The S & P 500 rose again Friday capping the best week since January 2013 amid better than expected earnings, data that surprised on the upside and monetary policy optimism. This was first “up week” in five.
The primary reasons for four consecutive weekly declines were earning and monetary policy concerns and economic weakness. Huh? Did the environment change that radically in five days?
As opined many times, market direction is often dictated by a massive pool of monies gravitating from one sector to another like locusts. Once a sector is bid up, monies unexpectedly gravitate into another sector, crushing the former and bidding up the latter. This volatile sector to sector rotation is amplified by the machines, trading based upon moving average lines and the like.
All must remember equities are ultimately valued by present and future cash flows discounted by some interest rate. Sentiment levels are also influential for when pessimism is great, the odds favor an advance.
As noted above, the S & P 500 declined for 4 consecutive weeks. The Russell 2000 was crushed, a crushing that commenced in July. Sentiment levels were dour.
And then there is the election and seasonality. Regarding the election, markets historically decline during any midterm election because of an increased uncertainty. Typically the markets that experienced the greatest mid-term election weakness historically stage the greatest rebound, a rebound that commences 7-10 days before the election as the outcome perhaps becomes more definable.
About a week ago, a consensus was formed that yet another change of power will occur in Washington, hence greater certainty. This is not a political statement but rather an observation.
Oh for what it is worth department, month to date the Russell 2000 has outperformed the S & P 500. Small caps are up 1.57% while the S & P 500 is posting a negative 0.39% decline.
Most market participants will acknowledge two facts. First, the markets historically outperform with a Democratic Congress as the left side of the aisle has a greater propensity to spend.
And two, opposing parties controlling the White House and Congress typically produce economically conducive legislation because of the necessity to compromise.
Perhaps arguing against history, I will argue today a Republican controlled Congress will increase the probability of meaningful reform in entitlement spending and tax policy, both of which will positively impact the deficit which in turn will produce greater confidence and higher stock prices.
Regarding seasonality, all know the seasonal strong period for the markets is from mid-October through mid-April.
This week can be of great significance. First and foremost is the FOMC meeting. Economic data released includes several housing statistic and confidence surveys, durable goods, several regional manufacturing indices, and third quarter GDP estimates.
All will parse the post FOMC meeting statement in an attempt to determine the potential timing of a change in monetary policy. At this juncture the markets are expecting a dovish tone.
And then there are earnings and increased banter about the mid-terms.
How will all of the above impact trading?
Last night the foreign markets were down. London was down 0.26%, Paris down 0.49% and Frankfurt down 0.49%. Japan was up 0.63% and Hang Seng down 0.68%.
The Dow should open little changed ahead of a two day Fed meeting that commences tomorrow. The 10-year is unchanged at 2.76%.
