QE-Cating

QE-Cating

Excerpts from this week's Stock World Weekly 

Good week for the bulls - the major indexes were all up between 2.0% and 2.8%, capping the third consecutive week of gains. Investors saw some powerful signs of positive activity in the economy. For example, initial unemployment claims dropped a stunning 50k in one week. Conversely, the fact that this earnings season has seen the lowest percentage of companies beating expectations since Q3 2008 supplied some powerful ammunition for the bears, although the bulls still had it. (Earnings beats falling behind previous quarters)

We ended last week’s newsletter, “Cracks in the Facade” discussing the possibility of additional easing by the Fed, which would likely prove bullish for the markets. Quoting Phil, “It seems like a lot, but we're back to 760 on the RUT, which was our test line going the other way last week, and we still haven't filled the gap up from Monday's close, about another 1% down. Let's keep it in perspective though – we're up from 1,200 to almost 1,300 on the S&P in less than a month. So a 20-point pullback to 1,277 would not be very bearish in a longer-term trend and, if we get volume and hold it, it's actually a bullish confirmation...

“So, let's look for the gap fills to hold (worst case) at 12,350 (Dow, oops), 1,277 (S&P 500), 2,675 (Nasdaq), 7,575 (NYSE) and 750 (Rut)... Gold was $130 dollars cheaper so we'd like to see $1,550 there, and Doctor Copper was $3.30 and that better hold up. XLF was down at $12.21 last month – I think anything below $13 would be a sign that something is terribly wrong while holding $13.50 (which will be a good trick next week) would be a bullish sign.”

The indexes we track finished this week above Phil’s targets, and XLF finished this week at $14.14. This would normally be very bullish if it wasn’t for the notable lack of volume, which is a warning sign. As the old saying goes, “volume equals validity” in the markets. Without volume, a rally becomes difficult to believe in. As thetechnicaltake observed,

“While we can debate the state of the economy and the importance of valuations, we cannot debate the shrinking and absent volume. It is an unarguable fact. So is price, and right now that is all that matters and all that investors see. But the volume will matter someday. It usually does when you least expect it.” (Houston, We Have a Problem

Screen Shot 2012-01-22 at 2.11.20 PM

A possible explanation for this week’s bullish run would be heightened expectations of an additional round of quantitative easing from the Fed (QE3). Rumors this week were pegging the size of the program to be as large as $1Tn. (Fed’s Latest Easing Could Cost $1 Trillion: Economists)...

But perhaps most importantly, liquidity flows are positive. According to Lee Adler of the Wall Street Examiner,

“Liquidity flows in the US branch of the system have been turning more bullish in recent weeks. Several indicators that had been neutral or bearish have turned bullish, joining deposit flows into the US banking system (apparently from EU) which have been the lead bullish sled dog for a while. In this liquidity based model of the market, there is no way the markets can decline as long as this continues.” (Liquidity is Bullish is All) 

Greece was back in the news, as Moritz Kraemer, head of S&P’s European sovereign ratings unit, was on Bloomberg TV this Monday claiming, “Greece will default very shortly. Whether there will be a solution at the end of the current rocky negotiations, I cannot say.” (Europe: They Are Actually Going To Let Greece Default?)

Negotiations continued all week, with negotiators for Greece’s private creditors leaving Athens this Saturday without a deal being made. This makes it very unlikely that an agreement will be completed before the meeting of eurozone finance ministers on Monday. (Greece’s creditors leave Athens, talks to continue)

This week also saw last-minute reversals in a major news story and the (QE) rumor. The news story was reversed when Iran backed down from its earlier threats against U.S. naval forces in the Persian Gulf. The rumor was undermined when Jon Hilsenrath of the Wall Street Journal stated on Friday that the Fed is not planning additional easing.

Mission Impossible

Phil expressed skepticism about the current rally in Wednesday’s article: “Last week I noted that almost half the companies were missing estimates, and yesterday 5 out of 10 reporting companies missed. How is the market up over 20% since the last earnings on these reports? It's because INVESTORS are not playing this market. SPECULATORS are betting on the Fed, the IMF, the ECB, the BOJ, the SNB and the PBOC to flood the World with cash. On that basis alone – they are overlooking overwhelming evidence that the Global Economy is still mired in Recession.”

Investors will be watching next week’s FOMC meeting, with many hoping that Wednesday’s announcement will include some form of quantitative easing. However, Fed-watchers Bruce Krasting, Lee Adler of the Wall Street Examiner and Jon Hilsenrath (with his direct line to Bernanke) have argued persuasively that additional QE is not coming - the economy and the stock market are doing too well to justify it. 

Bruce Krasting wrote about the Fed’s new policy of providing information to the public regarding the direction of US interest rates and his thoughts on additional easing in “Will the Fed Bring Clarity or Confusion?” Examining the situation from all angles, Bruce wrote:

“Next Wednesday, between 12:30 and 2PM, we will get a ton of new information to digest and analyze. The Federal Reserve will make a series of statements while unveiling its new communication effort. A portion of the new information will be contained in the revised Summary of Economic Projections (SEP).

