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What are the variables? The market moves based on order flow and to drive order flow you need a catalyst event. An event can be something that is mechanical like a short-covering rally or margin call, or it can be perception based that drive herd mentality. When there is no certainty in the variables, it is hard to drive a trend and when there are lots of variables it means there is a potential for market volatility (up or down), until certainty is realized.

The Variables

The Fed’s monetary policy of QE, bond buying, asset purchases, zero interest rates, and increasing the money supply is like a massive full-court press against ANY and ALL variables. It didn’t matter the earnings numbers, unemployment rate, Greek implosion, slow down here or there – with a massive Fed intervention to DRIVE order flow only one way – it has certainly crushed any opposition.

Now with QE supposedly ended (they only ended the money printing to buy assets, they are still buying assets with principal from maturing bonds) and the specter of a rate hike, the Fed is pulling back on their massive full court press and that means the variables can rear their head and inject positive or negative volatility into the market. Of course if the risk of these variables becomes TOO big, the Fed will certainly not let off and perhaps could ramp up QE type policies again.

Geopolitical Variables

Courtesy of wikipedia

Syria is turning into a proxy war between Russia and the U.S. The U.S. blinked when it came to the Ukraine and the U.S. media is quick to pull the Ukrainian headlines as it continues to leave a bad taste in everyone’s mouth. No one likes to lose to Putin and Russia. Yet, Russia is still on the radar and now it has turned into a shooting war. Russia and now ironically Iran (didn’t we just sign a deal with Iran) are aiding the Syrian government al-Assad against both ISIS and Syrian Rebels. The U.S. has been supporting the supposed rebels to topple al-Assad. I find this a little hypocritical from the Nobel Peace President to follow the very doctrine in which he criticized under Bush – to topple another leader in the Middle East which we oppose. Who said Imperialism was dead? Enough of my back-handed comments suffice to say it’s a mess. U.S. has drawn lines in the sand and has talked tough against the al-Assad regime and there has been the occasional air strike, but Russia has gone full tilt military and is now firing missiles into Syria and is WARNING the U.S. that they are entering a combat zone in which Russia is engaged. Russia seems to have no problems firing missiles through NATO airspace, which is a further shot across the bow of U.S. rhetoric. U.S. is now claiming that Russian missiles have struck the Rebels who the U.S. is supporting (with words). To Russia anyone that takes up arms against the Syrian government is a target, U.S supported Rebel or ISIS – and there is something to be said that it is hard to tell Rebel from ISIS. The point is when two super powers are weapons hot in a conflicted zone, it only takes one U.S. or Russian plane to get knocked out by the other and things go from bad to worse. This could also interrupt oil supplies or give the perception of it and that could drive oil prices higher.

Negative Growth

What is not getting a lot of headlines is the S&P 500 earnings which for the first time since 2009 looks to show a contraction. The spin already has called it “negative earnings growth”, really NEGATIVE GROWTH? You can’t call it GROWTH if it is negative.

Courtesy of Silexx

Earnings estimates for the S&P 500 are down 4.5% – 5.5%, that is a serious disappointment. However a big drag has been energy, some are arguing that you need to exclude energy. That’s just an excuse, remember back in the aftermath of the crisis when they said, well you need to exclude the financials. If you always just exclude what is bad you can make anything look good. Energy is less than 10% of the S&P 500. Energy is expected to be down significantly. If we extract energy from the S&P we are looking at a 1.5% – 2% growth rate.

Now while the over-all looks bad, there are still some strong sectors that look (based on only on the sector) to be positive. Technology, Financials, and HealthCare, but those will only be modest gains. Obviously with a negative 4.5% S&P 500, the other sectors are not strong enough to lift it into the positive.

Top-line revenue is expected to run negative 1.5% and you know my feelings on the top-line. If you can’t get the top-line running positive that means cost cutting to keep the bottom-line positive.

Looking at the negative growth numbers it is hard to justify an S&P 500 earnings multiple of 16 or greater.

Of course we can toss multiples out the window if the Fed continues to juice the market and leverage continues to drive order flow into equities as bonds remain unattractive.

Bond Market

Recently we have seen the major holders of U.S. bonds start selling. China has started cutting its U.S. Treasury holdings, not by the attrition of letting bonds expire and repatriating principal, they are actually SELLING. We saw over $300 billion drop in foreign-exchange reserves in the last month alone. From late August through September we are seeing several large foreign-exchange holders selling out their treasuries.

Courtesy of FRED

I would suggest part of this is betting on a dollar decline, which ironically helps support their domestic currency. Kind of a self-fulling prophesy, if you think the dollar will decline and you are one of the largest holders of dollar (via Treasuries) and you sell them, you might just be right about that decline.

This is only fueling the currency war and China is one country that is converting to cash quickly and liquidating U.S. treasuries at a rather large rate. On one had this is a good trade with the dollar rally if the dollar tops out here.

