Stocks are so far looking past the brewing congressional debt ceiling drama but that could change quickly if it becomes very contentious.
As if in a chorus, President Barack Obama, Fed Chairman Ben Bernanke and Treasury Secretary Tim Geithner all warned on Monday that Congress needs to raise the debt ceiling to allow the U.S. to pay its bills. In a letter to Congress, Geithner said the U.S. will hit the ceiling between mid-February and early March, and noted that the government would then have to be funded by whatever cash the Treasury Department has on hand on a given day. He warned even a brief default would be terribly damaging.
Republican lawmakers, meanwhile, called again on the Obama administration to prioritize payments to bondholders should Congress fail to increase the $16.4 trillion debt limit, a move they say would prevent a default. The Obama administration has said that plan would not work. House Republicans said they won't agree to raise the debt limit without equivalent amounts of spending cuts.
"Raising the debt ceiling, which Congress has to do periodically, gives the government the ability to pay its existing bills. It doesn't create new deficits, it doesn't create new spending," said Bernanke during an appearance Monday at the University of Michigan.
Bernanke said the "fiscal cliff" deal was progress but the U.S. is still "not out of the woods," pointing to the debt ceiling debate in Congress and the "sequestration" or automatic spending cuts that need to be addressed. "We are approaching a number of other fiscal critical watersheds," he said.
For that reason, Randy Frederick, director of trading and derivatives at Charles Schwab, expects the market to trade sideways until there is resolution, despite the fact the S&P 500is at five-year highs. "I'm expecting the market to stay relatively sideways. I'm surprised it continues to creep higher and higher," he said. "I thought it would hit some pretty solid resistance around that 1465 level."
The S&P 500 fell 1 to 1470 Monday, and the Dow Jones Industrial Average rose 18 to 13,507 in a mixed day of trading. Frederick said he is warning clients to buy protection in the form of puts on their individual stock holdings while the situation in Washington sorts out.
In the meantime, he expects to see action in individual stock names as the fourth-quarter earnings season gets underway. On Tuesday, earnings are expected from Burberry,Forest Laboratories, Lennar, and Commerce Bancshares. But the number of companies releasing results picks up significantly on Wednesday, when JPMorgan Chaseand others report.
Brian Rauscher, chief portfolio strategist at Robert W. Baird, said he expects a correctionin the first half of 2013, but he doesn't see a signal yet in his models. "My data says the clock is ticking for the correction. I just don't have the signal yet. The indicator I want to see roll over and peak hasn't gotten there yet," he said, noting that is a trading model for price and momentum.
(Read More: Is Wall Street Over Washington?)
He estimated the S&P 500 could have between 10 and 30 points more to advance. "If we woke up and the debt ceiling was resolved, we'd have a 50 point rally," he said, adding that it's difficult to make a forecast with the debt ceiling debate in the background.
But Rauscher did say that unlike this time last year and the year before, he is not telling clients to abandon offensive sectors and take defensive positions. He also said any sell-off would create an opportunity to buy back on the dip.
"Last year was completely defensive. This year my work says what looks attractive is tech, which is offensive, health care which is defensive, and financials, which are offense," he said.
"I have been advising clients not to sell here, but it is difficult to put in new money and get aggressive here," Rauscher said, adding that he is more negative on the economic recovery than some, and he still sees risks from Europe.
Traders were watching Bernanke to see if he would make any new characterizations aboutquantitative easing, after the minutes of the Fed's last meeting showed several Fed officials wanted the asset-purchase program to wind down this year, earlier than expected.
But Bernanke reaffirmed his view that easing is required, while the economy is improving but not enough. That should assure risk markets that the Fed will continue the program, as expected into next year. For "anybody who was looking for him to say, 'Look maybe we've got to take our foot of the gas a little bit,' he didn't say it," said Deutsche Bank chief U.S. economist Joseph LaVorgna.
Bernanke spoke after the closing bell, and stock futures traded flattish and mixed.
A few more Fed speakers will be out on Tuesday. They include Boston Fed President Eric Rosengren who speaks on the economy and takes questions at 8 a.m. ET, and Minneapolis Fed President Narayana Kocherlakota, who speaks on the Fed and macro economy, at 8:50 a.m. Philadelphia Fed President Charles Plosser speaks at 12:30 p.m. on the economic outlook and takes questions.
There are also retail sales data, the Empire state survey and the Producer Price Index, all at 8:30 am. ET. Business inventories are at 10 a.m. LaVorgna expects to see a 0.2 percent rise in December retail sales.
(Read More: US Economy to Grow 2.5% This Year: Fed's Evans)
"There's a lot of distortion in the data. You had the hurricane. We don't know how much stronger spending may have been absent the storm," he said.
What Else to Watch
Facebook holds a press event at its Menlo Park, Calif., headquarters. Dell is also likely to stay a focus Tuesday after rising nearly 13 percent Monday on leveraged buyout rumors.The Wall Street Journal later reported that TPG and Silver Lake were exploring bidding for Dell.
The House of Representatives considers disaster relief appropriations for super storm Sandy victims on what is the first full legislative day of the 113th Congress.