Tapering Expectations?

Stocks have been going sideways for the better part of the past month. And as can be expected, the two combatants in our stock market game have differing opinions on what this means. "Sideways is the new down!" is the battle cry of the glass-is-at-least-half-full camp. However, on the other side of the aisle, our furry friends in the bear camp will tell anyone willing to listen that the current malaise is a precursor to a very ugly decline.

The question for this fine Wednesday morning is "why" are stocks going sideways? More specifically, if the stock market is about to roll over and die, why has it not done so already? After all, there have been plenty of opportunities for the bears to get something going over the past month. For example, the sell algos have been pounding the indices down by nearly 1 percent on an intraday basis almost every day lately. And yet, as of Tuesday's close, the S&P 500 is less than 1 percent from its all-time high.

From the bulls' perspective it is fairly easy to argue that the current period of sideways action is merely another consolidation phase. And with stocks up nearly 20 percent year-to-date in 2013, a 'pause that refreshes' might be just what doctor ordered - especially if the consolidation basically marks time until the calendar's seasonality improves.

Why Haven't Stocks Tanked Already?

Back to the point; why have stocks not tanked? Greece is back. The Fed is talking taper. China's growth is a problem. The U.S. economy isn't exactly hitting on all cylinders. Earnings growth is slowing. The job market is not great. And interest rates continue to move higher. As such, wouldn't a correction of -5 percent to -10 percent be logical right about now? Isn't there enough bad stuff "out there" to get folks to take some profits or go the other way for a while?

One argument the bulls have been using all year may still apply here. In short, the money being printed by the central banks of the world has to go somewhere. And now that the U.S. market appears to be "safe" again, the John Q. Public's of the world have become the latest momentum players to enter the game.

All About Bernanke's Bunch (Still)

The great expectations relating to what Ben Bernanke's bunch might do next that continues to hold the key to the game. Atlanta Fed President Dennis Lockhart's comments Tuesday represent the real reason stocks continue to hold near their all-time highs.

In short, Mr. Lockhart said that there probably won't be enough data to make a decision on tapering at the FOMC's September meeting. While Lockhart didn't rule out the idea that the taper could begin in October, he did pour cold water on the fear that tapering in September is a done deal. "I don't expect to have enough data to be sure of my outlook. For that reason, I don't think a decision that commits the Fed to a full phase-out of asset purchases and lays out a precise, beginning-to-end path for doing so would be advisable," Lockhart said.

Also buried in that one line of Fedspeak is the concept that tapering is not going to be a one-off event. No, Lockhart made it clear that when the Fed does indeed decide to taper, it would be a "precise, beginning-to-end path."

"We Aren't Going to Screw It Up"

The key here is that the Fed appears to be trying to tell market players, "Hey, this is a big deal and we're not going to screw it up... We said our future moves will be data dependent, and we mean it." And since fear of a "policy mistake" by the Fed is always an issue when changes occur, it appears that by not freaking out, the stock market is taking Bernanke at his word at the present time.

While the stock market could easily prove this thesis wrong at the drop of an algo, the thing to keep in mind is that tapering is not a bad thing from an economic standpoint. If the Fed has the proof it needs to begin cutting back on the stimulus it is providing to the economy, it simply means that the good 'ol USofA may FINALLY be ready to move forward again in earnest. In other words, if Bernanke is confident that he can stop priming the pump then the "escape velocity" the Fed has been working toward may have been achieved.

So, why haven't stocks done the dance to the downside that the bears are clamoring for? In sum, one answer might be that the market has been tapering its expectations with regard to the potential negative impact of "the taper."

Current Market Drivers

Success comes from understanding the driving forces behind the market action on a daily basis. The thinking is that if one can both identify and understand why stocks are doing what they are doing on a short-term basis; it is unlikely one will be surprised/blind-sided by a big move. Listed below are some of the driving forces of the current market (listed in order of importance).

      1. The State of Fed/Global Central Bank Policies
      2. The Outlook for the U.S./Global Economy

The State of the Trend

It is important to analyze the market using multiple time-frames. Short-term is 3 days to 3 weeks, intermediate-term is 3 weeks to 3 months, and long-term is 3 months or more. Below are the current ratings of the three primary trends:

Short-Term Trend: Neutral
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend: Positive
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend: Positive
(Chart below is S&P 500 daily over past 12 months)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the important levels to watch today:

• Near-Term Support Zone(s) for S&P 500: 1680
• Near-Term Resistance Zone(s): 1710

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of indicators relating to the market's "mo"...

• Trend and Breadth Confirmation Indicator: Moderately Positive
• Price Thrust Indicator: Positive
• Volume Thrust Indicator: Neutral
• Breadth Thrust Indicator: Neutral
• Bull/Bear Volume Relationship: Positive
• Technical Health of 100 Industry Groups: Moderately Positive

The Early Warning Indicators

Markets travel in cycles. Thus one must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

• Overbought/Oversold Condition: The S&P 500 is neutral from a short-term perspective and is moderately overbought from an intermediate-term point of view.
• Market Sentiment: The primary sentiment model is negative .

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward because different market environments require different investing strategies. To help identify the current environment, look to the longer-term State of the Markets Model. This model is designed to determine when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model reveals whether the odds favor the bulls, bears, or neither team.

Weekly State of the Market Model Reading: Moderately Positive - The weekly model is positive. This suggests to continue to favor the bulls.

If you are looking for a disciplined, rules-based system to help guide your market exposure, check out The Daily Decision System.

Turning To This Morning...

The big news overnight was the fact that the economies of the Eurozone, France, and Germany all emerged from recession in the second quarter of the year. However, the news was expected and isn't exactly being celebrated by the markets in the early going. It is also worth noting that the early action has not exactly been a great indicator of how the day will go of late. And today may be no different as traders appear to be waiting on what St. Louis Fed President James Bullard has to say this afternoon at 3:15 pm eastern.

Pre-Game Indicators

Here are the Pre-Market indicators to review each morning before the opening bell...

Major Foreign Markets:
- Japan: +1.32%
- Hong Kong: closed
- Shanghai: -0.29%
- London: -0.12%
- Germany: +0.10%
- France: +0.33%
- Italy: +0.07%
- Spain: -0.23%

Crude Oil Futures: -$0.55 to $106.28

Gold: +$2.90 to $1323.30

Dollar: lower against the yen and pound, higher vs. euro

10-Year Bond Yield: Currently trading at 2.715%

Stock Futures Ahead of Open in U.S. (relative to fair value):
- S&P 500: -2.16
- Dow Jones Industrial Average: -20
- NASDAQ Composite: -1.36

Thought For The Day...

"The two most important days in your life are the day you are born and the day you find out why." –Mark Twain

Wishing you green screens and all the best for a great day,

David D. Moenning
Founder and Chief Investment Strategist
StateoftheMarkets.com

Positions in stocks mentioned: none

Forget the fast money and the latest, greatest option trade. What investors need is a strategy to keep them in the stock market during bull markets and on the sidelines (or short) during bear markets. The Daily Decision System Can Help

For up to the minute updates on the market's driving forces, Follow Me on Twitter: @StateDave (Twitter is the new Ticker Tape)

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