The Future Changes Back for the S&P 500

Political  Calculations
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Posted: Jun 23, 2012 12:01 AM

All noise events end. It's only ever a question of when.

For the U.S. stock market, the noise event that began on 6 June 2012 came to a sudden end on 21 June 2012, as investors suddenly realized that the window of time in which effective central bank and government-backed actions to bail out out ailing financial institutions and troubled national economies had closed, as signs of a global economic slowdown could no longer be ignored. Even CNBC's Jim Cramer noticed:

Interestingly enough, though, the market didn't fall Wednesday even though Fed Chairman Ben Bernanke said the economy is much slower-than-expected. The stock market seemed to ignore that commentary, Cramer noted. It reacted with the vengeance to every bit of bad news released Thrusday, though, and Cramer said he understands why.

"It's in a sour mood about this country where, despite Ben Bernanke's best efforts, Washington is doing nothing to create jobs, build new buildings, or even give us clarity on taxes for next year," Cramer said. "The mood is justified."

After all, the stock market had been going up on the belief that policymakers would take action to fix the economy. If they aren't doing anything, then Cramer thinks the market is in trouble.

But then, that's not a surprise, is it?

The final note on our chart above is significant, because as of 6 June 2012, the level of noise in the stock market has significantly spiked upward, largely on the combined speculation that the European Central Bank will act to bail out Spain's failing banking institutions, and that the Federal Reserve in the U.S. will attempt to shore up the U.S. economy, which has fallen into something of a microrecession (side note: as expected) in the second quarter of 2012.

And today, China's central bank has announced a surprise interest rate cut, which stands to further boost the central bank intervention-driven noise event that succeeded in pushing stock prices up so dramatically on 6 June 2012, as the markets recorded their best day to date in 2012.

We should note that these events are not taking place in a vacuum - the actions described are being coordinated among the world's major central banks and financial institutions, largely because they perceive that the global economy is nearing the event horizon of a global depression. They are considering these steps and taking action now largely out of that fear.

What we will see then in the market are stock prices being elevated far above where their expected future dividends per share would place them, as the market enters into a phase where noise, rather than fundamentals, drives it.

Unfortunately, all noise events end - it's only ever a question of when.

As we saw, when turned out to be 21 June 2012, as the latest short-lived noise event in the stock market came to its inevitable end. Without the noise from the world's central banks to distract from the market's underlying fundamentals, stock prices had only one place to go - back to where those fundamentals would have set them in the first place, as the future changed back to what it was, and really has been all along.

The only real question now is the reason why the central banks didn't act more effectively when the market was signaling that their actions would be welcome - is it because they've chosen not to act, or is it because they can't?