| TSG Weekly Market Watch June 27,2008 |
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| Sunday, 29 June 2008 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
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TSG Stock Market LetterWeek Ending June 27, 2008Topics Discussed This Week:* Stock declines accelerate… * As the leaders roll over * Housing price declines still accelerating * Earnings worsen again for Q1-08 * Key Dow head & shoulders support broken * Pollyanna parade gets more rain
Last Week
Quote of the week “Never before have so many spent so much for so long with so little reference to current income.” – James Grant (paraphrasing Winston Churchill’s ode to RAF pilots in 1940). Stock declines accelerate Blue chips fell every day but one again this week as surging crude prices and more bad financial and earnings news took their toll on equities and investor sentiment. In the process the Dow Industrial Average broke through another key support level (see below) and suffered its worst single day in decades. Unless we get a sizeable Dow rally Monday, this will be the worst June for the index since 1930. Technically Speaking Leaders roll over This week Dan Zanger’s 15 stocks in his Sunday picks again included Apple (AAPL), Research in Motion (RIMM), Agrium (AGU), Potash (POT), Mosaic (MOS), Massey Energy (MEE), Energy ConvDev (ENER), CF Industries (CF), First Solar (FSLR) and Fluor Corporation (FLR), Google (GOOG), Chemical & Mining (SQM), plus Bunge Ltd (BG), Apache Corp (APA) and Proshares UltShortRE (SRS). After gaining 1.4% last week, Dan’s dropped nearly 4%, losing along with the rest of the major indexes, the worst hit being the Dow Transports. Emerging markets were the best performer.  Figure 1 –Five-day performance of Zanger’s market leaders (green) compared to the S&P500 (SPX), the Dow Jones Industrial Average (DJX), Dow Transports (DTX) and Nasdaq Composite (IXIC). Data courtesy of The Zanger Report, performance chart courtesy of VectorVest.com. Weekly volumes on the NYSE, Dow Industrials, Dow Transports and Nasdaq were back above average which is bearish while prices are falling. Stocks can fall of their own weight but need steadily increasing volume to drive them higher. That volume is increasing on down days is very bearish and shows sellers in control – that is until we hit extreme capitulation levels demonstrated by a volume and volatility spikes occurring together. We aren’t seeing that yet. Meanwhile, the Market Volatility Index (VIX) rose again to 23.44 from 22.87 last week and 21.22 two weeks ago. We need to see a VIX spike before we can be more certain that we have hit a bottom of sorts. This compares to a VIX north of 31 when the Dow last bottomed during the week of March 14 and shows that fear has so far remained muted during this recent decline. Meanwhile, the 17 commodities that make up the NYFE CRB Index continued to rock’n roll closing the week at 596.79 up from 585.57 last week and 571.90 two weeks ago. This index just keeps getting more overbought every week. Gold continued to make gains this week to close at $930.90/oz up from $903.60 last week and $873.40 two weeks ago. The next strong seasonal period for gold (the end of July to the end of September) is quickly approaching but given the strong performance of commodities of which gold is a pivotal indicator, gold season has come early this year. But it was open season on the dollar as the U.S. Dollar Index closed at 72.36 down from 73.09 last week and 74.46 two weeks ago. Recent talk from the Fed and U.S. Treasury about the necessity of a strong dollar was just that – talk. While still well off the multi-year weekly low of 71.76 and the chart looks to have put in a bottom, the greenback may have a tough time going forward as central banks work to contain the growing inflation risk with higher rates. Given the weak U.S. economy, risks of the unpleasant onset of stagflation in which costs for necessities increase but wages and the economy decline are growing. We don’t expect mild-mannered Ben, who is obviously catering to the growing calls from the House, Senate and at least one presidential candidate for more bailouts for consumers, to put rates up before the election. But the pain consumers endure in paying for energy and food wrought by a weak-dollar policy are palpable. After closing just below $140/bbl last week, the cost of a barrel of NYMEX crude oil contract closed at $140.54/bbl up from $134.71 last week and $134.40 two weeks ago. It was the seventeenth consecutive week that oil has remained above $100. Oil continues its parabolic climb that will have to end one day but few have any idea, given the rapidly growing global demand for the stuff, when this reversal will come. The U.S. prime rate held again this week at 5% and the Fed funds target rate remained at 2%. The 3-month London Interbank Offered Rate (LIBOR) slid marginally to 2.791% (from 2.8% last week and 2.81% two weeks ago). Freddie Mac mortgage rates strengthened again to 6.45% (from 6.42% last week, 6.32% two weeks ago and 5.98% four weeks ago) for the 30-year fixed mortgage while the one-year adjustable rate mortgage (ARM) rate moved up again to 5.27% (from 5.19% last week, 5.09% two weeks and 5.06% three weeks ago). LIBOR is the benchmark for $900 billion in subprime mortgage loans which typically adjust to it every six months. Corporations around the world have the interest rates on roughly $9 trillion in debt pegged to LIBOR and rates on more than $380 trillion in derivative interest rate swaps also are based on LIBOR. Earnings Earnings drop again Didn’t think it was possible for a few late stragglers to have such an impact but it happened this week. With just one week left in Q1-08 reporting season and with 4187 companies having reported (4126 companies last week), earnings fell two percentage points to -30% (from -28% last week) versus to the same quarter last year. That