7 since 1976 - according to Morgan Stanley - it is close to the upper end of the range in the low-growth post crisis era of the last 5 years. During that time there has been a median price-to-earnings ratio of 12.9, according to Thomson Reuters data.
In fact, the recent price-to-earnings high was 13.5 in February 2011, just above current levels. If you are of the view that little has changed since then, there is no reason for the ratio to go much higher. That combined with a slowing earnings picture inevitably means lower prices.
The average analyst estimate for the S&P 500 this year is 1,383 according to a Reuters poll from the middle of the year. The S&P's performance has already outstripped most expectations.
Another negative factor is the rapidly declining earnings outlook for the remainder of the year, as well as for 2013. Analysts are now expecting a 2.1 percent drop in third quarter earnings year-on-year. About a year ago they were looking for growth of nearly 15 percent.
Many analysts have cut their S&P 500 earnings outlook due to a weaker U.S. economic outlook, conversion distortions from a stronger dollar, as well as weaker oil prices.
Signs are that those forecasts are already starting to come true.
On Tuesday last week, FedEx Corp (FDX), the world's second-largest package delivery company, cut its profit outlook for the current quarter, saying weakness in the global economy was hurting demand for overnight international shipments.
Three days later, Intel Corp (INTC) cut its third-quarter revenue estimate due to a decline in demand for its chips, as customers reduce inventories and businesses buy fewer personal computers. A revision of Intel targets had been expected by some analysts after PC makers Hewlett Packard Co (HPQ) and Dell Inc (DELL) warned of slow demand last month.
However, while investors are focused on monetary policy, it is a belief that these weak earnings results will contain a market advance.
The Major ETFs in the Week Ahead
It was a strong week for stocks and all the ETFs remain in uptrends since June. Not all the ETFs have cleared resistance to a significant degree though, which means that there is still the possibility that this rally could stall out very close to current levels.
On the other hand, if all these ETFs clear that resistance, it is a strong signal that this market has more upside left. A breach of support warns that the bullish tone may be changing, and given the importance of these current levels such a warning deserves attention in the week ahead.
The Dow Jones Transportation Average Causes Concerns
Last week’s strong action has improved the technical outlook, which had deteriorated in August, but it is still not looking as strong now as it did during the fall of 2010 or 2011.
Of particular concern in the week ahead is the weak action in the Dow Jones Transportation Average, which up through last Thursday’s close, was only up 0.5% for the year compared with an 8.8% gain in the Dow Jones Industrial Average.
The chart of the Industrials shows a pattern of higher highs going back to 2011 (line a) as it is very close now to the highs that were made in early May. The weekly chart also shows a clear pattern of higher lows, which puts it in a clear uptrend.
The Dow Jones Transportation Average started to diverge in early 2012 and shows a pattern of lower highs, line b. The failure of the Transports to confirm the Industrials may warn of future economic weakness which could mean that the rally in the Industrials is not sustainable.
The Transports have been leading the overall market higher from the March 2009 lows until the July 2011 highs (line 1).
The Dow Transports were much weaker during last summer’s decline and have never recovered. The key support level to watch is at 4850 as a weekly close below this level would confirm a new downtrend in the Transports.
• The German Constitutional Court decision on whether the country can legally get involved with all the European debt resolution plans on Wednesday. The betting is the court will support the participation.
• Second is the FOMC meeting, which starts Wednesday. It will end Thursday with a decision on whether to do another round of stimulus. It will probably include the Fed's vowing to keep interest rates at "exceptionally low levels" into 2014.
The Fed will announce its decision late Thursday morning, and Chairman Ben Bernanke will hold a news conference at 2:15 p.m. ET. Therefore, expect this week’s markets to be especially vulnerable to some wide swings. Last week’s strong action has improved the technical outlook, which had deteriorated in August, but it is still not looking as strong now as it did during the fall of 2010 or 2011.
Earnings in the Week Ahead
On Wednesday tech giant Apple (AAPL) is expected to unveil its next model iPhone, apparently dubbed iPhone 5. Apple has been on a roll recently, both the company and the stock. A successful launch of its latest version of the smartphone could extend Apple’s dominance of the lucrative mobile technology market.
Economy in the Week Ahead
The last two days of the week are likely to carry the most weight in terms of the economy. On Thursday, we have the jobless claims and Producer Price Index, followed by the FOMC announcement.
The Consumer Price Index is out Friday along with Industrial Production, and the August data on Retail Sales which were up in July for the first time in four months. Also being released is the mid-month reading on Consumer Sentiment from the University of Michigan which may be impacted by last Friday’s jobs report.
Consumer spending is an important force for the economy in the last part of the year and the retail sector is typically seasonally strong from September through Christmas.
The National Federation of Independent Business will release its Small Business Optimism Index on Tuesday. On Wednesday, import and export data will be released, providing a look at inflation.
Meanwhile, the European Central Bank’s announcement Thursday of the past week, of a bond-purchase program aimed at lowering borrowing rates for cash-strapped countries helped give a lift to risk assets, and the focus now shifts to a German court ruling Wednesday on whether Europe’s ESM bailout fund is constitutional.
The chances of the Federal Reserve embarking on another round of bond purchases in the week ahead has jumped after the disappointing August U.S. employment numbers on Friday, according to a Reuters poll of economists.
The median of forecasts from 59 economists gave a 60 percent chance the Fed will announce another round of quantitative easing, or QE3, on Thursday.
Even with the less than stellar fundamental picture, the old saying 'don't fight the Fed' has proven to be true once again.
For the last 40 years the ”MSCI World Index .MSCIWO” has lost 0.9 percent on average in September, making it the worst performing month for the stock market, according to data from Thomson Reuters. So far the index, a broad measure of global equities, is up 2.6 percent this month.
Further Articles Relating to the Week Ahead
1. The Economy and Earnings in the Week Ahead – September 10, 2012
2. The Past Week Stock Market Results – September 10, 2012
3. The Major ETFs in the Week Ahead – September 10, 2012