Hi everyone,       

It’s a massive week for the Equity and Currency markets with the US Mid-term Elections taking place yesterday, the Fed Meeting wrapping up its 2-day meeting today and a US Non-Farm payroll figure due out later in the week. After a massive 13.5% run-up in the S&P 500 and a 12% run-up in the DOW since September 1st the markets have paused somewhat for the last couple of weeks in anticipation of what the outcome of this week would be. The big question now is as the various pieces of news start to unveil themselves how will the markets react from here. Will QE2 be enough for the DOW to break decisively though 11,200 and continue higher or will we see a “Buy the Rumour, Sell the News” reaction? In this post I take a quick look at what’s involved.

Obama Loses Control Of The House Of Representatives, Clings onto Senate

First up the mid-term elections in the US. At this point we already know the US public have given President Obama the kicking many expected was coming his way, although with the Democrats managing to cling to a majority (albeit a very slim one) in the Senate perhaps it wasn’t as bad an outcome for Obama as it might have been. He has however lost control of the House of Representatives which is likely to make the final 2 years of his Presidency very difficult as he faces a hostile Congress who are likely to make the pushing through of the Obama agenda a much more difficult prospect.

Looking at the Election results themselves, of the 435 seats up for grabs in the House of Representatives the Democrats went from having a 257 to 178 comfortable majority to how facing a 182 to 238 minority with about 15 seats still up for grabs at the time of writing, a significant drubbing for the “Yes We Can” Man. In the Senate things fared a little better, prior to the elections the Democrats held 59 of the 100 seats, post Election they sit on 51 seats with the Republicans with 46 seats and 3 seats still to be decided as I write this piece.

So what will the Republicans seizing control of the House of Representatives mean for the markets, which is all we really care about here at SpreadTrader.ie! Well many feel it should be a positive thing with the Republicans seen as being more pro-business. This is likely to lead to less aggressive taxing and more business-friendly policies. They are likely to challenge Obama’s focus on Health Care Reform which many feel is one of the main reasons for this mid-term backlash from the US public who would rather see him focus on creating jobs as the US unemployment figure continues to hover near 10%. From a sector perspective most analysts expect Energy and Defensive stocks to do well with the Republicans having a larger say on legislation going forward. Overall though I think these election results were very much anticipated by the markets and what’s likely to have a more significant influence is what the Fed announces in relation to further Quantitative Easing (QE2) measures after its 2-day meeting wraps up today.

QE2 Will Be The Real Market Driver

We can see from the Daily DOW chart below that for the last 2 weeks the markets have been consolidating close to the 2010 highs of 11,200 after it’s massive 6 week run up from 10,000 at the start of September. It may seem obvious but from here we are going to breakout one way or the other. And the direction of that breakout will really come down to the measures the Fed announces after its meeting. The market is expecting them to announcement the buy up of more US Treasury Bonds, the only question is the extend of the buying. Anything less than $500 billion in new purchases could disappoint the markets resulting in a significant sell-off. Should they come out with a headline figure like $1 trillion however, well that could be exactly what this market needs to breakout above 11,200 and push on towards 12,000 mark.

DOW Jones - Which Way Will It Breakout (Click twice to Enlarge)

Rather than second guess the outcome of all this I’ve been lightening up on my long positions over the last few days and effectively taking a seat on the sidelines to wait and see what happens. Personally I’m thinking after such a run-up to where we are that we could well see a “Sell the News” reaction. That said with so many traders positioned to the short side any surprise in the extent of the QE2 measures announced by the Fed later today could be enough to see a breakout to the upside as a result of a bout of short-covering…All will be revealed in the next couple of days I guess!

Until next time,
Happy Trading,
SpreadTrader.ie : -)