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ONE RELIABLE MEASURE OF THE STOCK MARKET'S tone is the gap, or lack thereof, between what institutional traders are discussing and what dominates the financial news. When traders are in sync with the news flow, markets tend to function smoothly. When they aren't, watch out.
So it was a bit worrisome Friday to see congressional calls for Treasury Secretary Timothy Geithner's resignation rattle traders, but get relatively subdued play in the key media outlets that typically shape Main Street's understanding of the financial markets.
At a meeting of the Joint Economic Committee, a group of House Republicans criticized Geithner and called for his resignation. This isn't the first time he has been criticized, but the tenor of the attacks seems to be growing in ferocity.
The New York Times ran the news inside its business section, though Times columnist David Brooks used his Friday column to praise the Treasury secretary to the hilt. The Wall Street Journal included the Geithner news in a front-page story that dealt mostly with a congressional vote to regulate the Federal Reserve more closely. Bloomberg News and Yahoo! Finance carried no mention of the Geithner news on the opening pages of their Websites.
But things were notably different where traders congregated. "Geithner-resignation calls are the kind of random event that could change the tone of the market quickly," the head of derivatives trading at a major international bank advised clients in a Friday morning e-mail. "I'm out of the market here; it doesn't feel right to me."
"When you start getting disconnects between perceptions on Wall Street and Main Street, it means a bit of a bumpy road in the markets," says Pat Neal, Jefferies' chief strategist. Neal is telling clients to use declines in the stock market as buying opportunities. He thinks the stock market will continue to advance, but he favors using options to hedge, just in case.
It isn't likely Congress will force Geithner's resignation, but the discontent among some Republicans is meaningful, at least to some on Wall Street, because these legislators effectively are calling for an end to economic policies that many market participants credit with containing the financial crisis. Besides, "uncertainty begets selling," says Michael Schwartz, Oppenheimer's chief options strategist.
Traders expect the partisan bickering over economic policy to quicken next year, a big one for mid-term congressional elections. Besides, institutional investors already are nervous. The Standard & Poor's 500 is up about 60% from its March nadir, and Wall Street bonuses will be determined in part by how much of those gains firms keep.
Two weeks ago we thought a "bonus put" was a good reason for the market to remain stable through year end. But now is a good time to revisit hedging. Political grandstanding usually proves disruptive.
Sveinn Palsson, a Credit Suisse derivatives strategist, is telling clients to consider a "put spread" on the S&P 500. With the index recently at 1,087, Palsson recommends buying the December 1075 put and selling the December 975 to protect stock portfolios.
E-mail: steven.sears@barrons.com
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