Looking at a chart of the S&P 500 over the last ten days, you have to admire the market's pluckiness. The last five days in a row, stocks have opened down, only to pick themselves up back off the mat. Since last Thursday's close at 1472.12, the S&P has managed to move up fifty cents, while spending nearly the entire time below that level.
In the ten days since the Great Leap Forward on January 2nd, when a wretched frog of a compromise was transformed into Prince Charming (recipe: fill a large crock pot with HFT and algorithm; season heavily with sheared shorts. Put lipstick on the frog and bring the mixture to a boil, all the while singing "Over the Rainbow." After reality has evaporated, remove the Prince and live happily ever after*), the S&P is up about seventy basis points. It has wandered below the previous day's close seven days in ten, and the other three rebounded from that level. Plucky.
Fever is Jim Cramer proclaiming on Monday that "this move is only in its infancy," (true by definition, by the way; the lifespan of the move is the real question). The next day, he blamed any doubts thereof the next day on analysts being tired and sleepy. What if the breakouts are real, he demanded? What leverage will the Republicans have over the President once we're past the debt ceiling (answer: sequestration)?
Bigger fever was his proclamation that carmakers have been kept back by international headwinds that have turned to tailwinds. "Ford is getting any European losses under control." Fact: Ford (NYSE:F) announced it would lose $1.5 billion in Europe this year, which just witnessed its worst year for car sales since 1995. European carmakers projected a further decline of 5% this year. Mercedes and BMW - they are both European - are redistributing inventory originally slated for Europe into the U.S. and China. Hmm.
Fever is fund managers having the highest exposure to Europe in five years, or the Wall Street Journal dismissing the German slowdown as short-lived (the antidote will be "improved sentiment"). Fact is German GDP contracting in the fourth quarter and official estimates for 2013 GDP being cut to 0.4%. Fever is CNBC headlining noted bear Albert Edwards from Societe Generale as "upbeat over European stocks." Fact is that Edwards added that a ten-year holding period would be involved, and that he expects "total carnage" and "two more recessions" first.
Fever is Ned Davis Research announcing that, based upon the OECD leading indicators rising 0.1 point in November, the Global Economy is "at a definitive turning point." Fact is the World Bank cutting its global growth forecast to 2.4% and noting the divide between investor sentiment and economies, adding that "it's a risky year."
Fever is the Journal proclaiming that "Holiday Shoppers Propel Retail Sales," (the physical paper headline); fact is that year-on-year December retail sales were up 2.5%. With inflation running accounting for most of that (CPI: 1.7%, core 1.9%), that wasn't much propulsion
Fever is the bulls counting on 14% earnings growth six months ago, about 6% three months ago, 3% a week ago, and the fact is estimates for growth are now nearly zero. More fever is Cramer piling on for a third day this week, declaring the stock market is on the verge of "nirvana," once another over-hyped debt ceiling battle, the last obstacle in the way of a "flood" of "risk-averse" money, is removed. Then "fundamentals will matter most." Well!
Lest you think I am out to pillory Jim Cramer or use him as a straw man, let me assure you that it isn't so. Mr. Cramer is smart and possesses a shrewd knowledge of the innards of Wall Street, 99% of which he is too circumspect to ever disclose on television. I also believe that he is the same dyed-in-the-wool, unreconstructed momentum trader he was when he ran his fund and has been ever since, with all the attendant mood swings endemic to the species. He is plugged into the rants of more than a few institutional trading desks and managers, so if Lord Jim is waxing ecstatically over the market outlook, be assured that he is not flying solo.
Rather than burn my putative straw man, it makes more sense to try to examine why he and his brethren are feeling so good, what impact they may have on the market, and what, if anything. might put a damper on the celebration.
I've been writing for the last two weeks to fade the rally, but as the introduction implied, there really hasn't been anything to fade yet. I have yet to sell any long position, settling for a couple of very minor short additions. My guess is that most traders are waiting as well, probably for 1500 on the S&P.
