September surprised stock market skeptics, and now the debate turns to whether October will be the month that spooks investors.
Stocks finished lower Thursday, but the Dow and S&P 500 both locked in 10 percent plus gains for the third quarter and roughly 8 percent gains for the month.
"Most investors are taking an extreme view these days," says Richard Bernstein of Richard Bernstein Capital Management. "Either, we will see extreme inflation, or deflation/double-dip. It is inconceivable to people that 2011 might resemble something more normal. I think this presents opportunity," he wrote in a quick note.
As Bernstein notes, the debate among investors hinges on the economy's performance and whether the data stream signals improvement or the potential for another economic downturn. If it disappoints, that would reinforce the view of some investors that the Fed will move on further easing at its Nov. 3 meeting.
What to Watch
Friday's markets are watching the August personal income data at 8:30 a.m.; consumer sentiment at 9:55 a.m. and September ISM manufacturing data at 10 a.m.. Construction spending is at 10 a.m.. Personal consumption expenditure data is being watched closely as the Fed monitors it as an inflation gauge, and the Fed has signaled its concern about low inflation.
Traders are also watching ISM, with the view that it could provide an upside surprise, after Chicago's Purchasing Managers index was much better than anticipated Thursday. Chicago PMI rose to 60.4, from 56.7 in August, after it was expected to show a decline. Chinese purchasing managers data is expected overnight.
Peter Boockvar, equity strategist at Miller Tabak, is one who thinks October could be a good month for markets. But watch out for November with mid-term elections November 2 and Fed decision day November 3.
"I think the same thing that helped in September is going to carry over into October, and this is just another day. It's the prospect of money printing from the Fed and the November election. Nothing changes on October 1 — it's the same theme," Boockvar said.
He also said bad economic data in October would not necessarily upset the stock market, since it will be more reason for the Fed to ease. Economists expect the Fed to restart a program to purchase assets, helping to pressure interest rates by buying Treasury securities. The Fed is also concerned about a lack of inflation, and the promise of more money in the system, has already helped drive a reflation in commodities prices.
"I think we'll go into a second month of a free ride in terms of major risk that won't be alleviated by government policy. Let's just say the data really gets bad. Let's say the payroll data is really bad, and there will be even greater pressure on (President) Obama to leave the tax cuts in place," he said.
Some traders are already discussing the idea that capital gains tax rates move from the current 15 percent to 20 percent, as proposed by the Obama administration. That could force profit taking in the fourth quarter.
"Even if they raise it to 20 percent, it's a 33 percent tax hike. That could definitely elicit selling," Boockvar said.
Stocks have already priced in the likelihood of a Republican majority taking the House of Representatives, and analysts say the market would react negatively if that does not happen. Boockvar said it could also react negatively if quantitative easing is put off.
Boockvar said the markets also have to pay attention to the potential risk from Europe's sovereign debt problems in the fourth quarter though the markets shrugged off an Irish bank rescue plan and downgrade of Spanish debt Thursday.
Markets once more followed the direction of the dollar Thursday. The greenback fell just slightly against the euro, which flip-flopped during the trading day. The euro was at $1.3634 at the end of the New York session, and was moving higher in late trading. The dollar was down 7 percent against the euro for the month.
"It clearly feels that we reached a point of pause right now in the euro/dollar. This big move was really a function of the FOMC. When the Fed said they were ready to print money endlessly, that's what the market heard. The idea is if we have a relatively better tone to the economic data into Q4 that whole perception is going to start to disappear," says Boris Schlossberg of GFT Forex.
The Dow fell 47 points Thursday to 10,788, and the S&P slipped 3 to 1141. The best performing sector for the quarter was defensive telecom, up 19 percent, followed by materials, which gained 17.2 percent and consumer discretionary, up 14.7 percent. The worst performers were financial stocks, up 4 percent, and health care, up 8.2 percent.
Treasury prices were volatile during the trading day Thursday. At the end of the day, prices rose on the short end of the curve, but selling hit the longer durations. The 10-year was at 2.510 percent in late afternoon, and the 2-year was at 0.414 percent.
"I think everyone was kind of long fixed income, expecting month end index extension buying," said Rick Klingman, who heads the Treasury desk at BNP Paribas.
"Fast money selling came into the market, and everyone got flushed out, and then the market recovered," he said. "On the dip we did see some good real money buying."
Klingman also said he expects to see buying Friday. "I think the market can continue to rally...We flushed out some big longs today," he said.
Oil reached a 7-week high of $79.97 per barrel, gaining $2.11 Thursday on stronger economic data and also political unrest in OPEC member Ecuador. Oil has risen 11.2 percent in September, and is up 5.7 percent for the quarter.
Gold gave up some gains Thursday, but ended the quarter 5 percent higher at $1,307.80 per ounce. Silver gained nearly 17 percent for the quarter, and copper was up 24 percent.
Comings and Goings
Leo Apotheker, former SAO CEO, was named CEO at Hewlett-Packard, replacing Mark Hurd. The stock declined in after hours trading.(Get after-hours quotes for HP here.)
White House chief of staff Rahm Emanuel is reported to be leaving the White House, and Obama is expected to make a personnel announcement Friday.
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