Why The Market Should Not Expect A Bounce If A Fiscal Cliff 'Compromise' Is Reached

Tyler Durden's picture

As earnings season is upon us, we will no doubt hear that expectations are so low that the market has it all priced in and upside is the only way to go (apart from the fact that Q4 expectations remain in the land of faeries and unicorns). Of course Q4's hockey-stick is critically going to depend on the fiscal-cliff - post-election. As we noted here, there are few positive outcomes from the fiscal cliff 'negotiations' with even a best-case 'possibility' of a 0.9% fiscal drag in the first half of 2013. Using trend growth of 3%, and Goldman's estimate of around a 4% drag (lower than the 6-plus% drag the CBO estimates), we can work back from the consensus 2.05% GDP growth for 2013 to figure what the market's priced in probability of a fiscal-cliff resolution is. It would seem the market is more than happy to almost entirely dismiss the fiscal cliff. Back of the envelope math implies only a 1.5% probability of the full fiscal cliff impact and therefore any expectation of an equity market rally on hopes of a compromise seem far-fetched with well over 95% priced in currently.

  • Trend GDP growth ~3%
  • Consensus 2013 GDP growth 2.05% (via Bloomberg)
  • Goldman compromise fiscal drag estimate -0.9%
  • Goldman full fiscal cliff drag estimate ~-4.0%

Implies a 1.5% chance of full fiscal cliff OR 98.5% probability of compromise is priced into estimates...


We used Goldman's estimates in the above calculation (from here) but the CBO's estimate (seen here via UBS) are even higher and thus mean the market is pricing in even lower odds of a fiscal cliff scenario...

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Conman's picture

By markets do you mean algos? Becuase algos can ramp up 50 es poitns in a millisecond on every spain is bailed out rumopr headline. Of course fiscal cliff solvedd headline will also make the algos shoot electrons all over thier bits.

SeverinSlade's picture

I don't see a happy ending for the Fiscal cliff. 

If Obama defeats Romney (as I am expecting), then the Republicans will certainly have sour grapes and have absolutely zero reason to come to a quick compromise.  Instead, Republicans will likely drag it on to the last second (as they did with the debt ceiling last year).  If there is no agreement, Republicans will spin it as the Democrats wanting to raise your taxes.


DoChenRollingBearing's picture

That seemsto be a relatively likely scenario.  I don't see a happy ending to the Fiscal Cliff nor to a happy ending to ALL of our other financial problems.

knukles's picture

You guys have to quite being so cynical and things'd get better.
                  - Timmah, Benji, Yomomma and Bozo

fuu's picture

If people would just exercise more, eat better, and make more money things would be better too.

True.North's picture

Bernanke is going to keep this thing levitated through the fiscal cliff at all costs. There won't be a rebound because he won't allow a pullback.

The market has not operated on fundamentals for a while, why start now?

SeverinSlade's picture

Action never comes from Congress nor from the Fed without FEAR.  Why come to a deal with the S&P around 2012 highs?

There will be some sort of panic.  Who knows what will be the catalyst.  My guess is that S&P downgrades the US yet again due to "political gridlock" just as it did in August 2011.

oldman's picture


In reading this commonly asked question:"Why come to a deal with the S&P around 2012 highs?", I have to laugh at our thinking on this and how low our expectations are, as the 'governed', of our 'duly elected government.

WTF does any one vote if expectations are so low of any government that can be elected?

Does this 'democracy'/republic still look anything like a do-able deal to anyone out there?

Thanks for the stimulation of your comment----the question was really to this oldman   om

Quinvarius's picture

Artificial waypoints such as the "fiscal cliff" are useless and undefinable.  The economy will suck until the banks die or they get enough money.  The banks are not allowed to die.  They will keep printing money.  The government will keep borrowing at an accelerated rate.  The Fed will print the money to fund that government borrowing.  If there is a dip buy it.  This is not rocket science.  It is about not deluding yourself.  They are in the process of trashing the dollar so badly that you cannot hold them.

SeverinSlade's picture

Yep, keep BTFD.  It's a can't lose investment strategy, just as buying .com companies in the late 90s was, or buying real estate in the mid 2000s was.  All of those home flippers are gagillionaires right now.



Quinvarius's picture

Says the guy in the dollar bubble.  LOL.  The market is out the top of a ten year basing pattern on triple the money supply, 0% bank credit, and endless printing.  Good luck with your bearish cliches. 

SeverinSlade's picture

And with perpetual QE already being in place, what exactly is left in the Fed's warchest?  If some kind of event (Europe, the Fiscal Cliff, war with Iran/Syria/US downgrade) causes the markets to tumble, what is the Fed to do?  Increasing their monthly purchases seems like the only option left.  Hold on, you're getting a phone call, caller ID says it's the Weimar Republic.

