| TSG Weekly Market Watch January 11,2008 |
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| Written by Matt Blackman | ||||||||||||||||||||||||||||||||||||
| Sunday, 13 January 2008 | ||||||||||||||||||||||||||||||||||||
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TSG Stock Market LetterWeek Ending January 11, 2008Topics Discussed This Week:
Stock struggle continuesIt was another sea of red this week but without as much blood as last week. Except this time, the Nasdaq took the dubious honors of worst performing index. Stocks surged midweek thanks first to stronger than expected earnings reports from Aloca and DuPont on Wednesday followed by more unbridled optimism Thursday on news that Bank of America would pay another $4 billion to buy beleaguered lender Countrywide Financial. There is evidence that stock strength both days was misguided – first because earnings on the first 415 companies reporting this week are down significantly and second, the Countrywide deal has a high probability of turning out badly unless there is a miraculous 2008 turnaround in the housing market. I put the probability of this happening somewhere between that of John Edwards being the next president and a snowball’s chance on the streets of Vegas (be sure to watch the Bob Shiller Bloomberg interview on the deal below). As discussed last week, the First Five Days (FFD) of January indicator is negative but that only means that there is about a 50-50 chance for stocks ending higher in 2008. But it will have to be one heck of a January from here to erase the deficit by the end of the month and unless that occurs, the January Barometer says that chances for higher year-end stock prices are slim. Technically SpeakingAnother challenging week for leadersLike the rest of the market, it was another challenging week for Dan Zanger’s Sunday picks. After dropping more than 7% last week, the composite gave up another 6.3% this week making it the worst performer of the major indexes. While bearish, it is important to remember that these stocks are usually the first to recover in a rally (if we get one). His 12 picks this week again included Apple (AAPL), Agrium (AGU), Baidu (BIDU), CF Industries (CF), First Solar (FSLR), Solarfun Power (SOLF), Research in Motion (RIMM), Oil Holders (OIH) and Transocean (RIG) and Monsanto (MON) as well as Potash (POT) and Akeena Solar (AKNS).
Major indexes struggled again this week as the Dow Industrials again broke key support of 12,780 – this being major weekly support formed in early 2007 and that until now had been able to support the index through the challenging July and November months. There is always a chance that this break is a fake out but that it occurred on higher than average volume is bearish. But high volume spikes like this can often presage a bounce especially when both the Dow and S&P500 are oversold like they are now. The next major S&P support to watch will be 1380. This index has now broken major daily support at 1408 as well as it’s long-term up trend support line which started in March 2003. Meanwhile, the Dow Transports look to be in free fall from a chart perspective, closing at 4187.60 this week. Next major support is at 4138. As mentioned, there is one potential positive and that is volume. While it ramped up to above average on the NYSE and Nasdaq this week, such spikes can often signal areas of temporary capitulation which is followed by a rally, especially when stocks are oversold. If we don’t see some sort of bounce this week, it will be a bearish omen. Markets can remain oversold for extended periods in serious bear markets and when this occurs, look out below. Volatility dropped slightly this week as the Market Volatility Index (VIX) settled to 23.68 from 23.94 last week. There is a much higher level of fear in the markets of late and why the VIX has been elevated for the better part of six months now. But while stocks struggled, commodities (and inflation) continued to rise as the 17 commodities represented by the NYFE CRB Index surged again to 490.87 up from 485.02 last week and 475.43 two weeks ago. This index remains above its upper 2-standard deviation trend channel making it very overbought – a position it has held for the last five weeks straight. Again