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Stocks Surge As Expected On Debt Deal

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    October 11, 2013

    Well…that didn’t take long.  On Wednesday evening I spoke with Congressman Ted Poe about the potential issue surrounding the debt ceiling and the rollover of a significant amount of Treasury bonds toward the end of the month.  My suggestion was to pass a resolution that would take Congress past the potential “default” date and allow for “calmer” heads to prevail, however, such a bill would not have to end the government shut down.

    According to Business Insider:

    “GOP leaders unveiled a plan Thursday that would add five weeks of borrowing authority for the federal government, which time would allow for negotiations among Republicans, Democrats, and President Barack Obama.

    The bill proposed would not end the ongoing government shutdown, which entered its 10th day on Thursday.”

    I also discussed on the radio program (Streettalk Live) that the markets have been holding onto the critical bullish uptrend that has remained intact since the beginning of this year.  The chart below is the updated analysis from earlier this week.

    SP500-Marketupdate-101013

    The recent selloff moved the markets into a short term oversold condition (top part of the chart above) which provided the fuel for a fairly significant short term reflexive bounce.  However, this bounce, so far, has not reversed either of the two “sell signals” that are currently in place.

    Therefore, it will be important that Congress follows through with getting a short term deal hammered out otherwise the current rally will likely fail.  Assuming that a deal is reached I stated:

    “The Federal Reserve’s ongoing QE program has continued to increase excess liquidity in the financial markets.  That liquidity provides a significant catalyst for a strong upward push should a resolution clear the way for the financial markets in the days ahead.  If a deal is struck it would not be surprising to see the financial markets break out to new highs and approach 1800.”

    The 1800 level on the S&P 500 is something that I proposed back in August when I wrote“Could Stocks Be Ready To Melt Up?” stating:

    “The dotted red line shows the potential for a speculative push higher that would likely see the markets approaching 1800.  However, at this level, valuation, interest rate relationships and earnings arguments are going to become much more difficult to justify…Therein lies the paradox.  The markets are rising not because of strength of the economy or improving fundamentals but because of the “hope” of continued liquidity.”

    Tyler Durden at Zero Hedge posted a chart that showed this same analysis given current deviation between asset prices and the Fed’s balance sheet.

    SP500-FedBalanceSheet-101013

    While we have remained slightly underweight equities and overweight cash, since the beginning of August, there has been little evidence that the current cyclical bull market is at an end.  We have repeatedly cautioned not to “panic sell” over media headlines about a“default” that was never going to occur in the first place.  The management of portfolio risk is a function of tweaking allocations relative to market dynamics rather than wholesale changes based on emotional biases.

    There is little doubt, however, that there are signs of disequilibriums beginning to manifest in the markets.  The underlying fundamentals from valuations to earnings are deteriorating, rising interest rates will slow economic growth along with higher taxes from the implementation of the Affordable Care Act.  External issues are also rising including margin debt levels, retail investor buying capitulation, complacency, and deviations from long term trends.  In the short term these fundamental challenges continue to be dismissed due to the Federal Reserve’s ongoing interventions.  It reminds me much of the late 90’s when fundamental measures no longer mattered as “this time was different.”

    While stocks could well be ready to “melt up” as we enter into the 3rd stage of a bull market(the subject of an upcoming missive) it is important to understand that such melt-ups are neither healthy nor sustainable.   The problem, however, is that no one really knows just when the fantasy ends and the return to reality begins.

    Images: Flickr (licence attribution)

    About The Author

    Lance Roberts – Host of StreetTalk Live

    After having been in the investing world for more than 25 years from private banking and investment management to private and venture capital; Lance has pretty much “been there and done that” at one point or another. His common sense approach has appealed to audiences for over a decade and continues to grow each and every week.

    Lance is also the Chief Editor of the X-Report, a weekly subscriber based-newsletter that is distributed nationwide. The newsletter covers economic, political and market topics as they relate to the management portfolios. A daily financial blog, audio and video’s also keep members informed of the day’s events and how it impacts your money.

    Lance’s investment strategies and knowledge have been featured on Fox 26, CNBC, Fox Business News and Fox News. He has been quoted by a litany of publications from the Wall Street Journal, Reuters, The Washington Post all the way to TheStreet.com as well as on several of the nation’s biggest financial blogs such as the Pragmatic Capitalist, Zero Hedge and Seeking Alpha.

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