the results from 61 companies were bad enough to drag the other 4126 down 200 basis-points only confirms that sad state of the earnings environment. Earnings have shown a consistent trend over the last two quarters to fall as more companies have reported and this is bearish. Looking at past seasons, there was a drop of 57% for final Q4-07 (3900 companies), a 21% drop (4205 companies) for Q3-07 and a 13% jump for Q2-07. Economic ReportsEconomic news continued to be glum as American Express announced this week that customers were falling behind on their debt at a faster than anticipated rate. A revised durable goods number in April showed a 1% drop while May was unchanged and signaled a domestic slowdown in consumer spending. But thanks to the tax rebate checks that began arriving last month, personal spending blipped higher in May and income was also up thanks to growing inflationary pressures. Not to be ignored, the government released its final GDP growth figure for Q1-08 that showed a growth of 1% compared to the previous estimate of 0.9%. This number is suspicious for a number of reasons, the most obvious of which is that the more robust Canadian economy has entered its second quarter in negative growth territory. How can the weaker US economy have remained more robust? (The only possible explanation although a long-shot given that exports represent a relatively small part of GDP, is the temporary albeit inflationary boost from a cheap dollar.) When it’s an election year, all government reported stats must be taken with a huge grain of salt. The political machine has shown no bounds in its ability to shamelessly manipulate the economy leading into elections with pro-inflation policies and studies show they are getting better at doing this over time. If the GDP number remains positive after the raft of revisions we will see over the next year, it will have been an anomaly due to the falling buck and hidden inflation impact due to measuring error. But I put the probability of the 1% figure holding up to revisions somewhere around a snowball’s chance on Capital Hill when Congress is in session. Here are the charts we were watching this week.
Chart 1 – On Tuesday, we learned that the 20-city composite home price index dropped 15.3% in April from the same month last year or more than two and a half times the worst year-over-year decline experienced in 1991 during the last housing recession. Since peaking in July 2006, the CS home price index is down nearly 18% and takes average home prices back to they were in August 2004. But more importantly, the annual rate at which prices are falling continues to accelerate. Of the 20 cities in the composite, 13 recorded record low annual declines, 10 of which were double-digit. On the positive side, eight of the 20, namely Boston, Charlotte, Chicago, Cleveland, Dallas, Denver, Portland and Seattle, posted improvements from March even if all 20 including Charlotte, the last holdout, are now down on the year. On an annual basis, here are price declines for the worst hit cities; Las Vegas – 26.8%, Miami – 26.7%, Phoenix – 25%, Los Angeles – 23.1%, San Diego – 22.4% and San Francisco – 22.1%. Prices in Detroit are back to where they were in May 1999. (See “S&P Case-Shiller” link at end of newsletter for more details).
Chart 2 – Then on Wednesday the U.S. Census Bureau reported that new home sales fell another 2.5% in May from April to an annual rate of 512,000 homes, the lowest level since 1991. But more importantly, new home sales are down 41% year-over-year and 50% from December 2006. New home inventories also increased to a 10.9 month supply, off its peak of 11.4 months in March but up from the 10.7 month supply last month. The median price of a new home fell 5.7% to $231,000 from May 2007 but take that number with a grain of salt given the home buyer incentives that skew prices upward. In reality, the median price is far lower.
Chart 3 – The Reuters/University consumer sentiment index fell to 56.4 in June which is the lowest level in more than a decade. We have not included this chart in the newsletter since December for two reasons. 1) It and the Conference Board consumer confidence index, both of which are supposed to measure the mood of the consumer, gave conflicting signals in the latter part of 2007 and 2) studies have shown and our experience confirms that consumer sentiment is at best a coincident indicator so of limited value in helping anticipate stock or market direction until after the fact. (It is interesting to note that the CB consumer confidence index has dropped further than the U. of Mich index in the last year, especially in February and March, hitting 50.4 in June.) Both indexes are now at significant historic lows, lower than in 2002 and at lows not seen since the early 1990s. But this is no surprise given that our other indicators have been screaming bear market (and recession ahead) for months. Next Week Here are the reports we’ll be watching next week. The ones emboldened are leading or useful indicators, the others have the potential to impact markets short-term. - Monday, June Chicago PMI (previous 49.1). - Tuesday, May Construction Spending (previous -0.4%), June ISM Manufacturing Business Index (previous 49.6). - Wednesday, June ADP Employment Report, May Factory Orders (previous 1.1%). - Thursday, June Nonfarm Payrolls (previous -49,000), June Unemployment Rate (previous 5.5%), June ISM Non-Manufacturing (Service) Index (previous 51.7). Synopsis Troubling technicals On a percentage basis, the 3% drop Thursday for the Dow Jones Industrial Average was the worst single day decline since this credit crisis began and compares to -2.5% on March 19 and -1.5% March 14 according to the WSJ. It was also the third worst Dow daily performance in the last two decades behind the 22.6% drop October 19, 1987 and 7.1% fall September 17, 2001. So far, the Dow has fallen 19.5% since the start of 2008.
