Looking Over the Cliff

financialsense.com / By Brian Pretti CFA / December 4, 2012

Over the last few months, jitters have gripped investors as the stock market has become a bit volatile on the downside. The last peak in stock prices came almost immediately after the Federal Reserve announced Quantitative Easing III in September. QE3 was the most widely anticipated monetary policy event of the current cycle, so maybe investors and stock prices broadly just needed a breather. But immediately post the US Presidential election a month ago, stock prices swooned anew, only finding their feet in late November. Recently the mainstream media has been highlighting Fiscal Cliff concerns as the raison d’etre for renewed equity investor angst. Is this really the case? Are equity investors looking at the Cliff, or perhaps over the Cliff? This distinction may become quite important ahead.

There’s an old saying in the financial world that “financial markets never discount the same thing twice”. It’s a timely reminder in that the Fiscal Cliff issues have been very well known for a year and a half. The “Super Committee” formed in December of 2011 essentially came up empty handed in terms of reconciliatory action regarding specific Fiscal Cliff items. Since that time, investors have had date specific certainty as to when Fiscal Cliff Federal spending cuts and personal tax rate increases would occur. The important message being that for the investment community, Fiscal Cliff issues we face are not now nor have they been any surprise at all, especially over the last two to three months. Is it really the case that investors have waited until six weeks prior Cliff mandates becoming law to worry about how this will influence specific investments?

Coincidentally, recent stock market price jitters have expressed themselves alongside another important period for news – the release of third quarter corporate earnings. The character of earnings in the most recent period deserves comment. Let’s start with some background regarding the key economic drivers of the current cycle. From 2009 until present, the two most important drivers of the US economy have been Government spending and very strong US goods exports.

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