Dear Reader,
Stocks slipped further into the red on Monday following a trio of downbeat speeches from Federal Reserve officials.
Monday turned out to be a bad day for stocks, as a disappointing Flash U.S. Manufacturing PMI report from Markit Economics was followed by downbeat speeches from three Federal Reserve Officials.
Although the Markit Flash U.S. Manufacturing PMI for September continued to show expansion, it declined to 52.8 from August’s final reading of 53.1. A result above 50 indicates expansion. Economists were expecting an increase to 54.0.
The financial sector had a tough day after three Federal Reserve officials gave speeches which drove home the point that the taper did not begin this month because the economy is still in bad shape. New York Federal Reserve President (and FOMC member) William Dudley spoke at the Fordham Wall Street Council and delivered a message based on the following theme:
In my view, the economy is slowly healing. But, while significant progress has been made since the end of the recession, there remain a number of headwinds that have offset the improvement in the underlying fundamentals. As a result, we have yet to see any meaningful pickup in the economy’s forward momentum.
Atlanta Federal Reserve President Dennis Lockhart (who is not an FOMC member) delivered a speech entitled “Is the U.S. Economy Losing Its Dynamism?” Here is his answer:
The question I posed at the outset was whether the economic dynamism of the United States is declining. Is America losing its economic mojo? There is some evidence to the affirmative. I believe some of what we observe can be explained by the recent recession and frustratingly slow recovery.
Dallas Federal Reserve President Richard Fisher is an FOMC alternate. Fisher was particularly annoyed by last week’s FOMC decision against the “Septaper”. Fisher concluded his speech before the Independent Bankers Association of Texas with his opinion about the “taper caper”:
Today, I will simply say that I disagreed with the decision of the committee and argued against it. Here is a direct quote from the summation of my intervention at the table during the policy “go round” when Chairman [Ben] Bernanke called on me to speak on whether or not to taper: “Doing nothing at this meeting would increase uncertainty about the future conduct of policy and call the credibility of our communications into question.” I believe that is exactly what has occurred, though I take no pleasure in saying so.
Why I Believe the Fed Made the Wrong Decision
The Dow Jones Industrial Average (NYSEARCA:DIA) lost 49 points to finish Monday’s trading session at 15,401 for a 0.32 percent decline. The S&P 500 (NYSEARCA:SPY) fell 0.47 percent to close at 1,701.
The Nasdaq 100 (NASDAQ:QQQ) declined 0.17 percent to finish at 3,219. The Russell 2000 (NYSEARCA:IWM) dipped 0.06 percent to end the day at 1,072.
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On My Stock Market Radar
In the chart of the Dow Jones Industrial Average (NYSEARCA:DIA) above, we can see how the index rocketed to new levels and now has fallen back to create a double top resistance formation just below the 15,700 level.
Overbought conditions have declined with RSI dropping back into the 50s on the late week action, and upward momentum is also slowing.
Last week was much like many recent weeks in which market action was “all about the Fed, all the time,” and Dr. Bernanke’s Wednesday surprise announcement regarding “taper off” was a blockbuster.
There are several ways to look at this change in Fed direction:
1. It could be good news for global markets as they have become totally addicted to easy money from the Federal Reserve. Much of the last four year rally has been labeled “The Bernanke Rally” and so “taper off” could mean that the party will continue.
2. It could be bad news for the economy as the Fed continues reducing its growth forecasts and leaves the full quantitative easing in place to offset fears of recession or deflation. Can the U.S. economy survive without quantitative easing and zero interest rates? What is the Fed afraid of?
3. It could be bad news for the Fed, financial markets and the global economy as perhaps the Fed has put itself in a box from which there is no escape. If they taper, interest rates are likely to rise which could further slow the economy or trigger a new recession. If they don’t taper, they run a significant risk of creating bigger asset bubbles that will eventually correct regardless of Fed action or inaction.
4. It could be bad news for everyone as the Fed seems to have no real plan or timetable regarding what to do next. For months, Dr. Bernanke and his colleagues have been conditioning markets to the idea of a taper of quantitative easing and then confused everyone on Wednesday when they didn’t carry through.
Further confusion came later in the week when Fed Presidents James Bullard and Esther George offset Wednesday’s decision with comments that the taper could come as soon as October (Bullard) and that it was a mistake and a credibility hit not to taper (George).
The Dow Jones Industrial Average (NYSEARCA:DIA) also underwent some major changes this week as Hewlett Packard (NYSE:HPO) Bank of America (NYSE:BAC) and Alcoa (NYSE:AA) departed the index and were replaced by Visa (NYSE:V) Nike (NYSE:NKE) and Goldman Sachs (NYSE:GS)
Other news makers were Blackberry (Nasdaq:BBRY) which got pummeled after a poor earnings report and news that it was laying off more than 1/3 of its workers.
Caterpillar (NYSE:CAT) dropped 3.4% on Friday on a poor global sales report.
Stock Market News You Can Really Use
Economic news was mixed with single family starts rising, along with August existing home sales.
The Philadelphia Fed report took a huge jump to 22 from last month’s 9 and widely beat expectations.
The Empire Index fell while leading indicators advanced and retail sales in Britain declined.
Jobless claims rose but much of that was reportedly due to a computer glitch which caused last week’s numbers to be understated.
Stock Market Hotspots Ahead
Now that the long awaited “taper or no taper” announcement has been made, financial markets are looking ahead to see what the reaction will be to the surprising news. Is it good or bad news? Will the “Bernanke Rally” continue? Has the Fed lost control of the bond and stock markets?
All of this will become clear in the days and weeks ahead, and the next major hotspot is the rapidly approaching deadline for funding the Federal government (October 1) and the deadline for raising the debt ceiling which is forecast to be breached sometime in mid-October.
This is shaping up to be the usual partisan battle as the House passed a bill tied to defunding Obamacare which Senator John McCain called a “political suicide note.” The Democratic Senate says “no way” and President Obama says “no” to budget negotiations and so the two sides are digging in for some significant brinkmanship over the next month or so.
While no one really expects a government shutdown or default, the last time Congress and the White House went down this road, we got sequestration and a decline in the Dow Jones Industrial Average (NYSEARCA:DIA) from approximately 12,600 in June, 2011, to 10,700 in October, 2011, a drop of some 15%.
Other news makers this week will be a full calendar of economic reports:
Monday: Markit Flash PMI
Tuesday: Case/Shiller Home Price Index, consumer confidence
Wednesday: durable goods, new home sales
Thursday: GDP revision, jobless claims
Friday: consumer income, consumer spending, University of Michigan consumer sentiment.
Bottom line: Global financial markets face massive uncertainty between now and December. The debate over funding the government and raising the debt ceiling will reach fever pitch over the next thirty days and investors will be looking to the October and December Federal Reserve meetings for more hints regarding quantitative easing. Also, a successor to Dr. Bernanke, presumably now Janet Yellen, will be announced sometime in the next two months.
The health of the global economy and the outcome of the conflict in Syria remain in doubt and so markets have an exceedingly steep “wall of worry” to climb between now and the end of the year. While uncertainty abounds, perhaps the only certainty is that more volatility can be expected. Wall Street Sector Selector remains in "yellow flag" status, expecting choppy conditions ahead.
I had some outpatient surgery early this week, and there's nothing like hanging around the hospital for a day to make one appreciate good health and the importance of things like exercise and diet to maintain it. While it's nothing serious and I'm on the road to recovery, I'm laying low this weekend and certainly agree with the old joke that "it's minor surgery except when it's on me."
Have a great weekend, and we'll talk tomorrow night.
September 23, 2013 
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