The Last Crisis to Go

Generally, the world does not end. That is my sage observation after spending 45 years in the investment industry. Given the recent market action, it appears that money managers are finally coming around to my point of view.

Remember the great Debt Ceiling Crisis in July of 2011? Congress held out until the last second of the last minute of the last hour before coming to agreement on, what in past years, has been a simple housekeeping matter. Before the ink was even dry on the deal, the stock market started to amputate 25% off the value of your IRA in the following two months.

I always thought that this plunge was due to investors completely losing confidence in the full faith and credit of the United States government. Can you blame them when a Republican House was refusing to pay a largely (65%) Republican debt?

Then we got the “Fiscal Cliff”. This time, your retirement fund suffered only a 10% hickey. That was the extent of the descent in stock indices in the aftermath of the presidential election. Then, guess what? We made it all back in six weeks and closed the year at the highs. Investors were learning that, generally, the world doesn’t end after all.

In a mere seven weeks we will face the last crisis for the foreseeable future, that of the Debt Ceiling Crisis, Part II. Only this time, it’s different. Stocks are not cratering. Instead, they are grinding sideways on diminishing volume, holding on to the dramatic gains they have wracked up since the end of November. What gives?

I believe that traders are not going to get scared by this impending disaster into dumping all their positions at the bottom, only to buy them back at the top. This time, they are holding tight. What this sets up is asset prices that grind sideways for a month on declining volatility, frustrating every attempt by the underinvested to boost equity weightings.

Then on the eve of a resolution of this donnybrook, stock prices will explode to the upside. To anyone who spent much of their youth pheasant or quail hunting, it is all familiar behavior. Stand still in one spot long enough, and you will eventually flush out a bird, or sometimes an entire covey, which makes an easy shot. That’s what I expect investors to do in February.

How am I positioned for such a market? I have the heaviest equity allocation in over a year. But every position has a short volatility element to it. If the market goes up, my year-to-date performance will hit 20% by February 15. If the market goes sideways, it will still reach 20% by February 15. If it goes down by less than 5%, I should still show a profit of 20% by February 15. To get the inside baseball on how I do this, you have to subscribe to my market beating Trade Alert Service.

It may well turn out that there is no crisis at all on March 31. President Obama could fall back on the 14th amendment, which requires the government to honor its debts in all circumstances. That leaves the House to argue with itself in the obscurity of CSPAN. If the market figures this out, it will go ballistic.

The rally that ensues will set up the high for the year for assets, and a new 14 year high in the stock market. Whether the S&P 500 (SPX) reaches 1,500, 1,550, or 1,600, is anybody’s guess. The top, no doubt, will be made by capitulation buying by those who, until now, idly watched the appreciation on TV, as they always do.

Then we are in for some tough sledding. Q1, 2013 will be dominated by better than expected data from superior business performance at the end of 2012. In Q2, 2013, the story will be about a torrent of worse than expected data that the bitter fruit of the fiscal cliff resolution come to harvest in the form of less spending by a newly impoverished government and consumers. That sets up nicely for a 15%-20% summer correction.

By the way, the California hunting grounds of my youth are long gone, turned into suburbs or factories. To hunt these days, you have to join an exclusive club which stocks limited grounds with as many as 20,000 birds a year. But you know what? They still behave just the same, and taste just as good.

SPX 1-11-12

IWM 1-11-13

QQQ 1-11-13