this week, commodities were led by gold which closed in on the magic $900/oz threshold ending the week at $896.80, up from $866.10 last week and $842.60/oz the week before. Just four weeks ago, gold closed below $800 ($798.10/oz). Not surprisingly, it was another lackluster week for the dollar as the U.S. Dollar Index closed at 76.04 up marginally from 75.82 last week. One big surprise this week was that in spite of dollar weakness, oil took at hit as the NYMEX crude oil (continuous) contract closed at $92.16 down from $97.69 last week and $96.00 two weeks ago. Any price reprieve is good for the struggling economy. This week, the U.S. prime bank rate held steady at 7.25% while the 3-month London Interbank Offered Rate (LIBOR) slipped to 4.2575% from 4.62% last week and 4.728% two weeks ago. Freddie Mac mortgage rates ranged from a high for the 30-year fixed mortgage of 5.87% (6.07% last week) to a low of 5.37% (5.47% last week) for the one-year adjustable rate (ARM). EarningsDeterioration continuesThis week Q4-07 reporting season kicked off and while news from Alcoa and DuPont was good – Alcoa sold its packaging and consumer businesses that boosted earnings 76% and Dupont is forecasting good 2007 earnings – the majority of companies are encountering increasing headwinds. With 415 companies reporting in the first week, the average was a 26% drop in earnings from the same quarter a year ago – not the type of news bulls were hoping for. And we are still in the early stages. Bloomberg news reported this week that the financial industry, the biggest among 10 in the S&P500, may report a 69.3% drop in earnings thanks to the double whammy of falling home prices and rising rates.
A total of 4205 companies reported Q3-07 results and average earnings fell 21% from the same quarter the year before compared to a 13% jump in Q2-07. Economic ReportsHere are the reports we were following this first full week of the New Year. Pending home sales fall
Chart 2 – On a year-over-year basis, pending home sales dropped 19.2% in November from November 2006. From their peak in August 2005, pending home sales have fallen nearly 32%. In a prepared statement January 8, National Association of Realtors chief economist and industry cheerleader Lawrence Yun did his best to put a positive spin on his moribund industry, “although there could be some minor slippage in the first quarter, existing-home sales should hold in a narrow range before trending up,” he said. He also said in a Bloomberg interview that corporate profits were strong. (Earning fell 21% in Q3-07 and should be even weaker in Q4. What data is he looking at?) The group said it expects existing home sales to increase to 5.7 million in 2008 up from the most recent annual estimate of 5 million homes sold, showing that the group (like the CEO of Countrywide Financial) still believe there will be a quick reversal and recovery in the housing market even though the NAR expects the 30-year fixed mortgage rate to increase to 6.3%. But so far, there is no evidence whatsoever to support that contention in any of the reliable data we are tracking. Just for fun, we looked back at the NAR’s pending home sales report one year ago. On a year-over-year basis, November (06) pending home sales had fallen 10.2% from November 2005 but that didn’t stop then chief economist David Lereah from claiming that the narrowing [in November from previous monthly reports] was a significant factor. “Because there is a stronger parallel between changes in the index from a year ago and the actual pace of home sales in coming months, the index is pointing toward fairly stable home sales in the near future,” Lereah quipped in the January 4, 2007 report. “That is another indicator that home sales likely bottomed-out in September [2006].” (See http://tinyurl.com/388uku ) Not only was his analysis way off the mark (a year later, existing home sales are now down 20% - double the annual drop in November 06); it sounded eerily similar to that of his successor in the most recent statement. The cruel truth is that property markets around the globe have just come through the biggest bubble in history and such bubbles have never ended quickly or happily.
Next WeekHere are the reports we’ll be watching this week.