My point was your strategy will work until it doesn't.  When someone is risking their own personal savings in today's algo/central planner market, I think it's wise to not continually go all-in on the ponzi scheme.  Instead just BTFD in PMs.

DoChenRollingBearing's picture

10% of one's wealth in physical PMs is a level that almost any money manager can live with.  Yet only about 1% of American hold investment gold.

Stocks, bonds, etc. (selected) all may have an acceptable return or maybe not.  How do I know/not know?  I have a demonstrated record of not being able to predict the future.

So, diversify!  Real assets (gold, guns, rural property) are all good things to own if you can.

MrSteve's picture

I heartily support your Full Weimar dollar and stocks to da Moon strategy.

Send out emails declaring "pure genius" the instant before the markets and currency simultaneusly implode. The bulls will have foot lockers of worthless cash or 10-digit account balances, all in worthless currency.

Squirreling away a few real assets during the Moonshot would be "prudent", but you don't have to. Really.


nodhannum's picture

Sort of like the Zimbabwe market basing and rising?  Can't we do better than 0% money maybe -5% or so.  That change I can clearly believe in.

Dr. Engali's picture

I wonder what scary meme they will come up with after the fiscal cliff to loot the proles pockets? I say fiscal cliff be damned. Let's do a Thelma and Louise and find out what's waiting for us at the bottom.

The only thing we have to fear is fear itself right?

RSloane's picture

I have a question for you Doc. Do you remember during the onset of the Great Recession the market graphs used to wander around like the flight path of a released balloon? Everyday they rose, dipped, rose, and meandered until the closing bell finished it, then they would resume the following day. I know this is purely subjective, but do you get the same feeling watching them now?

Dr. Engali's picture

Actually it is funny that you said that. When this all started it seemed like  the market was "stretching" I'd come in every day and the market would inch up...up..up. It seemed at the time they were trying to lever it to the max. The market just didn't "feel"right. At the same time I had some "AAA" bonds that I was trying to sell for a client and we couldn't catch a bid for anything. The bid ask spread in the bond market was like something I had never seen before. The difference between now and then , is that I feel the market is "stretching" again but the bond spread is narrow. As far as how the market "feels" It has never been the same since.

RSloane's picture

Thanks, your perspective is always helpful. I hate going on subjective data which should have no place in discussions on ZH, but half of my anxiety 'feels' like deja vu.

Dr. Engali's picture

There is nothing wrong with subjective data. I have found many times over that intuition was better than any chart.

RSBriggs's picture

I've been trading on and off for 30 years now and spent 9 years as a market analyst for Dow Jones.  I got exactly that same feeling on Thursday of last week.     I couldn't put my finger on the cause, nor could I point to any one chart, but my intuition was screaming warnings that raised the hair on the back of my neck.   Something wrong, wrong, wrong here. 

timbo_em's picture

I just saw one of the guys that runs for office talking on CNN and it sounded as if he plans to increase military spending by 20 percent per year - "I want to build 15 ships per year including 3 submarines...strengthen our presence in the middle east..." They're gonna kick the can down the road and deal with the fiscal cliff later. They will continue to do so until they have no other choice.

spinone's picture

The fiscal cliff is self imposed legislation.  It will be legistlated away.

1eyedman's picture

remeber the date that the last debt ceiling deal was reached?  back in Aug 2011?    all was averted on Aug 2....then mkt corrected hard;  but if you look closely enough...you can see the mkt had already started to correct, even thought politicians came through on a plan!  ....check you local listings for a replay post election while congress is getting their black friday deals....we may see a new definition of black friday this year

lolmao500's picture

Latest from capitol hill :


John Boehner wary of lame-duck deficit deal

In an interview here, the Ohio Republican said cobbling together a large-scale deal during the lame-duck session of Congress would not only be hard, but also the wrong thing for the country.

No deal before January! Now if the goddamn rating agencies would do their damn job and downgrade the US again before then, that would be neat.
q99x2's picture

Fiscal Cliff? Is that where Washington DC gets pushed over the precipice to hell.

I wanna watch.

RSBriggs's picture

The fiscal cliff is partially a good thing - we cut 1.2 trillion of spending.  Over 10 years.  (So, all this bullshit is over 120 billion worth of spending cuts that kick in.)

Oh yeah, and taxes go up by about 22% on the middle class when you also take into account the Obamacare increases.  Some taxes go up more than others - taxes on dividends, for example, increase from 15% to 43%, kicking the collective asses of most Florida retirees.  Got to provide them Obamaphones...