Dear Jeffrey,
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At today's FOMC meeting the committee will have to make some big decisions. One
main topic for policymaker's consideration is whether or not to begin the process
of tapering QE, and if they decide to taper, when to start. The timing of the tapering
could have a massive impact on the stock market which has gone up too far too fast
in the last five weeks.
The stock market is driven by an army of stimulus addicts, mention the word stimulus
and stocks go up. Back in May we knew that the Fed was going to slow down the pace
of bond purchases with a view to ceasing these purchases sometime in 2014. The
stock market fell sharply in June but today it would appear that investors have
already forgotten what tapering means. However, eventually it will happen and
at the earliest in September.
For now investors are happy to keep buying because they don't have the choice.
Too many money managers have underperformed as a result of being cautious in the
past when market uncertainty was high. When the economy is weak, fund managers
will err on the side of caution and position defensively, however in the current
climate bad news is good news which translates into more stimuli, so investors
are left with no choice but to go long to keep up with the market trend.
I believe it won't be long before we see another sharp sell-off similar to the
one we saw during May and June. The FTSE 100 could decline below 6000 within months.
The reason is because the Fed is trapped -the economy remains weak after four continuous
years of financial engineering and despite all the money that has been thrown,
the system is showing no signs of improvement.
The following recently reported economic numbers have been on average below estimates:
29/07/13 US pending home sales better
24/07/13 China PMI manufacturing worse
US new home sales better
22/07/13 US existing home sales worse
18/07/13 US jobless claims better
17/07/13 US housing starts worse
15/07/13 US retail sales worse
11/07/13 US jobless claims worse
10/07/13 China trade balance worse
09/07/13 UK industrial production worse
08/07/13 Germany industrial production worse
What is clear is that the bond buying program can continue indefinitely but what
we don't yet know is whether this is good or bad for the economy. Judging by the
way commodity markets, in particular gold, are behaving something is not working
as it should. There is still no evidence that QE can revive an ailing economy,
yet on the other hand tapering QE would be catastrophic for stock markets and the
economy at this point down the line. You will recall that when the crisis started
in 2007 central banks lowered interest rates to boost the stock market and the
economy. Well, rates have been near zero for the past four years and we have yet
to see an economic recovery let alone a booming economy! As Bernanke has said:
"If we were to tighten policy, the economy would tank".
A potential scenario for the FTSE 100 is: First a rally above 6700 next week then
a decline to 5900 in September-October.
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