The quality of our expectations is directly proportional to the quality of our actions.
– Andre Godin
Our firm’s editorial last week discussed evaluating secondary indices in order to help ascertain whether the market is going to confirm its newfound bull trend, or if it’s simply a false-positive. As such, we outlined the PHLX Semiconductor Index
(INDEXNASDAQ:SOX), the Dow Jones Transportation Average
(INDEXDJX:DJT), the PHLX Bank Index
(INDEXDJX:BKX) and the PHLX Housing Index
(INDEXNASDAQ:HGX); two not so good, one good, and the other… well let’s just say, a little high, considering. We proclaimed that a pullback to 1,420 or 1,400 wouldn’t be out of the question and potentially positive if held, as successful retests characteristically prove validity through strength -- continued buying support in the face of short-term weakness.
The week began on a good note right until Tuesday afternoon when Charles Plosser (Philadelphia Fed Bank Chief) came out swinging like an underdog in a prize fight. It was in a speech to the CFA society and Bond Club of Philadelphia that Mr. Plosser, when describing QE3, used terms and snippets such as "risky," "unlikely to spur growth," and "consequences similar to those of the Great Depression." Woops! This, for all intents and purposes, provided the catalyst which began the market’s correction toward the aforementioned retest numbers.
Following “Negative Nancy’s” commentary, the markets, saddled with traditional quarter-end volatility, were also smattered with global economics for the remainder of the week. This included the US' Q2 GDP revision downward to 1.3% from 1.7% and Spain’s Cabinet approving their 2012 budget. They stated a budget reduction of €40B ($51B) through government cuts, rather than increasing taxes on a dwindling economy. This lead to speculation of postponing further assistance from the EU. France also chimed in at the end of the week when French President Francois Hollande proposed cutting their government’s deficit by €30B ($39B) – 1.5% of GDP – with two-thirds coming from new taxes and one-third from spending cuts. But -- and this is a big "but" -- the proposal incorporates an increase in taxes from 41% to 75% (that’s correct; this is not a typo) for incomes earned over €1M. And you thought the tax increases inherent within the fiscal cliff were bad. All in all, these announcements were somewhat ancillary and should be quantified as noise when it comes to assessing moves within the US equity markets.
With that said, this week should provide more directly-correlated catalysts. It begins on Tuesday with an announcement from the People’s Bank of China (the PBOC -- their equivalent of our central bank), flows into the mid-week FOMC meeting, and finishes with a flurry of US economic data
. As for the Beijing China announcement, they are in a similar boat as the US in that they are attempting to maintain liquidity to help foster a soft landing without the creation of further inflation. Last week China dumped ¥365B (yuan) (~$58B) into money markets through reverse repos (short-term loans), marking the largest weekly injection in history. These steps gave credence to the theory that they will announce a large stimulus package by cutting interest rates and/or lowering the reserve-requirement ratio for lenders. Even with China’s national holiday this week -- National Day -- they will announce on Tuesday.
Nevertheless, with this being the first day of the fourth quarter of 2012, loaded with political, economic and social nonsense, investors may perhaps want to comprehend the “Disney Theme Park Concept of Investing." You see, many who travel to Disney may not completely grasp all the nuances of their trip; they only visualize the potential benefit and not the risk. However, they may be better suited to understand the challenges prior to paying admission. Typically, as patrons enter the park for the first day of their stint, their hopes and aspiration are enormous. But what is not yet apparent, in all their adolescent excitement, are a few factors which can soon shift their paradigm and begin to wear on their reason for involvement. These factors include such things as: one- to two-hour lines for a three-minute ride, the potential for rain (and being drenched for the remainder of the day), the blusterous heat combined with humidity and stagnant wind, rides that are more treacherous than originally thought, and most of all, getting sick from either the rides or the food ingested throughout the day. Otherwise stated: Expectations set the stage for greatness or disappointment. It’s a matter of understanding in what way they were set.
When I was young my dad would always to tell me about the five “Ps” -- Prior Preparation Prevents Poor Performance." With the semiconductors having broken their double-top neckline, the transports showing no immediate sign of strength, economic numbers beginning to wane, and corporate earnings being lowered prior to announcement, the potential for a hot rainy day with long lines is increasing. However, if the market's recent breakout holds (S&P 500
(INDEXSP:.INX) 1,400), it could be a race to the end of the year and it sets the technical sights at 1,550.
Have fun, manage your expectations, bring a raincoat, and carry a bottle of Pepto-Bismol, as the rides are typically more perilous than originally anticipated!
Editor's Note: Read more at Tesseract Asset Management.
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