Fed taper on hold, stocks continue to climb higher

The time of maximum pessimism is the best time to buy and the time of maximum optimism is the best time to sell. – Sir John Templeton          

Records are made to be broken and for the seventh consecutive week, both the Dow Jones Industrial Average and the S&P 500 Index closed at record high levels for the week. The primary reasons for the bullishness among investors were twofold: a belief that any Fed tapering will not occur until the first half of 2014 and evidence that the economy is stable and growing at a modest pace. Release of the minutes from the most recent Federal Reserve meeting indicate that a reduction in the monthly stimulus would likely occur “in the coming months” but only if the economy improves enough to warrant such action. The central bank acknowledged that it is looking for ways to curtail the bond-buying program but won’t jeopardize the economic recovery to do so. They also emphasized that even though tapering may begin, interest rates would likely not be raised for a very long time. With tapering off the table for the rest of 2013, investors are comfortable with buying equities as they view the market as having little risk between now and year-end. With Janet Yellen’s confirmation all but assured by the whole Senate, her dovish ways are music to stock investors’ ears. There also was enough economic data released last week to conclude that growth, though not robust by any means, will continue at a slow, steady pace. Retail sales were better than expected during the month of October and jobless claims recorded their biggest drop last week in nearly three months. Combine that with an improving manufacturing sector, a stronger housing market and benign inflation data, and it’s no wonder that investors are gravitating toward stocks. With no recession anywhere on the horizon to adversely affect corporate earnings, it’s difficult to predict what may slow this charging bull.

Last Week

In the largest settlement ever with the U.S. government and a case of regulatory overreach, JP Morgan Chase agreed to pay a record $13 billion to resolve charges that it misrepresented the value of mortgage securities that it sold to investors, which led to the housing bubble. Never mind that JP Morgan was asked by the government to acquire both Bear Stearns and Washington Mutual, two failing institutions, during the financial crisis in 2008. In other news, Janet  Yellen was approved to be the next Fed chair by a Senate committee and her counterpart in Europe, Mario Draghi, is considering an asset-purchase program similar to that of the Federal Reserve to help jump start Europe’s weak economy.

In a healthy sign heading into the holiday shopping season, retail sales rose 0.4% in October and if you believe the government, inflation has been tamed as both the producer price index (PPI) and the consumer price index (CPI) fell last month. And the Oracle of Omaha, Warren Buffett, commented last week that stocks are “in a zone of reasonableness”, neither overpriced nor underpriced.

For the week, the Dow Jones Industrial Average rose 1.3% to close at 16,064 while the S&P 500 Index gained 0.4% to close at 1,804. The Nasdaq Composite Index also increased but just 0.1% to close at 3,991.

This Week

Housing starts for both September and October are reported and should provide solid evidence of continued improvement in the housing sector. Likewise, durable-goods orders for October are on tap and are forecast to increase a modest 0.4%. Rounding out the economic data are leading economic indicators for October and the Chicago Purchasing Managers’ report, both of which should confirm strength in the economy.

Friday marks the official start of the holiday shopping season, but many retailers plan to open on Thanksgiving Day in order to get a head start on their competition, in what promises to be a very promotional Christmas. Most analysts are predicting about 3% holiday sales growth, the slowest since 2007.

In this holiday-shortened week, third quarter earnings reports will be sparse, with the most notable being Hewlett Packard. Investors will be watching this report closely after Intel disappointed the Street last week with its forecast of flat revenue and operating profit for 2014. 

Portfolio Strategy

While the Federal Reserve policy committee meets one more time this year in December to review its monetary policy, almost no one believes that any changes will be made at their meeting. With such assurance on the part of investors, it seems reasonable to assume that stocks will continue to move higher, although a mild correction should not be ruled out. Historically, the month of December has been a strong one for the stock market and with only weekly economic data to consider and the absence of fourth quarter earnings reports until January, equities will probably continue to be the investment of choice for investors for the balance of the year. Emerging markets, commodities and bonds have all paled by comparison as their returns this year have been negative. Money market funds also have been poor investments as their yields are miniscule and don’t offer any protection against inflation, even if it is very low. Investors have concluded that even if the Fed begins to reduce its monthly stimulus program, it will likely be due to a stronger, more vibrant economy, which ultimately should benefit corporate earnings and favor stocks.