Stocks and the Fiscal Cliff

CNBC has a Fiscal Cliff countdown clock.

You can’t click a TV remote or a web page without somebody declaring that Congress’s inability to compromise on tax rates and spending cuts before December 31 will incinerate equities.

It’s predicated on sound logic. Higher taxes on investment behavior are likely to impact that behavior negatively. Motivation.

We here in Denver before we found the Holy Grail – Peyton Manning – hailed Tim Tebow, who famously sent a one-word tweet after Eli Manning’s Giants topped the Patriots in last year’s Super Bowl: Motivation.

If what one expects will happen isn’t aligned with motivation, then what one expects is unlikely to occur. That’s true in police work, business, life-goals – nearly everything. Including the stock market.

Suppose I expect that because you are a football fan you’re likely to be at Hanson’s Pub near 6:30 p.m. Mondays in Denver for the weekly NFL game. If “you” means my wife, who likes “Johnny Football” Manziel at her Alma Mater Texas A&M but doesn’t give a hoot about the NFL, my expectation won’t match reality. Monday Night Football does not motivate her.

What motivates the market? Many pundits (not all!) conclude that markets will behave badly unless a deal is in the works. That would be true if money in the markets were all rational. But statistically, Rational Investment – money following fundamentals – is only 15% of daily volume across the major US markets. Technically, we peg it at 14.2% the past 200 days, a bit more in the past five (exactly 15%).

The other 85% is Navigational – moving stuff around. About 35% is profiting on gaps that form as stuff moves at varying speeds and quantities. About 50% is managing risk by transferring exposure in one place to opportunity in another. That can happen in seconds, minutes, days, perhaps weeks.

The Fiscal Cliff has risk managers moving stuff around at an accelerated rate, no question. From Nov 5 until equity and index futures and options expired Nov 16, Hedging (counterparties providing protection to institutions) dominated price-setting in the stock market. Money was gripping reality. Sentiment was sharply negative.

But by November 26, Sentiment changed. It’s remarkably positive now. Why? Motivation. Money hedged in November. It assessed facts and faced them then. Now it is motivated – and protected – to trade in December until Hedges approach renewal dates near December 20. The data say markets will rally strongly at least once and perhaps more before Dec 20. We make no assumptions. We just report what data show. It’s not always right. But it’s right often.

If stocks rally, you’ll hear everybody declaring it’s a deal in DC grabbing the wheel and keeping the Great Thelma and Louise of the Fruited Plain from sailing over the Cliff to nowhere.

But you’ll know the truth. Data already foretold it. Folks moving stuff around before Hedges lapse. Motivation.

The real indicator of what lies ahead is the US dollar. Compared to it, the Fiscal Cliff is but a mirage (a whole other story for later). The dollar is weakening rapidly. Those who read regularly know what a weak dollar means for stocks.

Everybody else will have to wait for the rest of the story. Meanwhile, Johnny Football may win the Heisman.