@theMarket: Stocks Playing a Game of Inches

Bears and bulls are battling for supremacy, which is keeping stocks moving in a tight range. The question is which way will the markets break?

 

On the plus side, inflation does appear to be falling, or at least not going higher. Both the Consumer Price Index and the Producer Price Index came in as expected for April. Investors interpreted the data as a bit of a positive in the fight to control inflation. The trend is definitely down compared to last year's numbers.

 

Bears, on the other hand, were encouraged by the rising fears of a default on the nation's debt in less than three weeks. In addition, the ongoing regional bank contagion is alive and well. Pacific West Bank, a regional bank, reported that almost 10 percent of deposits flowed out of the bank's doors last week.

 

The focus on corporate earnings has taken a step back now that the mega stocks have been reported. Results are still coming in better than expected overall, but guidance is checkered. Companies in some sectors are seeing a troubled future, while others claim it is business as usual.

 

Just a handful of stocks (FANG+) have been supporting the equity market for months and that still seems to be the trend. For the markets to move higher, we would need to see both an expansion of the number of stocks that are participating in an up move (breath) and overall market volume must increase as well.

 

Early last month, in a separate column on the debt ceiling, I warned that readers could expect the debt ceiling would begin to concern Washington, the media, and the financial markets. This week was the first meeting of the key players: the president, and leaders of both parties in Congress. I expect the rhetoric to escalate, and fear-mongering will move to center stage. The beginning of the horse-trading process is expected to occur early next week when both sides meet again.

 

For the politicians, it is a huge opportunity to shine among their partisan voters, to appear strong, dedicated to principles, and concerned about the country's future. They won't give up that chance until they absolutely must. That's why this bickering will drag on up to the eleventh hour or even beyond. 

 

Underneath this farce is a simple truth. Imagine a credit card bill, or mortgage payment that is due on June 1. Most people would not even blink in considering whether to pay at least the minimum amount due. Sure, you may have a discussion afterward on how to reduce your spending or refinance a mortgage, but you won't skip a payment. But in Washington politics, that argument is beside the point because it is not about the debt, it is about them and their political future.

 

The sad, sad truth is that without turmoil in financial markets, the politicians on both sides have no incentive to agree. That could mean by next week, or the week after, we can expect to see a period of downside in the markets, punctuated by spikes higher as market participants hang on every word uttered in this increasingly acrimonious debate. That could mean a 10-15 percent decline in the markets between the last weeks of May into June. 

 

I am already getting calls from concerned investors on how to manage through this volatile couple of weeks. For long-term investors, my advice is to do nothing. In the end, the debt ceiling will be passed. Those most against it now will vote for it in the end and then try and hide their vote from their constituents.

 

If you feel you will need some cash in the short term, a three-month CD could be a safe bet. The yield on those instruments is almost 5.25 percent, the last I looked, which is a great rate.  U.S. Treasury bills, notes, and bonds are also an alternative, although, with the risk of government default, some investors are shunning these instruments despite yields on the short end that are 5 percent or more.  In any case, prepare for an uncomfortable few weeks, but we will come out the other side just fine.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.