AM: How negotiations work

S&P500 daily at 12:29 EDT

AM Update

MARKET BEHAVIOR
Stocks sank under 1700 in early trade for the third consecutive day, but so far the weakness failed to trigger a cascade of stop-loss selling.  Constrained selling after a large move is a normal and healthy part of moving ahead.  While we might still have a date with the 50dma, orderly selloffs and consolidations are typically bullish.

MARKET SENTIMENT
The unbridled enthusiasm for continued QE vanished as quickly as it arrived.  We know Tapering is coming, so a three or six month reprieve is not that big of a deal in the big picture.  The same thing would have happened if the Fed started taper.  While the knee jerk reaction would have been in the opposite direction, it would have quickly recovered because markets look forward 6-months.  It came to terms with Taper this summer and already moved on to the next thing.

Now that Syria disappeared from the headlines, the focus turned to the impending Debt Ceiling.  There are two things the public doesn’t want to know how they are made, sausage and laws.   Republicans and Democrats are already positioning themselves for the negotiations.  There is a pretty standard template for negotiating that applies equally well to buying a car or negotiating arms treaties with other nations.  Step one, act aloof.  Step two, ask for absurdly more than you are willing to accept.  Step three, call off the negotiations and walk away halfway through.  Step four, reach a hard-fought compromise at the very last second.  That’s how it worked every other time and is how it will work this time around.

People often complain about how dysfunctional Congress is, but those people only show how little they understand negotiations.  Further, a ridiculously low approval rating means our govt is working, not broken.  At the end of negotiations, if someone is happy, it means the other side got screwed.  Remember this the next time you buy a car.  If the dealer is smiling and in a good mood, you are not getting a good deal.  Only when the dealer is grumpy and on the verge of kicking you out, have you finally reached rock bottom.  When both Republican and Democrat constituents feel they are getting screwed, we finally reached the ideal compromise between the two positions.  If Congress had a 50%+ approval rating, it means someone is getting screwed big time because someone else is getting everything they want.  Negotiations work best when both sides leaved pissed off.  Each side had to give up some things that were important as a concession to get the things that really mattered.  Neither side has a monopoly on the truth and the best solution lies somewhere between the two positions.

That is the lowdown on why we should expect ugly Debt Ceiling discussions, but don’t need to worry about them.

TRADING OPPORTUNITIES
Expected Outcome:
As long as the selling remains contained, the rebound is intact.  We broke under 1700 multiple times and didn’t trigger a wave of stop-loss selling, meaning there are not a lot of fearful traders on the verge of hitting the panic button.  While complacency will eventually be a problem, in the meantime it keeps supply tight and is propping up this market.

Alternate Outcome:
While we know the Debt Ceiling debate will be ugly but will eventually be resolved, getting sucked into the heated argument will make the market nervous since it often worries about the worst-case.  We could see the market pullback if the Republican standoff carries us over the line and they threaten default again.  They likely learned their lesson from the markets last time, making casual comments about default unlikely, but you never can tell with these guys.  They want to blow up Obamacare and might go nuclear to do it.  While that is a reason to be cautious and respect our stops, the volatility creates buying opportunities as we buy discounted shares from the fearful.

Trading Plan:
Holding near 1700 for another day shows this is more than just dip buying.  The profit-taking, preemptive selling, and out right shorting run their course in the first few days of a pullback.  Once that selling dries up, it clears the way for a continuation higher.  Three-days into this is a little early to claim the coast is clear, but things are looking better.  Even a pullback to the 50dma is not a lot to worry about as we consolidate recent gains.  Any bears that were lucky enough to short the top of the market, look to lock in profits if the market doesn’t continue the move lower by tomorrow.

Plan your trade; trade your plan