Is The Fed Setting Up Stagflation

Investor’s first read – Daily edge before the open
DJIA:18,086
S&P 500: 2,126
Nasdaq Comp.:5,199
Russell 2000:1,210
Tuesday, October 18, 2016 9:12 a.m.
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WHAT COULD HURT THE MARKET
-The uncertainty of who will be elected president has pretty much vanished, and the Street’s concern may now turn to whether the Republicans will lose control of the Senate or even the U.S. House. That was not considered possible six weeks ago.
-Q3 earnings reports in October, which are expected to mark the sixth straight quarterly decline for the S&P 500.
-a downward revision of 2017’s S&P 500 earnings, currently expected by Factset to increase 12.8%. Oil industry earnings have been crushed over the last two years, punishing the S&P 500 earnings as a group. But, based on $55 WTI oil price projections, the oil industry stands to give back what it took away from the overall earnings for the 500. We’ll see.
Reportedly, three-quarters of UK CEOs surveyed by KPMG are considering relocating HQs due to Brexit. After a four day rout, the British pound rebounded after PM Theresa May agreed to give Parliament a vote on her Brexit plan.
-October madness ! (defies quantification or reason, but happens !
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Q3 EARNINGS
S&P 500 earnings for Q3 are expected to decline 2%, marking the sixth straight quarter of declining earnings.
This shortfall has been expected, and shouldn’t have much impact. What is not expected is if Q4 earnings fail to stabilize, and especially if the Street begins to revise 2017 earnings down from a projected growth rate of 12.8% .This week Factset revised this number down from 13.1%.
The U.S. dollar has been firming since May, which stands to hurt multinational earnings. While the Street has ignored earnings and their overvaluation by the benchmark S&P 500 for years, opting for full focus on the Fed’s policy on interest rates, that can change if the prospect for a sharp earnings rebound in 2017 vanishes.
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POTENTIAL POSITIVES
But let’s not overlook two potential catalysts.
We now have $50+ oil and efforts to put a lid on production. Pendulums do swing back from extremes, and the demise of profitability in the oil industry has clearly breached extremes, adversely impacting S&P 500 earnings. Year-ago numbers will be easier to beat in coming quarters, which would have a positive impact on S&P 500 earnings, helping to narrow the over valuation gap existing now.
That’s what can happen if the price of oil stabilizes and moves higher.
TODAY
Friday, Fed Chair Janet Yellen added yet another wrinkle to anyone attempting to understand just where the Fed is going with its policy. Yellen inferred that a “high pressure” policy may be the only way for the Fed to achieve its economic growth goals which suggests tightening may not have to start until inflation advances beyond its 2 percent target.
What this says is, the Fed may raise rates in December, but do not expect multiple rate increases in 2017, which some analysts believe would be the norm.
It took a day for decision makers to conclude this was bullish, though there is a chance that inflation will suddenly kick in beyond expectations. The Fed will then blindside investors with unexpected rapid increases in rates, even though the economy struggles – stagflation.
If the Street has nothing to fret about a series of rate hikes (money tightening), it will believe this bull market can run untethered to new highs, which in itself would be inflationary as it creates euphoria, which leads to yet another bubble.
Based on stock-index futures trading, the DJIA should “gap” at the open, posting a gain of 145 points in the first hour of trading. There is no reason to expect that surge will not to hold, but a rally failure would be bearish.
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RESISTANCE “today”: DJIA:18,217; S&P 500:2,141; Nasdaq Comp.:5,237
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MY TECHNICAL ANALYSIS of the 30 DJIA Companies:
On occasion, I technically analyze each of the 30 DJIA stocks for a reasonable risk, a more extreme risk, and an upside potential over the near-term. I add the results of each, then divide by the new DJIA “divisor” (0.14602) to get the DJIA for those levels. This gives me an internal check on the DJIA itself, especially if certain higher priced stocks are distorting the averages.
As of September 16, 2016, a reasonable risk is 18,129 a more extreme risk is 17,908 Near-term upside potential is 18,435.
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ELECTION YEAR PATTERN BEARISH AFTER MARCH
(So far this is not holding up)
The market is tracking a pattern for presidential election years where an administration is in its second term.* The news is bad.
Historically, these markets have declined in Jan./Feb., rallied in March then topped out in early April, plunged in May with brief rallies in June and August and a plunge into October prior to the election.
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 STATUS OF MARKET: Neutral – but very, very vulnerable. Expect volatility
 OPPORTUNITY: RISK: Risk high, Profit taking justified.
 CASH RESERVE: 45%. Consider 75% now if tolerance for risk is low.
 KEY FACTORS: Outlook for Q3, and 2016 earnings questionable with strong U.S. dollar. Forecasts for 2017 still for a gain in S&P 500 earnings of 13.4%. It has been there for months in spite of deteriorating earnings this year. Any downward revision could impact the market significantly.
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Note: Source of weekly economic calendar and good recap of indicators: mam.econoday.com.
*Stock Trader’s Almanac
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George Brooks
Investor’s first read
A Game-On Analysis, LLC publication
Brooks007read@aol.com
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Investor’s first read, is a Game-On Analysis, LLC publication for which George Brooks is sole owner, manager and writer. Neither Game-On Analysis, LLC, nor George Brooks is registered as an investment advisor. Ideas expressed herein are the opinions of the writer, are for informational purposes, and are not to serve as the sole basis for any investment decision. References to specific securities should not be construed as particularized or as investment advice as recommendations that you or any investors purchase or sell these securities on their own account. Readers are expected to assume full responsibility for conducting their own research pursuant to investment in keeping with their tolerance for risk.

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