Stocks Set to Bungee from Fiscal Cliff
Last Friday I wrote Go Over the Cliff? May Be Best Thing fully aware that Congressional leaders would be meeting with President Obama to see if they could reach a consensus that both sides of the aisle can compromise on increasing revenue with higher taxes and spending cuts.
The promising words from the four Congressional leaders were received positively by the stock market. I believe that Friday's lows will not be breached this week, even though the longer term downside risks of QE fatigue remain.
What could be an appropriate fiscal cliff compromise?
On the revenue side, President Obama wants to let the Bush-era tax cuts expire at the end of 2012 for families earning $250,000 or more ($200,000 for individuals). Republicans say that this would hurt small businesses structured as an S-corp, where corporate profits flow to the owners' individual tax returns.
My suggested compromise is to keep the tax rate unchanged for all income identified from S-Corp earnings. I would also agree to allow capital gains and dividend income be taxed at the same rate as ordinary income. With regard to loopholes, I would table them until details can be established in 2013 for 2014 implementation.
On the spending side, the starting point should be what is already set by the Budget Control Act to begin in 2013. There should be no deductions in retirement benefits keeping Medicare and Social Security as is. If one party wants to spend more money than the law allows, such as defense spending, they must identify equivalent cuts elsewhere. The markets will not like the lack of discipline on the spending side of the ledger. No compromise means the cuts in the Budget Control Act should stand.
Reviewing the technical damage to the major equity averages since QE3 and the election:
Analysis of the Dow Industrial Average (12,588): Is up just 3.0% year-to-date, is down 8.5% since its QE3 reaction high, is down 5.2% since the election and rebounded 0.9% on Friday after the fiscal cliff meeting with the president. My annual value level is 12,312 with weekly and monthly pivots at 12,623 and 13,143.
Analysis of the S&P 500 (1359.9): Is still up 8.1% year-to-date, is down 8.4% since its QE3 reaction high, is down 5.0% since the election and rebounded 1.2% on Friday after the fiscal cliff meeting. If SPX moves above weekly and annual pivots at 1359.6 and 1363.2 the upside is to my monthly pivot at 1418.7.