Figure 2 – Weekly chart of the Dow Jones Industrial Average showing the index breaking its head & shoulder top pattern neckline this week on rising down volume. The next test will be a re-test of the neckline around 11,850. If the Dow tries to break up through it and fails on increasing down volume again, look out below! The pattern has a minimum projected target below 10,000. Chart by www.GenesisFT.com From a technical perspective, the Dow has broken another key support level as it sliced thruogh bearish head & shoulders neckline support at 11,850 this week (see Figure 2). Traders have watched technical indicators grow weaker after first flashing negative divergence warning signs in mid-2007 (between point 1 and 2 in Figure 2) during which period Dow highs were put in on lower volume, another bearish indication. While the Relative Strength Index (RSI) did give positive divergence with price (points 3 and 4), both were marked again by declining volume indicating that buyers were not entering the market. Also note that as the Dow broke the neckline (purple sloped line), volume increased significantly this week (lower red arrow), which is further bearish confirmation. Traders will be looking for final confirmation of the head & shoulders top pattern in the way of an upward test of neckline resistance (around 11,850) and failure on rising down volume. If this occurs, the next major Dow downside target is sub 10,000.
Figure 3 – Weekly chart of the Dow measured in gold. If a point on the Dow was worth a dollar, it now takes 12.5 ounces of gold to buy the index compared to 44.3 ounces in 1999. In real terms, the Dow has been in a brutal bear market over the last nine years and is down 72%. Chart by www.Genesisft.com Market Pollyannas were again out in force this week shamelessly talking their books to any and all who would listen. At the head of the pack was the self-proclaimed perma-bull Ken Fisher who argued on Bloomberg that this was just a temporary correction in an otherwise “major bull market” that he fully expects to continue “for years.” The basis of his argument is the fact that the Dow Transports Average has been stronger than the Industrials and tends to lead in rallies. So we decided to take a closer look at the Transports, an index made up of just 20 large cap cherry-picked companies. (For more information on the Dow Transport components see http://en.wikipedia.org/wiki/Dow_Jones_Transportation_Average.) As of Friday’s close, the Dow Transports Average was up 19% from the January lows (while the Industrials Average is down 6%) and until this week, the Dow Transports Average was basically flat on the year. So how well does it represent the true state of the transport sector?
Figure 4 – Breakdown of the majority of transports companies in this sector showing weak relative performance in the last 12 months. Also notice that every single group has been falling over the last two months or more – a trend that bears scrutiny. Chart by www.VectorVest.com As we see from Figure 4, only the Rail group has gained (8.2%) in the last year and that is a function of the fact that it far more fuel efficient method of shipping freight when compared to trucking and aircraft – a huge factor when energy prices are soaring. But even though Ships are also fuel efficient per ton of cargo, they are down 10%, following by Trucks (-16.4%), Airfreight (-32.4%) and Airlines (-57.6%). If you include all companies (trading on US exchanges) in the sector, this group is down 19.5% in the last year and up just 3.5% since the January lows – a big difference from the Dow Transports.It is clear from the continuing stream of Polyanna “this is the bottom” comments coming from Wall Street pundits, that they either don’t know how to read charts or if so, are choosing to ignore them. And each week that the market technicals (and fundamentals) deteriorate, this argument gets weaker, which is the reason you will be hard-pressed to find a credible technical analyst calling this a bottom or who is bullish longer-term for that matter. Lastly, it is important to point out that unless you choose to retire to the sidelines and put your money in cash (or gold), bear markets are marked by the most explosive rallies in which the fleet of foot can profit handsomely. It is important to remember that the most heavily shorted companies (those with the highest number of shares held short) have led rallies over the last five years and when they take off, the rest of the market follows. Equally important is that these rallies tend to be relatively short in duration so it is essential to get in fast and out at the first sign of technical trouble. Stories of interest this week… Analysts (finally) Backtrack on Banking Stocks After Saying Worst Is Over U.S. Stocks Slump, Pushing Dow Average to Brink of Bear Market Countrywide Sued by California, Illinois, Over Mortgage Loans Bank of America's Countrywide Tab Signed by Taxpayers April S&P Case-Shiller Home Price Index Report (pdf) Four years of gains in home prices wiped out – MarketWatch Link to Harvard Report New tax-cut plea as house prices tumble - Irish Independent News U.S. Federal Open Market Committee June 25 Statement: Text Why is Canada Growing More Slowly Than the U.S.? ---------------------------------------------------------------------------------------------------------------------- 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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