Who is afraid of the “Big Bad Wolf” was the question going into Friday’s session, and the global “wild card” on that issue was Germany’s largest bank, Deutsche Bank (DB). It had hit all-time lows this week, and there was talk that a pending meltdown on the level of Lehman Brothers in the U.S. eight years ago might be at hand. The magicians at the European Central Bank made some very positive comments, and the usual mantra of “help” was the theme Friday, and DB bounced back by 14%. Central banks are obviously still at their old tricks, and it gave U.S. stocks a lift as well, as we closed out Friday to end the third quarter with a much-needed win.
It was a pretty good quarter for the stock market overall, with quarterly gains of 2.1% for the Dow Jones Industrial Average, 9.7% for the Nasdaq and 3.3% for the S&P 500. Friday’s lift came in the nick of time because investors have been acting a bit nervous lately, and the worst way to begin the fourth quarter would have been with a big meltdown on the final day of September. Bulls breathed a sigh of relief on Friday, and with central banks back in action, it is a bullish way to begin October.
The interesting thing about the Federal Reserve this week was that it had several Fed Heads out there making the case and hinting at a December rate hike. The Fed had hinted strongly at a September rate hike, but it backed off at its recent meeting because of a lot of lackluster economic news. The uncertainty about the contentious November Presidential election also gave the Fed reason to back off from a rate hike at its September meeting, but this past week, the Fed was back in action talking up a possible December rate hike.
The “data driven” Fed might have a tough time making a case for even a December rate hike, though, especially after this past week’s revised GDP number. It was sort of a “good-news, bad news” report, in that, yes, GDP for the second quarter rose from the original 1.1% rate to the expected 1.4% rate, but we have to keep in mind that 1.4% is still a very weak number. It is difficult for investors to step back into the stock market and drive the major indices to new highs with so little economic wind behind it. This weak economic wind could weigh on earnings, which has many investors on the sidelines.
Third quarter earnings will kick off in October, and the concern among investors is that we could continue to see decelerating earnings for the third quarter. Earnings have been slowing down for several quarters, and even if the numbers top estimates, there is no getting around the fact that they are slowing. This could make October a challenging month for the stock market, and despite the market’s recent strength, the broader stock market needs both earnings AND positive economic news if it is going to be able to head higher.
October is October, though, and we all recall the various meltdowns we have witnessed throughout the stock market’s history. The Deutsche Bank “wild card” is still out there, despite its 14% bounce on Friday. It has a gigantic derivatives exposure, and cash is continuing to be pulled from the giant German bank. The “Powers That Be” will do whatever they can, but sometimes those efforts are not enough to keep a big institution from melting down. We will keep a close watch on DB in the days and weeks ahead, so October will clearly have a “German Drama” component to it.
The other “elephant in the room” is the U.S. election. Forget about those traditional debate topics of economic growth and foreign policy; we have somehow drifted into the “ultimate reality show” of off-topic topics. The whole circus has voters scratching their heads, and if it remains as crazy as it has become, it COULD rattle financial markets. We are obviously going to have a very divided government whichever party wins, and while divided governments are usually good for the stock market, this one is as strange as anyone could ever imagine.
The Federal Reserve should begin to back off on its interest rate hike comments soon, and even if it wants to hike rates, December would be the earliest possibility. That is a plus because it gives investors one less thing to worry about aside from third-quarter earnings and the big election. This could give stocks a green light to head higher, so stay tuned for a challenging October. That said, the Gorilla wishes each and all a relaxing October weekend with family and friends, or maybe just watching some great college football. We will be back in action on Monday, so again, a great weekend to all!
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