| TSG Weekly Market Watch October 24, 2008 |
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| Written by Matt Blackman | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Saturday, 25 October 2008 | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
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TSG Stock Market LetterWeek Ending October 24, 2008Topics Discussed This Week:Dead cat MIA? Leaders reverse once more Existing home sales up on lower prices Waiting for the bounce – another bullish indicator
Last week
Quote of the week “Pride of opinion has been responsible for the downfall of more men on Wall Street than any other factor.” Charles Dow Dead cat MIA… It was another week of see-saws for stocks with the Dow Jones Industrial Average faring best with a drop of ‘just’ 5.4%. High tech stocks dropped more than 9% and emerging markets tracked by the MSCI Emerging Market ETF (EEM) fell 19%. If that isn’t a bad week, I don’t know what is. But the big question remains – where is the rally? So far, stocks have been unable to mount even a dead-cat bounce. We discuss what another traditionally reliable indicator is telling us in the Synopsis. Technically Speaking Leaders reverse once more After gaining more than 7% last week, Dan’s Sunday pix turned down again this week losing nearly 12%. Only the Emerging Markets ETF performed worse dropping nearly 19%. That the leaders are heading down again is bearish for the overall market. This week’s list of 10 stocks included Apple (AAPL), Google (GOOG), Baidu.com (BIDU), Apache (APA) and Peabody Energy (BTU), Cleveland Cliff (CLF), First Solar (FSLR), Fuel Systems (FSYS), Sohu.com (SOHU) and Sunpower Corp (SPWRA).  Figure 1 – Five-day performance of Zanger’s last Sunday pix (green) compared to the S&P500 (SPX), the Dow Jones Industrial Average (DJX), Dow Transports (DTX), Nasdaq Composite (IXIC), Russell 2000 (RUT) and MSCI Emerging Market ETF (EEM). Data courtesy of The Zanger Report, performance chart courtesy of VectorVest.com. Weekly volumes were the lowest in three weeks. Falling volume on price declines is actually bullish since it shows that selling pressure is easing. Since experiencing the biggest weekly price drop in decades October 10, volatility has remained elevated but so far, the rally has failed to materialize. Last week’s bottom has all the makings of a test of a major low for stocks. While indexes have been unable to mount any sustainable rally, support levels have remained pretty solid at 8400 for the Dow and 850 for the S&P500. However, the 1650 low close October 10 for the Nasdaq Composite was taken out this week which is bearish but it did happen on lower volume which is mildly bullish.During the week, the number of new lows on the NYSE Index soared to an all-time high of 2591 with just one new high. This is normally a strong contrarian indicator but so far, markets have failed to respond as we discuss in our Synopsis.  Figure 2 – Weekly chart showing the 64% decline since November 2, 2007 for the MSCI Emerging Market ETF (EEM). This compares to 40% drop for the S&P500 over the same period and explains the recent strength in the U.S. dollar and money is repatriated. Chart by GenesisFT.com Volatility hit another multi-decade high as the Market Volatility Index (VIX) soared to 81.76 intraday on Friday before slipping to close at 79.13. This compared 70.33 a week ago. As we mentioned last week, extreme VIX readings can often presage at least a temporary market bottom especially when it follows a high volume capitulation reading like we saw last week. It was another tough week for the 19 commodity NYFE CRB Index as it fell to 356, down from 384.57 last week and 392.80 two weeks ago. Since hitting a high of 611.51 three months ago, the CRB Index has now fallen 42%. The VIX reading for this index has increased since last week and is now at all time highs. We expect that commodity prices may also be getting near at least a short-term low and will continue to look for further signs of a potential rally. It was another volatile week for gold which dropped to $730.50/oz from $788.00 last week and $856.60 two weeks ago. A major reason for this weakness is the strength in the U.S. dollar which we discuss below. Continuing its rally this week, the U.S. Dollar Index climbed to 86.37 from 82.55 last week while other currencies, especially those that are commodity-based (like Canada and Australia), fell again. Much of this is due to a rapid repatriation of investment dollars to the U.S. as commodity prices and emerging markets continued their free-fall. And oil was part of that commodity picture. Falling since July, crude oil hit another new 2008 low $64.60/bbl Friday, down from $71.91 last week. Normally oil hits a seasonal high in mid-October but this trend failed to materialize this year. Oil is now down more than 55% from its mid-July high. As mentioned last week, this has been the most volatile year for crude in nearly two decades when it dropped from a high of $40.10 to a low $17.61 between September 1990 and February 1991. The U.S. bank prime rate and the Fed funds target rate held at 4.5% and 1.5% respectively. Credit markets continued to loosen this week as the 3-month London Interbank Offered Rate (LIBOR) slipped to 3.516% from 4.41875% last week and 4.819% two weeks ago but it is still above the 3.76% rate four weeks ago. Freddie Mac mortgage rates slipped to 6.04% for the 30-year fixed mortgage versus 6.46% last week while the one-year adjustable rate mortgage (ARM) firmed again to 5.23% from 5.16% last week. 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. About 6 million U.S. mortgages, including the vast majority of subprime home loans as well as 41% of prime ARMs are linked to LIBOR. Earnings fall out of bed again in Q3… In the third week of Q3-08 reporting season with a total of 1056 companies having reported (up from 569 last week), average earnings collapsed to -39% (down from -23% last week and -13% two weeks ago) versus Q3-07. This compares to a year-over-year 36% drop in Q2-08 earnings, a 30% decline for Q1-08, a fall of 57% for Q4-07, a 21% drop for Q3-07 and a 13% jump for Q2-07. Q3-08 also marks the fifth quarter that earnings have deteriorated as the season matured.
