- - Thursday, October 28, 2010


As one would suspect in late October, many are thinking of the tricks and treats to be had this Halloween weekend. As I look out over the next few days, I am wondering whether the investment community will get treats or tricks of its own.

On the calendar for this Friday, we have the initial look at the gross domestic product (GDP), which is expected to show a sequential slowing. To be more specific, the consensus forecast for third-quarter GDP is 1.5 percent, and while that is up from a year ago, it is down from 1.7 percent in the second quarter of this year. Normally, the market would be keyed into the GDP figure as a measure for how the domestic economy is performing.

This time, however, I suspect investors’ eyes are watching a few other things.

First and foremost is the upcoming Election Day and what that may or may not mean in terms of change. Not only change as to which political party is running which institution, but rather what does it mean in terms of repealing policies and bills that have been put forth or passed in the past two years.

The same is true for taxes and potential tax increases. Some of these political races are tight ones while others are more clear cut. The real question that we, and I suspect most informed voters, are waiting to have answered is which party takes the House and which takes the Senate. As always, the stock market abhors uncertainty and odds are investors are gaming out several investing scenarios based on the actual outcome. Trick or treat, or perhaps bittersweet?

My view is the following: Short term I doubt it will make much of a difference but in the mid-to-longer term the questions to be answered are much the ones we are all asking know — what will be done to stimulate job growth and reduced the federal deficit. I believe that once the hoopla over the election passes, investors will resume looking at the key data and will quickly dissect the October employment report that will be out a few days after Election Day.

Second, on Nov. 3, the Federal Open Market Committee (FOMC) concludes a two-day meeting and will share its most recent interest-rate decision. On the one hand, the notion that rates will remain low for the foreseeable future has been telegraphed rather clearly. On the other, the investment community is waiting to see exactly what the FOMC has up its sleeve for what has been dubbed QE2, or Quantitative Easing Part Two. The expectation is that on Nov. 3, the Federal Reserve will unveil a program of U.S. Treasury bond purchases worth a few hundred billion dollars over several months.

To say there is some concern about this potential program would be an understatement. Of the 12 regional Fed banks, three have expressed skepticism about the plan — Narayana Kocherlakota of Minneapolis, Richard W. Fisher of Dallas and Charles I. Plosser of Philadelphia. My concern, particularly given the strong rise in the stock market since initial commentary on QE2 was made in August, is whether the program unveiled is one that jibes with what is expected. In other words, has the talk to date around QE2 led investors to “buy the rumor” and once the plan is unveiled, will investors “sell the news?”

As I think about that, it really boils down to how much the Federal Reserve intends to purchase and over what period of time. In early October, a Wall Street Journal survey of private sector economists found the following expectation: “The Fed will purchase about $250 billion of Treasury bonds per quarter and continue until mid-2011, amounting to about $750 billion in all.”

At the same time, New York Fed President William Dudley floated what some would call a balloon when he described the impact $500 billion worth of purchases would have.

As the saying goes, we will know when we know, but odds are this round of bond purchases will be far below the $2 trillion that was done during the financial crisis. Given where we are and the number of programs that have been put in place — “cash for clunkers,” housing credits and more — one has to wonder, much like those three regional Fed presidents, how much will really come of this effort?

Low interest rates are one thing, if a person or a business is going to fund a new business or an expansion. Before one does that though, a prudent move would be to make sure there is sufficient demand for their goods and services so they can afford to not only repay what was borrowed to fund that move but also to ensure it can be run profitably and put people to work rather than result in a greater burden.

To answer the question of how much will really come from QE2, I may be wrong but I bet it will be very much like the post-midterm-election outcome. Odds are that more of the same is going to keep us right where we are. And the last time I checked, very few were happy with where they are.

Chris Versace, the Thematic Investor, is director of research at Think 20/20, an independent equity research and corporate-access firm in the Washington, D.C., area. He can be reached at [email protected] At the time of publication, Mr. Versace had no positions in companies mentioned. However, positions can change.

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