“The Fed has worked long and hard on its new communication policy. The question is, ‘What will people think and how will the markets react?’ I believe that there is a very good possibility that the Fed's plan will add to uncertainties regarding monetary policy. Contrary to its objectives, the new "openness and clarity" may end up causing the confusion.

“The Fed will provide information regarding its members’ thinking on the future size of the Fed’s balance sheet (BS). This is critical. We might see a consensus view that the Fed’s balance sheet will grow another 25% over the next 18 months. That would bring this headline:

“Fed Signals Another $1T of QE - Stocks rise sharply. Oil, copper, gold see largest one-day rise in two years - TIPs spreads widen to 2.5%

“We could as easily get a consensus opinion that the Fed’s BS will remain unchanged for the foreseeable future. That would also be a shocker:

“Fed Forecasts End of QE - Global stocks in broad retreat - Next move is to tighten?

“The Fed will provide information regarding its thinking on GDP, inflation and the timing of an increase in the Federal Funds rate (new info). This is all potentially explosive data. The Fed's most recent read on the economy painted a somewhat upbeat picture. Almost all the data since then has been on the positive side. While I doubt the Fed will signal that happy days are here again, it would appear likely that a +2.0% growth forecast for GDP is in the cards. How is the Fed going to square this (relatively) upbeat economic assessment with a loose monetary policy that is currently at biblical historic levels? The answer is, ‘It can’t’ - resulting in this headline:

“Fed Predicts Improvement. To Keep Monetary ‘Pedal on the Metal’ - Global Central Bankers Critical, OECD head says, ‘Reckless’ - Dollar in rout, Gold rises $65

“For the Fed to continue ZIRPing, Twisting and QEing, it has to support the policy with a bleak assessment on the economy. A negative outlook is the only scenario that justifies maintaining, let alone expanding, the existing "emergency" monetary measures.

“I think the Fed will hint that monetary contraction is in our future (about a year away, if not sooner). To me, the only circumstance that would avoid this conclusion is if the Fed were to come out with decidedly disappointing expectations for growth and unemployment for the next 36 months...”

 

Lee Adler of the Wall Street Examiner discussed how the situation in Europe is affecting U.S. stocks. The European Central Bank’s (ECB) pumping activities have caused money to flow into the US, and Lee is uncharacteristically bullish based on that trend. In his Professional Edition and in personal communication, he wrote,

“Those who don’t know me well have sometimes accused me of being a permabear. Those of you who do know me via these reports know that I always strive to be just like Faux News, ‘fair and balanced.’ I think this week’s report exemplifies that high ideal. It’s as bullish as I’ve ever been, and yes maybe I should be faded when I start ‘pounding the table.’ But I’m only pounding on what the indicators are showing. There’s certainly no personal bias in this direction...

The world financial system is an over manipulated piece of excrement. But, sometimes manipulation works; sometimes it has unintended consequences that benefit one party over another; and sometimes the US gets the roses while the rest of the world sinks into the sludge that most of the pundits and government manipulators are worried about. This is one of those times, and herein is its story...

“The media has been rife with speculation that the Fed is on the brink of another massive quantitative easing. Given the rapid growth of the money supply, the recently strong stock market performance, and the upturn in Federal withholding taxes and other economic indicators, it’s hard to see justification for the Fed to make such a move. The Fed is well aware that additional QE would be likely to set commodities off on another tear that would be self defeating for the economy.  


FED&ECB-LeeAdler

 

“As the chart of the SOMA and ECB assets versus the markets shows (above), the markets follow the money. Stocks usually follow the Fed, but this time when the ECB pumped, so much of it flowed into the US that not only Treasuries, but also stocks, got a lift.

“The current conditions with evidence of economic strengthening do not seem to warrant additional Fed easing, and the Fed has been tightening since December 21, possibly to counter the tremendous money supply growth. Right now, the ECB has the game board and all the pieces.

“The market has been rallying on the FACT of more money in the US system... I’ve been bullish because I’ve been following the money and the technical signs. The first projections that the market would rise over 1300 were a month ago. The technical indicators pointed the way, and the monetary indicators confirmed. All that’s left to do is follow those trends one week and one day at a time, and stay with them until there are signs of change. That’s what I endeavor to help people to do. Show them the money!”

(Liquidity is Bullish is All)

Note: Russ Winter of Winter Watch, Aaron Krowne of ML-Implode.com, and Lee Adler of the Wall Street Examiner discuss their take on the recent market melt-up, the possible reasons behind it, and the Fed's false transparency in “Fed Transparency Lies and Market Melt-Up Mean No QE Coming.” (Click this link to visit Radio Wall St. and listen to their free podcast.) 

We have a few buy-write ideas from Phil and Pharmboy, click this link to sign up to try Stock World Weekly.  For info on the buy-write strategy often used at PSW, visit here. 

Have a great week!

p.s. We shared a number of trade ideas in Stock World Weekly, January 8, 2012, from Sabrient’s “Baker’s Dozen” list, including some buy-write ideas from Scott (here)... Sabrient’s report on the Baker’s Dozen 2012 is now available.