We have found that results from a broad range of companies are much more reliable than analysts’ earnings forecasts, S&P500 earnings, earnings surprises and month-to-month changes in seeing the true earnings picture. When earnings are falling for the broad range of companies, it’s a negative indicator of market and economic strength. When they hit a solid bottom and start to rise, it’s very good for both. Economic ReportsBaltic Dry Index still falling and existing home sales rise on price declines It was a slow week for economic reports. Other than the Conference Board’s leading indicators which we have found to offer little forecasting value, we learned that the National Association of Realtor’s existing homes sales jumped 5.5% in September from August but the news wasn’t all good. The jump in sales was driven by falling prices as the median price of an existing home dropped 5.7% from August.  Chart 1 – Last week we updated you on the state of the Baltic Exchange Dry Index showing how far it had fallen since reaching lofty highs earlier in the year. This week chart the index since its inception in 1985 with the long-term average value of 2103 (purple horizontal line). On Friday (black arrow), this index which tracks the cost of shipping dry bulk goods around the globe dropped to 1102, a value not seen since in September 2002. Since peaking on May 20, 2008 at 11,793 the index has dropped more than 90%. It shows that shipping prices, which are not subject to speculation, have experienced the biggest bubble of all – so much for the theory that speculation is at the root of the commodity and equity bubbles! We will be watching this index closely for any signs of a thawing in global shipping rates that will show a reversal in global economic fortunes. Data – Baltic Exchange Chart 2 – A 5.5% month-over-month increase in September existing home sales was the source of some much needed good news this week as sales moved up to 5.18 million on an annualized basis. On a year-over-year basis, sales increased 2.98% from September 2007 for the first annual increase since 2005. The supply of unsold inventories also dropped to 9.9 months from 10.4 months in August. However, the news was not all good. The total number of unsold homes for sale increased to 4.266 from 4.255 million in August and sales were driven by a big drop in the median price which fell from $203,100 (August) to $191,600 thanks to the increase in the number of foreclosures flooding the market (see next chart).
Chart 3 – National Association of Realtor data showing recent drop in the median price of an existing home. Since their peak, home sales have fallen 22.5% and median prices have dropped 17%. We get a more realistic take on home prices Tuesday when the latest Case-Shiller home price index is published. So where’s the bounce? We mentioned our research last week showing that since 1929, the Dow has bounced an average 57% in the six months following the type of extreme volatility spike we saw October 10. And while those gains only held longer-term in two of the five cases, there is the real possibility that we could see a healthy bounce in the weeks ahead. This week we look at another traditional indicator that has worked well in the past – the number of new highs and new lows at market extremes. Below we see the weekly chart of new highs and lows for the NYSE stock exchange showing what happened each time the number of new lows hit extremes (vertical green dashed lines). But notice what has happened lately each time the number of new lows spiked. In the last few months, markets have either put in an anemic bounce or have simply flattened before resuming their downward journey.  Chart by GenesisFT.com On October 10, the number of new lows spiked to an all-time high of 2591 with just one new high but so far, the index has failed to bounce. On Friday, new lows hit 853, well off the spike last week which is something technicians call positive divergence and is usually bullish. This is yet another indicator screaming capitulation bounce. Any positive news or any reason for optimism this week or next, however, could see a bounce hit with a vengeance. From a longer-term perspective, until we see some verifiable evidence that the worst is over, it is not the time to be buying in spite of what the talking heads are saying. As Dr. Robert Shiller, who accurately predicted the stock top in 2000 and the top of the housing bubble in 2006, said in an interview Friday, this could get a lot worse before we finally see real daylight. Stories of interest this week… Beware of Congressmen with Checkbooks http://seekingalpha.com/article/101498-beware-of-congressmen-with-checkbooks US foreclosures up 21 pct from year ago - RealtyTrac http://www.reuters.com/article/companyNewsAndPR/idUSN2240057220081023?sp=true Bank crisis ends as the economic crisis begins Global Recession Concerns Prompt Governments to Act http://www.bloomberg.com/apps/news?pid=20601109&sid=aILzYDSrUpZ8&refer=home Self-Employed Forecaster Tops Big Banks With U.S. Housing Call http://www.bloomberg.com/apps/news?pid=20601109&sid=ammB5sriS.A0&refer=home Housing Prices Tumble in August as Foreclosures Surge http://www.bloomberg.com/apps/news?pid=20601213&sid=ahE9ALO_cRyA&refer=home Thirty-Year Swap Rate Drops Below Treasury Yield http://www.bloomberg.com/apps/news?pid=20601110&sid=aBdud_O6iFNg Hedge Fund Withdrawals Stress Market; Citadel Reassures Clients http://www.bloomberg.com/apps/news?pid=20601087&sid=a8.xpaCUzHSI&refer=home
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