The Market Capitulated Thursday. Buy Some Nov Calls Today. Add On Any Weakness

October 10, 2013

Today’s comments were posted before the open. This week the rhetoric in Washington continued to deteriorate. Investors got nervous and bullish speculators were flushed out of positions. The market closed below the 100 day moving average Tuesday and we hit an air pocket yesterday. Stocks rebounded and we might have seen the capitulation low we’ve been looking for.

The FOMC minutes revealed that all but one official agreed to postpone tapering. Janet Yellen has been nominated to be the next Fed Chairman and she will be approved. In all likelihood, tapering won’t start until she takes over. This is bullish for the market.

The S&P 500 is up 20 points in pre-open trading and it will rally back above the 100-day moving average. Closed door meetings today are sparking optimism.

Yesterday, Boehner, Pelosi, Reid and McConnell met and they did not comment. That could be a sign that substantive talks are taking place. President Obama met with Democrats last night and he will meet with a group of House Republicans today. The Speaker of the House will have a press conference at 11 AM Eastern time.

Multiple sources suggest that the following solution is being considered. The debt ceiling will be extended six weeks and the government shutdown will continue. Ultimately, Republicans will settle for minor concessions. Those might include the repeal of the medical device tax, approval of the Keystone pipeline, a tax holiday for repatriation, minor entitlement reform and an adjustment to sequestration cuts.

The bottom line is that the market wants to head higher. European credit concerns are subdued and economic conditions in the EU are improving. China’s growth is stable at 7.5%. Domestic economic releases have also been encouraging. Corporate profit margins are healthy due to cost-cutting and any uptick in demand will go straight to the bottom line. Cash flows are at record levels and companies are buying back shares. Furthermore, the Fed remains accommodative.

The debt ceiling is the only thing standing between investors and a new all-time high. Asset Managers have a longer investment horizon and they believe this will get resolved. They don’t mind buying ahead of the news because they know that the market will jump when the debt ceiling is extended.

From a trading standpoint, this market is more difficult to navigate because it gyrates every time politicians speak. We don’t have a deal and both sides are still miles apart. If the debt ceiling is temporarily extended, we will have to put up with this haggling for another six weeks. That will push us into the holiday season and politicians will disappear just like they did in December 2012.

A temporary extension will result in a muted year-end rally. Stocks will challenge the highs, but they will have difficulty rallying above that level if the debt ceiling is not extended by a year. Some government agencies will be reopened in piecemeal fashion to save face. Businesses will postpone investment/hiring due to uncertainty. This scenario will destroy confidence and we do not want this solution.

In the event that both sides come to terms and they extend the debt ceiling one-year before we hit the deadline, the market will skyrocket.

If you followed my comments yesterday, you bought the dip before the FOMC and you made nice profits. The SPY did not close above $166 (100-day MA) so I exited most of my longs.

The rally this morning feels a little “fluffy”. It is predicated on closed-door meetings. Asset Managers want to get long and the bid is very strong. I suggest buying some November calls with the intent to add.

I believe we will still get a chance to buy more near the 100-day moving average. We do not have a deal and we might not get one for another week.

Earnings season has started and banks will dominate the scene. Estimates have been lowered because trading volumes are down, legal expenses are up and mortgage refi’s have fallen. The financial sector could weigh on the tomorrow. This weakness combined with DC mudslinging could push us back down to SPY $166.

The bottom line is this. Buy some November calls and wait a day to see if prices come in. Know that support at SPY $166 is strong and that you should buy on any weakness. If the market shoulders bank earnings reports on Friday and the DC meetings today are constructive, be ready to add on strength.

We’ve been waiting for this – take action.
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