Happily we go straight to the cliff. Will we go over it? If so, will we go way over, or will we just dip into January to get that dropping sensation in our stomachs before pulling the parachute cord?
The fiscal cliff is all anyone talks about these days. The market seems confident that a deal will be done. I’m not sure why, as nothing that has been shared in public has been very reassuring. One theory is that politicians are actually not in a hurry because the market has not signaled desperation. That leads to some interesting circular reasoning: the markets stay relatively calm, putting faith in politicians who end up doing nothing because they have faith that the market would signal a real need to act.
Perhaps even more puzzling is the fact that consumer sentiment is at a five-year high. I saw a projection from one economist who believes unemployment will go to 11 percent if we go over the cliff, and of course as we wrote last time, the first effect of the cliff will be increased taxes out of consumers’ January paychecks. Consumers also seem to be going all-in on our government coming to a solution, and I fear their faith will be one more excuse for our politicians to delay. If the consumers aren’t worrying, then why should politicians?
It certainly is a curious time. The market did begin to act as we thought it should immediately after the election, then it decided to go up nearly 4 percent over Thanksgiving. Usually moves like that are ignored by investors because it was on anemic volume over a holiday week, and one assumes the professionals will be back at work the next week and will correct that false optimism. Thus far that has not happened.
Most of the talking heads have been saying that they believe the market will pop big when a deal is announced in Washington. We think that is probably true, but what happens if a deal is not forthcoming? It appears that option is not even being considered. We think this phenomenon presents one of those binary moments when only one of two things is going to happen: a deal will get done and the market will go up dramatically, or a deal won’t get done and the market will drop dramatically. We prefer to err on the safe side of that bet.
Either way we will get beyond the cliff and when we do, there are beginning to be some bright spots. Housing is truly improving and the economy grew faster than originally believed in the third quarter. Economic weakness in Europe has had one silver lining in that reduced demand for commodities has eased the pain at the pump for many consumers. Earnings growth in the third quarter has settled to -0.9 percent, according to FactSet, which ends an eleven-quarter streak for positive growth, but this is better than the almost 3 percent drop that was expected. Revenues, on the other hand, did disappoint with 59 percent of companies missing estimates, so don’t get too excited just yet. Still it feels like it has been a long time since there has been anything positive to talk about so I am seizing the moment.
The bottom line is that all eyes are on Washington until we either go over the cliff or come to an agreement. It is time to be nimble and hope Santa brings us something good for Christmas and not a lump of coal.
One final note. Our political class is, by and large, more opportunistic than idealistic. Of course there are exceptions, but for most politicians the unwillingness to compromise comes not from core values but from the knowledge that doing so will be used against them when they run for re-election. If you really want our leaders to work together, which requires compromise on both sides, then you might consider letting your elected officials know that by shooting them an email or phone call. If you do so and they follow that lead, then we should do everything in our power to make sure that they don’t get punished for it in the next election. Food for thought.
Chuck Osborne, CFA
Managing Director