Synopsis‘R’ word evidence mounts but how much does it really matter?Analysts and economists continued the R-word debate this week with the vast majority including Ben Bernanke and the Fed gang saying that they did not expect one. Contrast that with a call from Merrill Lynch chief economist David Rosenberg this week who says a US recession is a foregone conclusion (as further evidenced by the chart below). As a journalist pointed out in an email to me this week, both Merrill (Rosenberg) and Goldman predicted a collapse in the U.S. consumer in the last recession (2001-2) thanks to the tech wreck. However, that consumer collapse failed to materialize. She is now wary of his most recent call because in spite of his dire predictions, the consumer held up quite well. To top it off, the recession never officially hit Canada (which managed to pull through after GDP growth bottomed at 0.7%). But as is now all-too-painfully clear with the benefit of hindsight, the only reason that consumer spending didn’t crater in 2001-2 was thanks to the lowest interest rates in 50 years that instead caused an array of new bubbles and skyrocketing commodity prices (that were of great benefit to economies like Canada’s). None-the-less, we must now wade through the tangled wreckage in the wake of these easy money policies. Many over-leveraged homeowners and other victims of the credit free-for-all are no doubt wishing that the last recession had been allowed to run its course sans major Fed intervention.
Figure 3 – Chart showing year-over-year differences in the unemployment rate since 1953. Gray bars signal recessions. However, indicators are increasingly flashing a recession shade of red and here is the latest that comes courtesy of Merrill Lynch. According to Merrill’s Rosenberg, any time that the unemployment rate has jumped 50 basis-points in a year, a recession has followed 100% of the time. As of December, the rate was up 60 basis-points prompting Merrill’s chief economist to declare the recession a done deal. So why do so many economists and analysts still wax optimistic? I attribute it to the 95-5 rule – on average 95% of fundamental professionals do not see a recession coming versus 5% (like Rosenberg) who do. But the discussion with the Canadian journalistic got me thinking. She questions Rosenberg and believes Merrill’s Canadian economist David Wolf who says that Canada will escape a recession even if the U.S. isn’t so lucky. What does this mean for traders and investors? What about those investing outside the U.S.? Are they justified in sporting a similarly sanguine attitude about other markets? What I found should interest them.
Figure 4 –Monthly chart showing the S&P500 (US) versus the TSX Composite (Canada). Canada may have avoided the last recession but investors felt the same crunch – the S&P dropped 50.5% starting in March 2000 followed by a TSX peak in September and a similar 50.2% drop over the next two years. Chart by Metastock.com As we see from Figure 4, the fact that a recession was not officially confirmed in Canada was cold comfort to investors there who suffered the same pain and portfolio damage as their American market-invested counterparts. After examining the Canadian data, I wondered if it was perhaps an exception due to its close proximity and heavy dependence on US trade. In an examination of eleven other major developed and emerging country indexes, only one – Russia – avoided the US bear market and that was only because it has already had excesses removed through the major fiscal ‘ruble’ crisis in 1998 that saw stock and asset prices get decimated. The worst hit was the German DAX that lost 73% and the least impacted was the Sydney (Australia) All Ordinaries Index that dropped just 22%. But in each case, whether or not the country entered recession, a bear market (classified as a drop of 20% or more) occurred. Even if Rosenberg and others are wrong about a US recession, chances for a bear market remain high as the economy cools. So why are we tracking recession indicators? Simple, if we do get a recession in the US, the bear market will be protracted and more painful. Also, don’t buy into the (US-global market) decoupling arguments that are being bounced around like multi-billion dollar government bailout programs by Presidential candidates as if they were campaign balloons. My latest market research reinforces the link between US and global markets and I have yet to see any evidence of a decoupling yet –that is unless you believe this time is different. And as one analyst quipped this week, ‘It’s different this time’ is engraved on the tombstone of many a forgotten forecaster. Stories of interest this week… U.S. Stocks Tumble on Growth Concern in Worst Start Since 1982 Interview of the week – Bob Shiller on BofA/Countrywide Deal Rogers Says U.S. to Have Worst Recession `in a While' Marc Faber Bloomberg Interview Spain sees credit surge brought to rude halt Canada could ride out global gloom No freedom of info on the Plunge Protection Team ------------------------------------------------------------------------------------------------------ If you find this newsletter insightful, please feel free to forward this newsletter and share it with a friend (or simply have them opt-in free from our home page http://www.tradesystemguru.com to be added). DisclaimerTradeSystemGuru.com obtains information from sources deemed to be reliable; |
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