You Can't Fight the Fed

 | Sep 16, 2011 | 8:25 AM EDT
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"Whoever controls the volume of money in any country is absolute master of all industry and commerce."

--President James A. Garfield

Since the lows in March 2009, one of the easiest mistakes to make about the market is to be too pessimistic over concerns about the economy. We are undoubtedly suffering through the worst economy that most of us have ever seen. But even though the mood on Main Street has been tremendously gloomy for several years, the market has not acted poorly overall.  

The primary reason the market has held up so well while the economic picture has remained so gloomy is central bank intervention. Cheap money provided by the Fed has had few places to go other than equities. Banks aren't lending money and interest rates are near zero, so there has been little choice but to buy stocks if you want to put capital to work.

Yesterday we had another dose of central bank intervention, but this time it was in Europe. We even have talk now of some sort of TARP program modeled after what was done in the U.S. a few years ago. While the central bank action hasn't changed many minds about the health of the European economy, it has provided a prop for the stock market.  We have seen the results the last four days as we have gone successively higher.

Not only are central banks helping Europe, but next week we have a very important Fed meeting, and Chairman Ben Bernanke has already signaled that some sort of quantitative easing program is going to be announced. Economists are widely anticipating Operation Twist, which is intended to flatten the yield curve by lowering long-term interest rates. Since short-term rates are already near zero, this is the only way the Fed can make funds any cheaper.

We'll have plenty of chatter about the Fed next week, but the important point is that if you can't fight the central banks. Nothing much else matters to the stock market when cheap cash is sloshing around as the world's banks throw money at our problems.

The challenge for market players is that there is a laundry of list of negatives out there and it is hard to ignore them when they are so obvious. How can you be wildly bullish when our economy continues to sputter, unemployment is staying stubbornly high, the European sovereign debt crisis remains unresolved and market strategists have been aggressively cutting targets?  

Making a bearish case has never been easier, and pessimism is extremely high, which is probably a big reason that this market has been moving straight up the last four days as the central banks ride to the rescue once again. Market players simply aren't prepared for it and too many doubt the power of the bankers.

The technical picture also presents a problem for market players looking to be more positive. We have had a four-day rally on mediocre volume and are now running into resistance at the August highs and the 50-day simple moving average. We are somewhat extended, and finding new entries after this run is not easy.  Many thought we should have pulled back already, and they are being squeezed, as underinvested bulls aren't waiting for dips before they buy.

The central banks are calling the shots, and that is what's helping this market to levitate, despite the many negatives out there. It may not seem logical when you look at economic conditions, but cheap money drives the market better than anything else does.

We have a little weakness in the early going, but Europe is green and market players will be looking ahead to next week's Fed meeting, which limit the downside. If you are trying to fade this recent bounce, don't hesitate to take gains when you have them.



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