There is a Fed problem that many are not considering with this foreign-exchange dump of treasuries in the last couple of months and that is WHO is going to continue to buy the bonds? Right now the Fed continues to buy U.S. bonds with the principal from maturing bonds and remains the largest holder and purchaser of bonds. The problem is at the rate of bonds they can buy from rolling is limited and with the foreign-reserve dump we could see a gap form in which the Fed may have to turn on the printing presses to buy more. Hence an increased probability of QE4 or something similar, this is just simple math.

Inflation problem may also arise if we see an increase in foreign-exchange dumping, even if the Fed steps in. Like the 1970s we saw the world dumping dollars and fueling price inflation in the double digits and we know how the Fed handled that. This would be a serious test of faith in the Fed and the dollar, while having very little to do with math.


Courtesy of wiki

Energy prices and commodities have been under considerable pressure. We need to consider that a large part of the drop in energy prices, which has dragged on earnings growth as well, is the dollar strength. The dollar rises and commodities, like oil, will decline. There is also a battle between OPEC and the U.S.’s new found oil sands/shale. While the U.S. is not allowed to export oil via the Petro-dollar relationship with OPEC, that hasn’t stop U.S. production and competition. The possibility of lifting the oil export ban is on deck and that also brings concerns to OPEC. There is also the U.S. fracking battles and Keystone, all variables that can/will impact oil prices. The Middle East flash point and Iran Deal has put pressure on our allies, mainly Saudi Arabia. Yet, even with all these issues world oil consumption continues to grow every year and that trend is not reversing. It is hard pressed to push oil prices lower as we see all players lose; exporters, refiners, and producers. Even if the OPEC production battle continues, dollar weakness alone will certainly boost oil prices.


We have the election circus on both the Right and Left. Even to think of a possibility of Trump (Capitalist) vs. Sanders (Socialist) is something just a year ago would be unimaginable. Then we have Congress and no one wanting to be the House Majority Leader, 2nd in-line to the President. With the possible “government shutdown” looming that could also toss in a wild card to the markets and Fed decisions.

A crazy idea is that from what I just read the Speaker of the House does NOT need to be a member of Congress. A news story said that Mark Cuban could run for Speaker, really? Is government getting a shake-up or what? This political election cycle is like a bloodless revolution?

Courtesy of wiki


There is NO WAY the Fed is raising rates in October and I put the probability somewhere beyond 3 standard deviations that they would raise in December.

We could come up with a lot of justifications as to why they can’t; weak earnings, global slow-down, weak jobs numbers, etc. Yet there is also a real reason in why they can’t and that comes down to the bond market and their ongoing funding of U.S. deficit spending. The U.S. sells bonds to spend the money they don’t have, the Fed continues to buy those bonds to fund the government spending. Now with foreign-reserves selling they need to buy even more.

QE never really ended, sure they are not printing NEW money to buy bonds and mortgage back securities, but they are STILL buying them. They even have told us they have in every single FOMC statement – AFTER they announced the ending of QE.

“The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. This policy, by keeping the Committee’s holdings of longer-term securities at sizable levels, should help maintain accommodative financial conditions.”

Courtesy of wiki

Not only are they NOT going to raise rates in October or December, they may even start talking and coming up with new ways to ramp up QE type programs. Call me the odd man out, the minority, the skeptic – fine. But explain to me the math of how they STOP buying bonds?

Whether it is justification from geopolitical events, earnings, and/or economic data OR the mathematical problems in the bond market and foreign sellers, I just can’t figure out how they are going to raise rates and stop buying bonds.

Support & Resistance

INDU 17,200?
Climbing the wall of worry? We are on a good and solid move higher and it looks like we may have broken that 16,800 resistance point. I don’t see it as a strong move higher, but rather a trudge as we continue to face selling pressure moving higher. Selling pressure will be strong in the 17,200 – 17,400 range. We could get there and consolidate into the next FOMC meeting. However, the weak earnings can be a drag on any rally.

NDX 4,400
The tech heavy index is pushing up towards 4,400 in which we will start seeing resistance. 4,300 could be short-term support. Earnings can also drive in short term volatility.

SPX 2,020
We are right at that previous support area that we hit mid-September intraday. Closing on volume above 2020 could bring confidence and a continued rally into the 2060 area. For now – be cautious and do NOT assume anything yet. VIX is in the 17 range and I think running a little lower than it should, base on probable volatility.

RUT 1180
The Russell has bounced off the lows but compared to the other indices has been in a Bear Market since July. If the Russell can’t see strength and push above 1180, then don’t expect the strength to last in the other indices. Continue to gauge the Russell as over-all order flow.

The Variables would certainly play a larger role if the market was not reliant on Fed interventionism. The question everyone is wondering is how these variables will drive Fed policy. My reading of the variables is that it clearly spells NO RATE hike in 2015 and even raises the specter of increased accommodation.

Actions speak louder than words. Sure, the market reacts to what the Fed says – but that is only short-term gyrations. Any trend is based on action, not words.

Fed is talking tough (Hawkish and Raising Rate), but their actions are anything but and I think, like the times before, they will cower, not raise rates, and come up with some blame-game justification as to why they did not – again.

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