A Budget Buzzer-Beater

10/21/2013


Helped by a last-minute budget deal in Congress, U.S. stock-market indexes have rebounded within striking distance of new highs. The Dow Industrials are within 2% of the September all-time high, while the S&P 500 Index is within 1%. The Dow Transports, S&P SmallCap 600, and S&P MidCap 400 reached fresh all-time highs Oct. 16.

With a close above the September highs of 15,676.94 in the Industrials, the bullish primary trend would be reconfirmed under the Dow Theory. For now, we intend to watch the averages while maintaining a nearly fully invested posture. Our buy lists have 94% to 98% in stocks, with the remainder in a short-term bond fund.

Lasting damage

Even when partisan rancor was at its worst, equity investors always seemed to view the odds of a U.S. debt default as extremely remote. But yields on some short-term Treasury bills jumped as bond investors avoided maturities most likely to be impacted, and bond-rating agency Fitch put the U.S. credit rating on negative watch.

The bipartisan budget deal only funds the government and extends the debt ceiling through early next year, so another contentious debate may not be far off. And while Fitch does not expect the U.S. to default, it says the "repeated brinksmanship over raising the debt ceiling" dents confidence in the effectiveness of U.S. government and political institutions.

By casting doubt over the full faith and credit of the U.S., Fitch says, debt-ceiling debates risk eroding the dollar's status as the world's reserve currency. That status is a big reason why the U.S. can borrow at such low rates despite its relatively high debt levels, so even without a default the partisan battles risk undermining one of the nation's biggest advantages over the long haul.

In the short term, the worst fallout from the debt debate may be seen in U.S. consumer confidence, which dropped sharply on news of the government shutdown. A recent Wall Street Journal/NBC News poll found that 78% of Americans say the nation is on the wrong track, the highest percentage since the recession in 2008.

Conclusion

While the effects of this month's government shutdown and brinksmanship in Washington are likely to weigh on near-term economic numbers, the market is likely to look past such hiccups if third-quarter earnings season goes well. A breakout to new highs in the Industrials would be encouraging. For new buying, especially attractive names include Lear ($73; LEA) and Qualcomm ($68; QCOM).


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