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Will the Fed feed this rally?

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by Peter Switzer

Wall Street floated down overnight as it readies itself for Wednesday’s big announcement from the Federal Reserve with a big expectation that QE3 will be unleashed. If it happens, it’s likely to feed the current rally in stocks, but if the Fed disappoints, there could be a big sell-off.

Ahead of the Fed’s decision, there’s focus on Tuesday’s German Court decision that could rule it unconstitutional for the German Government to contribute to the key bailout fund designed to help the likes of Spain and Italy, which last week’s positive European Central Bank (ECB) announcement was linked to. The consensus is that the German Court will rule favourably but could impose some reporting conditions that could unsettle markets to a small degree.

Does the US need QE3 now?

I’m not worried about the Germans — my focus is on the Fed. Economist Matt Sherwood from Perpetual thinks the Fed wants to keep QE3 “up its sleeve” in case there’s a major negative development such as the so-called ‘fiscal cliff’, however, RBS Morgan’s chief economist Michael Knox argues there is a 60 per cent chance of QE3 and that there’s a good case that the US economy needs it now.

Of course, Wall Street is due for a profit-taking pullback given the recent rally has taken the S&P 500 to levels not seen since early 2008, but the QE3 possibility has kept professional players in the market. However, if Bernanke disappoints, there could be a lot of steam let off which could hurt stocks.

Profit-taking on the cards

For those who want the scores, the Dow dropped 52.35 points or 0.39 per cent to 13,254.29 while the S&P 500 lost 8.84 points or 0.61 per cent to finish at 1429.08.
There has been some negative news around lately from the US job numbers to Chinese trade and industrial output data to weak Japanese stats. Given the run up of the market since June 5, a profit-taking phase is on the cards as more weak data should come along over the next three months before stimulus programs have an effect.

That’s why the Fed should play the QE3 card, even if they only use half of their ammunition and keep the rest in case Congress pushes the US economy over the fiscal cliff.

Over in Europe

One thing I do like is the small retreats of European stock markets — it suggests that the Europeans are not doubting themselves and the ECB’s plan to stimulate the EU economy via lower borrowing costs for key governments.

On the negative side, Italy’s GDP contracted by 0.8 per cent in the second quarter, but given its challenges at the moment, it could have been a lot more dramatic.

On the plus side, eurozone investor confidence is starting to rise from terribly low levels with the September Sentix reading going from -30.3 to -23.2, according to CNBC.
There’s a lot on this week but the Fed’s ability to feed this rally and ultimately US economic growth as well as worldwide confidence and growth is this week’s main game.

Important information:This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.

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Published on: Tuesday, September 11, 2012

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