Yesterday, the market rallied on a better-than-expected flash PMI number in Europe. The initial move got a little over-extended and stocks were not able to advance. This price action tells me that there is resistance.
Asset Managers are not going to load up ahead of the Fed meeting tomorrow. Stocks are likely to trade in a tight range ahead of the announcement.
Over 70% of analysts feel that the FOMC will either taper or they will set a firm tapering date on Wednesday. Traders are expecting action and the Fed would be wise to set a target date. This would remove uncertainty and we can get this monkey off of are back.
I believe that when the Fed does taper, they will soften the blow by reducing their jobless target rate. This would prolong the zero rate interest policy and that is bullish. Furthermore, the taper will gradually reduce purchases ($10B).
If this scenario plays out, we could see a quick decline. Stocks should be able to find support and they will snap back. For this reason, I will complete my call position after the statement. I want to gauge the reaction. I took a small call position yesterday when things settled down. At most, my position will build to 20% of my normal size.
The budget deal is a bullish event and the Senate should pass it today. Republicans want to stay out of the headlines. Their tactic is clear and the market will expect them to extend the debt ceiling in Q2. They feel that Obamacare will implode and the GOP will take back the House and the Senate in 2014. With these dark clouds (budget, the debt ceiling and tapering) out-of-the-way, the market should be able to rally in Q1.
Global economic conditions are good. China’s growth target for 2014 is 7.5% and the flash PMI’s in Europe were much better than expected. US economic activity has been growing at a moderate pace and employment is improving.
Corporations are lean and mean and any uptick in demand will go straight to the bottom line. Cash flows are at record levels and companies are buying back stock. More than 6% percent of the daily trading activity is due to stock buybacks. This is the highest level ever.
Interest rates will creep higher after the taper is announced. As long as economic conditions continue to improve, the market will shoulder higher interest rates. By historical standards, interest rates are still very low.
The Fed statement should result in the last wave of selling for 2013 and seasonal strength should attract buyers. The market will bounce and we will grind higher the rest of the year on light volume. As long as stocks don’t get ahead of themselves, profit taking will be light.
Look for stocks that held up well last week and are breaking through horizontal resistance. These prospects want to move higher and they will lead the way once this news passes.
Buy a few calls before the announcement with the intent to add. I am buying a few calls now because I feel that this could be a “buy the news” event. There is also a possibility that the Fed does nothing (30%). If that happens, stocks will shoot higher. A “no action” rally won’t last and it will be important to take profits quickly.
Passive traders should stay sidelined until the dust settles.