Market Insider

Earnings and Fed the Focus as Markets Wait for Europe

As markets countdown toward a European bailout plan, traders are finding other things to preoccupy themselves — like the routine of corporate earnings but also speculation about another Fed easing program.


Tuesday's before the bell earnings are expected from BP , Deutsche Bank , UBS , DuPont , 3M , and UPS . Monday's after the bell disaster du jour — Netflix — will also attract interest. The stock plunged nearly 30 percent in late trading, after it forecast fourth quarter earnings in a wide range, sharply below what was expected by analysts. Texas Instruments also disappointed, sliding more than a percent in the after hours market.

Stocks bounded higher Monday, helped by apparent progress, as European leaders promised a plan for their bailout fund at Wednesday's leaders summit. The market also got a lift after a Monday morning merger spree and good earnings and forecast from Caterpillar . Small caps led the gains, with the Russell 2000 breaking out to levels last seen in August.

But by early afternoon, traders were again focusing on the idea that maybe the Fed has another round of easing up its sleeve, since Fed officials keep commenting on quantitative easing. The latest comment was from New York Fed President William Dudley, who said Monday the Fed is not out of bullets and that it could do another round of quantitative easing, if needed. The Fed ended its last quantitative easing plan, known as QE2, at the end of June.

That program involved the purchase of $600 billion in Treasury securities. Traders are speculating that if things go wrong in Europe, the Fed could quickly restart the program, which was widely credited with sending stocks and commodities prices higher.

The Fed is now involved in 'operation twist' which is a program to adjust the duration of Treasurys it is holding, but not by expanding the balance sheet. The Fed is also purchasing mortgage securities with the proceeds of the expiring mortgages in its portfolio, in an effort to drive rates lower.

Brown Brothers Harriman chief currency strategist Marc Chandler said traders are jumping to the wrong conclusion about more QE. "I think they're misreading what they're saying. The Fed has never ruled out QE3," he said.

"QE is behind us," said Chandler. This week, "we're likely to get a good Q3 GDP number (Thursday) and the Richmond Fed (Tuesday) is going to turn positive for the first time since June. The Philly Fed (survey) was good last week, and the four-week moving average for weekly jobless claims is at a several months low."

Chandler said it's possible the Fed, if it goes beyond its current 'twist' program, could purchase mortgages, after selling a similar amount of Treasurys. That would not expand its balance sheet as QE2 did.

The Richmond Fed survey, important mainly because it is more current data, is due at 10 a.m. ET Tuesday. S&P/Case-Shiller home price data is reported at 9 a.m., and FHFA home prices and consumer confidence are both at 10 a.m.

"This is going to be a positive number," Chandler said of the Richmond Fed. "This is going to reinforce the idea that the U.S. economy was accelerating in Q3."


Investors have been focused on Europe and the back and forth of officials there on how to use the 440 billion euro European Financial Stability Facility (EFSF) bailout fund to stem the sovereign debt crisis. They also await details of a plan to recapitalize banks and the 'hair cut' investors will have to take on Greek debt.

"What comes out Wednesday is not going to be the final thing. It's emerging," Chandler said. He said he believes the euro, at 1.3926 late Monday could go to as high as 1.4050.

"Most of the euro's rise so far has been short covering. People are not getting long euros," he said. Chandler noted that the S&P 500 and the euro were at the highest level of correlation ever Monday, at a level of 74 percent.

As the euro rose Monday, the stock market also gained. The Dow was up 0.9 percent, or 104 points to 11,913, and the S&P was up 1.3 percent, or 15 points to 1,254. The Russell 2000, meanwhile, outpaced those gains and rose 3.3 percent to 736, a point shy of an area some technicians see as key resistance.

The bond market saw selling, with the 10-year yield rising to 2.226 percent, and the 2-year yield rising to 0.283 percent, the highest level since Oct. 14.

The Treasury auctions $35 billion in 2-year notes Tuesday at 1 p.m. "This week is a little bit tough as far as trying to express a positive view on the Treasury market. We have $99 billion in 2-, 5- and 7-year supply. Also, the Fed has two operations in the 2.5- to 3-year area this week," said Tom Simons, money market economist at Jefferies.

The Fed's bond sales, related to 'operation twist' are Wednesday and Friday. "That's another almost $18 billion in supply that's going to hit on top of the $35 billion."

Simons said the market is still heavily focused on the efforts of European leaders to come up with a plan. "No matter what happens, it's going to be rough... it's setting up to be a nightmare next week. Maybe that's one reason the Treasury market is not doing anything," Simons said.

Next week, European leaders are expected to bring their plan to the G-20 leaders meeting in Cannes on Nov. 2. The Fed also meets next week, on Nov. 1 and 2. The week ends with the important October employment report on Friday.

Whither Stocks

As the debate rages on whether the S&P's 14 percent run since Oct. 3 is "real," traders Monday were watching the Russell 2000 take off. The Russell will have to close above 737 to confirm the bullish trend, according to Paul LaRosa, chief market technician at Maxim Group. LaRosa said if the Russell closes above that level, it would be the last of the four major stock market indices to close above resistance, a bullish sign.

Lori Calvasina, small and mid cap equity strategist at Credit Suisse, said she was watching 728, an area the index last saw in August. "I think today was an important day because we broke through the top of that range we had been in since August," said Calvasina.

She said she expects hedge funds to jump into small caps in a big way, if the European situation is resolved favorably. Calvasina said Monday could represent an inflection point. "Historically, you want to buy small caps in these types of crisis. They're always the leadership on the way out, but it hasn't been a clear cut case this time... I think one of the issues is they didn't get as cheap as they did in 2008/2009," she said.

Calvasina said small caps, in the last market rout, did not drop as much as they typically do in a recession. "I don't feel like we ever really priced in a recession.. The average (recessionary drop) has been a 37 percent drop. This was 30," she said.

She said if  you look at the ratio of the p/e between the Russell 1000 and Russell 2000, it is now above the historic level, meaning small caps are more expensive relative to the bigger cap stocks. The ratio was 1.12 on Oct. 3, and it averages about 1.03.

Calvasina said a group that's been outperforming the bigger members of the Russell 2000 has been the 'tiny' caps. "People shy away because they think it's lower quality and illiquid... But at the same time, we have some shows that if you look at the smaller end of the Russell. Typically when small caps are going up, it has been the tiny end that's been outperforming."

Earnings Central

Other companies on the calendar Tuesday include Canon, Delta Air Lines, Coach, Simon Property Group, Xerox and Under Armour.

After the bell earnings are expected from, Broadcom, Boston Properties, DreamWorks Animation, Express Scripts, McKesson, F5 and Panera Bread.