The Fed meeting on August 31, 2012 was much ado about nothing. The same message was relayed as at the last meeting: If the economy fails to improve, the Fed will ease further (QE3). The recent rally is based on an assumption that the Fed will stimulate very shortly. Note on this week’s SPX chart, however, that the market is a bit leery of the certainty of that outcome. It has been weakening right on schedule—per my prior blogs. I suspect a few investors have joined me in taking a few profits lately. It’s also interesting to note that “smart money” commercial hedger positions in equity index futures, excluding the S&P 500 were recently nearing their largest net short position in 8 years, according to sentimentrader.com.
Perhaps the Fed will introduce QE3 this month, but (as mentioned in my last blog) the Fed has historically NOT stimulated until later in the fall since the economic slowdown began (typical action by the Fed has occurred in October/November). Thus, I feel that to be fully invested at this time is a bit of a gamble. Yes, the Fed could break their historic pattern and introduce QE3 shortly. If you are fully invested under that scenario, your gamble will pay off. My upside target for the S&P under these conditions might be 1500, as mentioned in prior blogs. However- if they don’t stimulate in September and hold off for a couple of months, it may be a short termed unpleasant experience for fully invested market players – my downside target is for 1300 – 1360 under a Fed-disappointment selloff.
Personally, I am not a gambler – I trade when the odds are more predictable or in my favor. I’ve taken a more defensive stance lately by raising over 30% cash in my equity models, and limiting the majority of my equities to low-beta positions. The worst-case scenario for my cautious stance is a Fed-induced rally where I underperform the markets a bit. I will still make money on my current positions, but I’ll certainly miss out on some of the fun. I can live with that underperformance. If the market performs poorly, as I suspect it might if the Fed follows its traditional pattern, then I have some cash on hand to buy cheap stocks when the time is right. The question most investors should be asking themselves right now is: “How lucky do I feel?”