Stocks produced a volatile week as the partial U.S. government shutdown continued to consume Wall Street's attention. Last Tuesday's plunge was the worst one-day drop for the S&P 500 and the NASDAQ since August. The Dow Industrials fell almost 1,000 points from their September 18th high before bouncing off technical support at its simple 200-dma. News that the republican controlled House of Representatives might pass a short-term debt ceiling increase sparked a big short covering rally on Thursday. Thursday proved to be the second best one-day gain of the year for all of the major U.S. indices. By Friday's closing bell the Dow Industrials had bounced more than +500 points and the S&P 500 index had rebounded +3.4% off its lows. Yet we still have no deal in Washington on the government shutdown or the debt ceiling so these gains could be at risk.

Economic Data

Economic data was limited last week thanks to the government shutdown. Several retailers did report same-store sales data for September. Unfortunately, a big miss by the Gap Inc. (GPS) pulled the industry's average gain to just +0.4%, well below expectations. September's same-store sales pace was the worst since August 2009. Meanwhile all of the negative headlines regarding the government shutdown and looming debt ceiling issue spooked consumer sentiment. The October reading for consumer sentiment fell from 77.5 to 75.2, which is the lowest reading since January.

We did get the minutes from the last FOMC meeting. The Fed governors were somewhat divided over when to cut back on their current QE program. Many of them expected to start tapering their QE purchases before the end of the year and end QE some time in 2014. Yet that was before the government shutdown. The fed heads did acknowledge that politics in Washington could prove to be a risk to the U.S. economy. Considering where we are now with the government shutdown in its second week odds are good that any QE taper will be postponed until December or possibly January 2014. While we're on the subject of the Federal Reserve the White House did officially announce Janet Yellen as the President's nomination for the Federal Reserve Chairman to replace Ben Bernanke in 2014. This is bullish news if you believe in the Fed's stimulus program.

Overseas Data

Economic data overseas was mostly positive. Germany said their factory orders fell -0.3% versus a -1.9% drop the prior month. Yet German industrial production rose +1.4%, which was above expectations. Spain continues to struggle and said their industrial production plunged -2.0% versus a -1.2% drop the prior month. Meanwhile in Asia a Bank of Japan official said they expect the country's economic recovery to continue. In China the HSBC services PMI slipped from 52.8 to 52.4 but numbers above 50.0 are still positive. The People's Bank of China recently said they expect China to surpass the official 2013 growth target of +7.5%.

Shutdown & Debt Ceiling

Sunday will mark the 13th day of the current government shutdown. Hope that a deal could get done to at least extend the U.S. debt ceiling sparked the big bounce on Thursday. This Thursday, October 17th, is the deadline for the U.S. debt ceiling. In addition to the deadline there is a congressional recess coming up. Both the republicans and the democrats are looking at the clock run down as they fight over the U.S. budget and the debt limit.

There was new hope on Friday that a meeting between the president and the republicans might produce a deal. The republican controlled House of Representatives has said they were willing to consider a short-term extension to the debt ceiling to "avoid a default". Of course all the threat of a default is bogus. The U.S. brings in enough tax receipts each month to pay our principal and interest payments on our debt so there is no risk of a default. Everyone threatening a default is merely using it as a scare tactic.

Unfortunately the weekend has not produced a deal between the two sides. Republican Speaker of the House John Beohner has said that President Obama has reverted back into non-negotiation mode. If we get to Monday morning without a deal it will jeopardize the market's bounce and stocks could see renewed selling pressure. There was some hope that the democrat-controlled Senate might be able to broker a deal but as of Sunday they remained gridlocked.

Major Indices:

The S&P 500 index had fallen from its September intraday high of 1729 down to last Wednesday's low of 1646 before bouncing. That was a -4.8% correction. The big bounce pushed the S&P 500 to a +0.75% gain for the week and the index is actually up since the start of the partial government shutdown (that began October 1st). Thus far the S&P 500's larger trend of higher lows and higher highs remains intact. As I just mentioned above the short-term gains could be at risk if we don't see a deal in Washington soon.

On a short-term basis I would look for support in the 1675-1680 area. If the selling resumes then we could easily see the S&P 500 retest its lows near 1650. On the other hand if the bounce continues then overhead resistance is the September highs near 1730.

chart of the S&P 500 index:

Weekly chart of the S&P 500 index:

The NASDAQ composite has also kept its long-term bullish trend alive. Although the index did post a loss last week (-0.4%) in spite of the big two-day bounce. The index is less than 1% away from its 13-year high from October 1st.

If the market turns lower the NASDAQ could find support near 3700 and its low last week near 3650. Expect resistance in the 3800-3820 area and then near 3850.

chart of the NASDAQ Composite index:

The small cap Russell 2000 index produced a very volatile week. The index plunged toward support near 1040 before bouncing back. The $RUT is already up +4.4% from Wednesday's intraday low and less than five points away from a new all-time, record high.

If stocks turn south again we can look for possible support near 1060 and 1040. Otherwise the trend is up and the next significant resistance level is probably the 1100 mark.

chart of the Russell 2000 index

Weekly chart of the Russell 2000 index

Economic Data & Event Calendar

The pace of economic data picks up this week. Yet there is no guarantee any of the government reports will be published due to the partial shutdown. All of them will likely be overshadowed by the drama in Washington over the debt ceiling deadline on October 17th and the deluge of Q3 earnings announcements. You can view a calendar of earnings reports by clicking here.

Economic and Event Calendar

- Monday, October 14 -
Chinese GDP data

- Tuesday, October 15 -
New York Empire State manufacturing Fed survey

- Wednesday, October 16 -
Consumer Price Index (CPI)
Federal Reserve Beige Book report
weekly MBA mortgage index

- Thursday, October 17 -
Weekly Initial Jobless Claims
housing starts and building permits
Industrial production data
U.S. Debt Ceiling deadline
Philly Fed survey

- Friday, October 18 -
leading indicators for September

Additional Events to be aware of:

Oct. 29-30th: next (two-day) FOMC meeting

The Week Ahead:

Monday morning could be negative for U.S. equities if we don't have a deal in Washington on the debt ceiling. We've only got three trading days between now and the October 17th deadline. Without a deal the rhetoric over a possible U.S. debt default, even though there is no threat, will hit epic proportions. Investors have been warned that both sides will play a dangerous game of brinkmanship. We might see the October 17th deadline crossed without a deal and that could definitely sour the stock market. This week could see another sharp increase in market volatility.

Speaking of volatility we will also see a big increase in individual stock movement as investors react to Q3 earnings results. Odds are good that corporate guidance might be more cautious than Wall Street wants to hear thanks to the dysfunction in Washington. Don't be surprised if traders choose to "sell the news" when it comes to earnings reports this month. I will add that expectations are relatively low and that could set up for a bullish surprise for stocks instead. The market's reaction to each earnings report will definitely be influenced by the day's tone (optimistic or pessimistic) set by Washington D.C.

A deal in Washington will eventually get done and that will be bullish for the stock market. Unfortunately, it could be a very painful ride between now and then.