November is make or break month for 2015 stock markets

Now that the Fed interest rate increase is back on the table—big time—we’ll soon find out how much of long-running bull market was a mirage.

Riddle me this, Wall Street: What will the Yellen Gang do next? Frank Gorshin starred as the best Riddler ever in the campy 1960s "Batman" TV series. In 2015, the Federal Reserve seems to have taken over his role. (PR still. Episodes currently owned by Warner)

WASHINGTON, November 8, 2015 – This coming week’s trading action in stocks and bonds could give us a longer term clue as to where markets are going for the rest of 2015 and beyond. That’s because, having copped out once in September, it appears that the Federal Reserve is bucking up its resolve to raise interest rates—or at least announce when it’s doing so—in December. Or so we think. In reality, trying to do business with these confused central bankers is like trying to reason with Batman’s Riddler.

A problem with volume

While the tone of last week’s trading action was faintly up, much of that action was based on low volume, which, in our experience, makes standard market indicators less reliable.

If trading action is based on high volume, it tends to indicate more conviction on the part of buyers and sellers. If, on the other hand, the market is moving, seemingly convincingly, on low volume, this is likely evidence of small position adjustments and a lack of over all conviction. It’s pretty much always been that way.

If last week’s trading action seemed tentative, it was. Volume—i.e., participation by traders—was generally quite light. It only heavied up on selloffs, something that indicates negative market bias remains.

In addition, last week’s weak moves up may also have been due to the fact that stocks are seen as getting back to what seems to be a long-term “top” in the averages, recovering after horrific down moves in August and September, once again likely harbingers of an earlier (and incorrect) interest rate guess.

What higher interest rates might do to stock sectors

If interest rates are really going up—even if only by tiny increments—all markets will be prone to overreact, which is something we clearly glimpsed in last week’s action. When interest rates go up, the prices of fixed income investments, primarily bonds, will go down, meaning yields will go up.

But, as we mentioned in a recent column, stocks that tend to serve as bond proxies—i.e., stocks known for high, stable, and frequently increasing dividends—will also go down along with the bonds. That’s because investors buy such stocks for their yields, not hoped-for capital gains, and when the yield-vs.-price comes under pressure, those income investors will, albeit reluctantly, dump their high-yielding stocks for stocks that look like better growth candidates.

In other words, non-retiree investors in particular will feel that future capital gains will eclipse their currently high-stocks and will start readjusting their portfolios to make money instead via hoped-for capital gains rather than dividends.

What to sell?

That’s why REITs, utilities, and high-yielding consumer staple stocks—your safest ports in a storm when growth and small company value stocks are getting crushed—become at least temporary liabilities when interest rates are on the march upward. Ditto healthcare stocks, big moneymakers in 2014-2015.

But now, with predictable but long-ignored systemic problems with the Obamacare Collective are coming to light, these stocks, too, bought for their alleged stability, could and are coming under pressure along with the high yielders.

What to buy? Banks and financials

If the latest Fed interest rate rumors finally prove true, stocks to buy at least in the short term would include banks and financials (insurance companies and the like) in general. Prices and yields on these stocks are not only dependent on loan activities, but also on the profitability of those loans.

Higher interest rates, ironically, may finally begin to bring trillions of dollars of effectively warehoused QE dollars—dollars that never found their way into the economy—back into play. That’s because banks, which have largely ignored consumer and real estate loans for all but the most “qualified” Americans, will start lowering the bar from perfection (credit scores above 750) back into the realm where most of Middle America still lives (600-700).

This could be incredibly stimulative not only for banks but for the economy in general, particularly homebuilders. They’ve already been catching a bid for most of 2015. But perhaps the most impressive action will occur in stocks of long-suppressed banks, particularly Bank of America (symbol: BAC), which has spent years digesting the twin disasters known as Merrill-Lynch and Countrywide.

JP Morgan-Chase (JPM) will also get a boost if interest rates go up. Likewise, battered Citicorp (C ) and better-off Wells-Fargo (WFC).

But we still rather like some regionals, including BB&T (BBT), Regions (RF), and Zions (ZION), although the latter’s balance sheet could still use some work, along with taking a closer look at the loans that bank has made to shale oil players whose business models are clearly under pricing pressures.

We’ve also liked First Niagara (FNFG) and New York Community Bank (NYCB). Problem is that right now, their price structures are under pressure due to pending acquisition/merger action that will take the better part of a year to play out. We currently hold positions in both banks (and would like to get back into FNFG’s proposed acquirer, KeyCorp [KEY]), but we’ll now likely have to hold these banks indefinitely until these scenarios play out.

These areas—banking and insurance—is where we’ll be looking to put some money when the smoke clears a bit on the interest rate scene. Of course, if the Fed chickens out on that interest rate increase again after you buy these stocks, they’ll get hosed yet again. But that’s what we live in as an after-effect of the Great Recession’s long-term mirage market. It will take us half a lifetime, we fear, for things to get back to normal.

And what this means is that trading and investing currently remain more of a crapshoot than a science.

Have a good week.

And remember: This column is intended to be informational only, reflecting the columnist’s own activities in the market and not buy or sell recommendations. In recent years, markets have been unusually volatile and treacherous. So if you invest, perform plenty of your own due diligence and travel—cautiously—at your own risk.

Follow the Maven, aka Terry, on Twitter @terryp17

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