Much of the pluckiness talked about above is quite possibly due to options expiration this Friday. So far there has been little effort to test the 1474 intra-day high, though 1473 was breached on Wednesday and I wouldn't be the least surprised to see an effort to take out 1475 by Friday's close if even a minor catalyst can be found - housing starts (though the homebuilding sentiment index didn't suggest it), a positive Philadelphia Fed survey (it was much better than the dolorous-looking NY Fed number last month), or a big name coming through with boffo earnings, like GE or Intel (NASDAQ:INTC).
So what's the source of the good feelings? One of course is the big rally on the first trading day of the year, triggered by another political event in a long series of such events finessed at the very deadline. Though the month is but half over, the old trading adage is that as January goes, so goes the year. That doesn't always work and there are often terrific drops in between, but a good January always puts a smile on the face of the institutional investor.
Another, oddly enough, is the debt ceiling. It is a known problem, but in many minds it was already tested and defeated with the fiscal cliff drama at year-end, though the two are different. In that vein is the series of last-second policy escapes over the last year or two that have patched over US budget difficulties and a disintegrating Eurozone economy.
The patches have given birth to a nascent hubris in the marketplace, based on suppressed government bond yields and the belief that another muddle-through will always be found, though recent market history is littered with examples of steadily recurring blunders. The one unifying theme is that such mishaps recur every four to six years and seem to happen right about the time the markets say that they can't happen again.
The World Bank report noted that "financial markets are calmer, but there is no pickup in growth" and therein lies the rub. Every day I read about the US and China leading the global recovery in 2013, but US GDP looks to be running at about 1% for the fourth quarter and so far I'm not seeing any sign of an incipient pickup. China's lending seems to mostly consist of rolling over existing loans to local governments. Yet these two motors are supposed to be the reason that Europe is being treated like some giant early cyclical play.
Bond giant Pimco may slaver over the Brazilian real as a high-yield alternative, but what they really may be saying is that the high-yield market is too richly valued to make any real money anymore, so they buy the real, or they buy Spanish bonds because the ECB says they'll buy them if they have to. Unlike the Fed, though, the ECB hasn't bought anything since and there is no QE in the eurozone.
Credit is tight nearly everywhere but Germany. France, Portugal and Spain are going to miss their deficit targets yet again, Eurozone unemployment is at an all-time high, and the hillsides of Greece are being denuded of trees in a redux of the German occupation seventy years ago. Yet so long as Spain can borrow at 4.5% instead of 6.5% and the government doesn't use any of the money for stimulus, all will somehow be well. Well folks, T-bill rates in the Depression were under 1%, very calm indeed. It mattered not a whit.
Fever: The debt ceiling battle looks as if it isn't going to impinge on trader thinking until the middle of February. It could even provide something to rally against, because conservative support for a debt ceiling battle is already wavering. The market likes to rally on the deferral or postponement or just plain didn't-happen-today of potential bad outcomes. Fact: The only result of giving up on the debt ceiling battle would be to redirect it into the next sequestration deadline on March 1st.
When I think about that "return to fundamentals" that Cramer speaks of as sparking a resurgence in equities, what comes to my mind is one, the 1% run rate for GDP bumping up against the payroll tax restoration; and two, though I understand the sort of fuzzy certitude that "those crazy Congress nuts will muddle through again," what seems to be missing is the implication that whatever happens, some form of additional fiscal tightening is coming. Does anyone really believe that the House Republicans are going to be content with the act or appearance of losing at every turn? The essential is this - if debt and sequestration are simply postponed again, then there is no burst of clarity to unleash investment spending. If a resolution is reached, it is going to involve tightening. The fever is to regard only the positive outcomes and ignore the rest.
The fact remains, however, that fever did drive the markets last year. Fever based on a few central bank meetings and a few months of ultra-warm winter weather. It worked, and markets had their best year in three years, and now hubris has descended on much of the investment community. Well, another fact is that hubris is one of the precursors for a big correction. I still think that traders are going to try for 1500, and that if they do, you should fade it. Don't underestimate the power of the fever to get us there, and don't underestimate the power of the facts - eventually.
* - ever after being options expiration on Friday. Prediction: they pin Apple (NASDAQ:AAPL) to the $500 strike on Friday's close.