Federal Reserve Chairman Ben Bernanke is "all in". If you have ever played or watched a no-limit poker game then you are already familiar with the term. Going "all in" is when the player puts his entire stash of chips into the pot. The player is betting everything he has that his hand is the winning hand. Of course the other players don't know if the guy going all in is bluffing or whether he really has the winning hand. Right now stock market bears are folding their poker hands and covering positions. The shorts are not willing to see if Bernanke is bluffing and stocks surged higher on short covering once again. Now the major U.S. indices are at multi-year highs.
There were plenty of headlines this past week. Economic data continues to come in mixed with both bullish and bearish readings for the economy. The German courts did not strike down the ESM bailout fund. Opponents of the ESM facility had argued it was not constitutional under Eurozone and German agreements. This legal win was bullish for stocks and allowed the ECB and Eurozone leaders to continue with their current attempts to solve the Eurozone crisis. Also making headlines was Apple Inc.'s (AAPL) new iPhone 5 launch. The company said its online pre-orders for the new phone sold out in one hour. There was so much demand that delivery of pre-ordered phones has been delayed to October 5th or later. Apple is still taking orders if you walk into their stores and put down a $50 deposit. A few analysts are speculating that lines of consumers waiting to pick up or buy the new iPhone will be the longest yet.
The biggest story of the week was the FOMC meeting and Chairman Bernanke's announcement of new quantitative easing. It seems that most of the market's active participants were expecting Bernanke to disappoint on Thursday. They expected he would talk about adding QE down the road if needed or he might announce another limited QE program, maybe extending Operation Twist. Essentially, many traders were expecting the market to sell-off on a disappointing announcement from the Fed. Instead everyone was surprised by the chairman's new program.
You have heard the term that the Federal Reserve only has one bullet left in its arsenal of tools to try and stimulate the economy. Others have referred to the Fed using QE as a bazooka to really kick start the economy. This new QE program is the "nuclear" (weapon) option. As I said before, Bernanke is all in and throwing everything he's got. Instead of QE3 the markets got QE-infinity.
The Federal Reserve will now start buying $40 billion worth of mortgage backed securities (MBS) a month. This is on top of the $45 billion a month the Fed is buying in U.S. bonds through Operation Twist. While Twist is scheduled to end at the end of 2012 there is no end date for this new QE3 program. Bernanke's Fed will continue to buy MBS at $40 billion a month until the economy and unemployment improve. Furthermore the Fed has extended the time horizon they see for super low interest rates from 2014 to the middle of 2015. Some of the FOMC members have even suggested that low rates could last until 2017.
Why would the Fed launch such a big stimulus campaign now? The conspiracy theorists out there would suggest that Bernanke is trying to help President Obama win because if Romney wins then Bernanke will likely lose his job. Many are surprised that the Fed would launch a new QE program this close to the presidential election since usually the Federal Reserve likes to take no action ahead of an election so they can appear politically neutral.
Others have argued that the Fed is doing this now because they are trying to mitigate the impact of the coming fiscal cliff this January (2013). That could be true. I don't have a lot of faith that our current House and Senate will address the fiscal cliff issue before the end of the year. Bernanke knows that the fiscal cliff could cut between -1.5% to -4.0% off the U.S. GDP. By launching his QE-infinity now he could be trying to prep the economy for this "cliff" in 2013. If the U.S. falls into another recession it's going to be a brake on the rest of the world, which is already struggling.
There are plenty problems with the Fed's new QE program. In the press release after the FOMC meeting Bernanke specifically stated that he is trying to raise asset prices so consumers feel wealthier and thus are more inclined to spend more. That could have a lot of unintended consequences. The fact that Bernanke is trying to push stocks higher should be bullish for the market. Instead of a "Bernanke Put" to protect the market from a dramatic sell-off we know have a "Bernanke Call" because he is betting on higher prices.
Bernanke also said he was trying to raise home values. We can assume he wants to help keep the current rebound in real estate alive. Is he worried about a flood of bank-owned homes (a.k.a. shadow inventory) hitting the market soon? Is this just the make consumers feel wealthier plan? A large number of consumers are currently underwater on their mortgage (e.g. their house is worth less than their current mortgage). Rising home prices will certainly help. However, wasn't a housing bubble what caused this financial mess in the first place? If we artificially inflate home prices now what happens down the road? Interest rates won't be this low forever. What happens to real estate when interest rates rise to a more normal level and instead of a 30-year fixed mortgage at 3.5% they hit 7%?
The Fed now sees low interest rates through the middle of 2015 and some Fed members think it could be 2017. Hello? Does anyone else see the similarities to Japan's "lost decade" since Japan started a near zero percent interest rate policy back in 1999?
The Federal Reserve is essentially printing digital dollars to buy billions of MBS or U.S. bonds. This extra printing of dollars devalues the currency. What happens when there are too many dollars and the dollar's value is worth less and less? It takes more dollars to buy things, especially commodities. We've already seen a surge in commodities like copper, silver, gold and oil. This up trend in commodities will likely continue since there is no end to the Fed's new QE infinity program.
Food is going to cost more. Materials will cost more. Rising oil means rising gasoline prices. The national average for gasoline in the U.S. just hit $4.00 a gallon in the second week of September. That is the highest in our country's history. If gas is at $4.00 a gallon now what happens when it's $4.50 or $5.00 a gallon? The Fed is trying to make consumers feel wealthier so they will spend more but if gasoline prices remain elevated it could directly undermine this plan. When it costs $100 to fill up your gas tank you're not going to feel very wealthy.
Another potential fallout from this QE program is the U.S. credit rating.
Moody's has warned that they will downgrade the U.S. credit rating again if we don't do something about our growing debt to GDP ratio soon. Egan Jones has already downgraded the U.S. rating from "AA" to "AA-" thanks to the Fed's new QE program.
We might want to ask ourselves if QE actually works? We've seen the effects in the stock market, which has been generally positive, but what about the economy? This country has seen more QE programs in the last few years than ever before. Yet unemployment has remained above 8% for the longest length of time since the Great Depression. The number of Americans at or below the poverty line is at its highest level in 70 years. There are almost 48 million people in this country on food stamps, the highest number ever. Small business growth is at a 40-year low. I don't care what your political affiliation is, those are some compelling figures that suggest QE is not working for a large part of the U.S.
The S&P 500 index has rallied to levels not seen since 2007. It's only about 110 points from its all-time high of 1576. We've seen the S&P 500 rally almost 200 points just since the June lows. As I said last week the path of least resistance is up but stocks don't move in a straight line for very long.
Broken resistance near 1440 should be new support. We can look for potential resistance at 1475, which the S&P 500 almost touched on Friday. Odds are very good the 1500 level will be round-number, psychological resistance. If sentiment suddenly sours and the market reverses then look for additional support near 1420 and the 1400 levels.
The S&P 500 index is up +1.9% for the week and up +16.5% for the year.
chart of the S&P 500 index:
The NASDAQ's rally continues to push the index to levels not seen since the year 2000. This past week produced a +1.5% gain and the composite index is up +22.2% for the year. Big gains in high profile tech companies like Apple (AAPL) have played a big role in lifting the NASDAQ.
I would look for short-term support near 3135 and slightly stronger support at 3100. Looking back at the year 2000 it is tough to see what could be support and resistance because the index was so volatile back then. I do see potential resistance at 3200 and probably 3350. Although just looking at the last several weeks we can probably expect support/resistance at even 50-point marks like 3150, 3200, 3250, etc.
The prior 2012 highs near 3125 should offer some support as well.
chart of the NASDAQ Composite index:
The small cap Russell 2000 index has been very strong these last two weeks. Now only has the $RUT broken through resistance near 840 and the 850 levels. The index tested its all-time high near 868 from May 2011 on Friday. On a short-term basis the $RUT is overbought and due for some profit taking. The trend is up so the question is where will traders buy the dip. I would focus on the 850-840 area as the spot to look for support and a potential entry point to buy a dip.
Daily chart of the Russell 2000 index
The Dow Jones Transportation Average has seen a very dramatic reversal higher. Two weeks ago this sector was breaking down. Dow Theory suggests we can't have a sustain market rally without participation from the transports. Suddenly, the index turned around. The $TRAN has seen a seven-day, non-stop rally higher. It's gone from a bearish breakdown under a supporting trend line to a bullish breakout past a trend line of resistance. That is pretty impressive when you consider that FedEx (FDX) issued an earnings warning about two weeks ago and the price of oil has risen to new relative highs.
Daily chart of the Dow Jones Transportation Average
We have a busy week of economic events but nothing to compare to the FOMC meeting last week. This weekend, the 15th and 16th of September, held a Eurogroup meeting and an EU finance ministers meeting. There are a number of headlines from Europe coming up. Germany's ZEW report could make headlines. The Eurozone PMI could make headlines. ECB President Draghi speaks on Thursday. Meanwhile the NY Empire state survey on Monday and the Philly Fed on Thursday will be the main reports for the U.S. this week. If the Chinese PMI data on Wednesday disappoints it could move stocks.
Economic and Event Calendar
- Monday, September 17 -
New York Empire State manufacturing survey
- Tuesday, September 18 -
NAHB housing market index
Bank of Japan interest rate decision
U.K. inflation data
Germany's ZEW sentiment report
- Wednesday, September 19 -
Housing Starts and Building Permits for August
Existing Home Sales for August
China's HSBC Flash PMI
- Thursday, September 20 -
Weekly Initial Jobless Claims
Philadelphia Fed survey
Eurozone PMI data
Spanish 10-year bond auction
Eurozone Consumer Confidence
ECB President Draghi speech
- Friday, September 21 -
Additional Events to be aware of:
Also in September, the IMF will release their review of Greece. Plus, the U.S. will likely hits its debt ceiling again (this time over $16 trillion).
The Week Ahead:
Looking ahead the best plan is probably following an old market maxim, "don't fight the fed". The Fed has made it clear that they want asset prices to go up. We don't have to chase stocks but buying-the-dips is probably a good plan. We do need to be aware that mutual fund window dressing could play a role in market performance. September marks the end of the third quarter. Yet the end of October is the year-end for many mutual funds. Both the end of September and October could see a lot of window dressing. The market is up strong this year and fund managers don't want to be sitting on a lot of cash and they don't want to look like they have missed the ride higher either. This is another reason that money will probably be buying the market's dips.
The fly in our bullish soup is probably earnings season. We've already seen market heavyweights like FedEx (FDX) and Intel (INTC) issue earnings warnings. We only have three or four weeks before Q3 earnings season begins. That means we could see a rash of earnings warnings before September is over. Right now analysts are expecting Q3 earnings to see a -3% decline over a year ago.
I remain bullish but suggest investors start with small positions when you see an entry point and slowly add to it if it moves in your favor.
Just because Mr. Bernanke has gone "all in" doesn't mean we have to. He's playing with the casino's money. We don't have that luxury.