TSG Stock Market Letter

Week Ending August 24, 2007

TradeSystemGuru.com

Topics Discussed This Week:

• Recovery or just a temporary reprieve?
• Market leaders turn back up again.
• New home sales turn up.
• Putting it all together…
  

.. and since July 13

Recovery or just a temporary reprieve?

It was back to all green across the board for the major indexes this week with the Dow Transports registering the largest gain followed by the Nasdaq. While good news, it unfortunately occurred on light volume which means that the bulls are anything but committed at this point. As we see from table 2 above, markets are still well off their July 13 highs but market leaders also recovered strongly which is good news. 

Technically Speaking

Even though it took more cash from the global plunge protection team this week, markets moved higher in tandem. Here is what the technicals are saying. 

Market Leaders Turn Back Up Again

Last week week Zanger’s composite of stocks registered a drop on the month of 15%. This week, we see that his porfolio is again outperforming to the upside, with the big gains coming in the last week his composite of market leaders moved from -14.73% to just below even (-0.67%) compared to a drop in the SPY of 5%. As least as important is the fact that after looking for shorts last week, Dan is again on the hunt for longs. His portfolio of nine stocks has also completely changed and now includes some of past bullish favorites Garmin (GRMN), Baidu.com (BIDU), Crocs Inc (CROX), and Apple (AAPL) as well as some new picks that include Dryships (DRYS) and Excel Marine (EXM). 

Figure 1 – Market leaders are again outperforming the SPY to the upside. Data courtesy of The Zanger Report. 

After the big push by the bulls last Thursday in making up a deficit of more than 300 points to close nearly even on the day to put in a bullish hammer (doji) candlestick chart pattern with a very long buying tail as we discussed last week, the Dow has been working higher. But a big concern for the bulls should be that this week’s rally occurred on below average volume. This signals a lack of commitment on the part of the bulls.

Action was similar for the S&P500 except that it touched its lower 2-standard deviation trend channel and only managed to move above its 50-day moving average on Wednesday this week. Ditto for the NYSE Index. Although the Dow Transports showed the strongest performance this week, the overall daily chart looks weak – the index broke below its 2-standard deviation bottom trend channel last week and is still below its 50-day moving average. 

The Market Volatility Index (VIX) surged to another high of 30.67 on Monday but has since dropped to near 20 signalling that a lot of fear has come out of the market. In lieu of any new financial shocks, there is a high likelihood that we have already hit a temporary bottom and prices should at least hold from here.

Commodities also bounced this week but remain below their 2-standard deviation trend channel midline as the NYFE CRB Index closed 408.65, up from 403.72 last week. 

Gold held in there this week moving higher to close at $671.40 up from $667.10 last week. 

And the lack of support for the dollar signalled by the Fed drop in the discount rate last week has taken its toll on the greenback. It looks to have resumed its downtrend that began in 2002 as the U.S. Dollar Index dropped to 80.61 from 81.36 last week.  

Meanwhile, NYMEX crude oil (continuous) remained below its 50-day moving average closing at $71.09/bbl down from $71.98 amid news that inventories are growing.

Emerging markets also made an impressive recovery this week as MSCI Emerging Market Index ETF (EEM) ended the week at 127.95 up from 122.25 last week. 

Earnings

With 3937 companies having reported Q2 earnings (up from 3764 companies last week), earnings improvement notched up to 13% from 12% last week. This compares to an 8% improvement for Q1-07 compared to the year before. Certainly no sign of a significant drop in earnings so far this season, which is good news for the bulls.

Economic Reports

Here’s what the charts had to say this week. 

New home sales turn up

Chart 1 – Sales of new homes increased 2.8% in July compared to June and the number of unsold to sold homes dropped marginally from 7.7 to 7.5 as well. Not surprisingly analysts again called this a positive sign. The median price of a new home also increased 0.6% to $239,500 in July but before you pop the champagne cork, here are a couple of sobering points to consider. According to the latest data I’ve seen, builder incentives are still runnning north of $43,000 per home which is 18% of the median selling price of a home. This renders Commerce Dept and National Association of Realtors median new home price data virtually useless especially with incentives rising as the market deteriorates. Considering that there were no incentives two years ago, real home prices are down at least 20% more over the period than has been reported. New homes inventories dropped from 538,000 in June to 533,000 in July but it still takes 7.5 months to sell the average home. On top of generous incentives, it is costing a builder an extra $28,000 at bank prime (approx 8.5%) in interest charges for each home sitting for 7.5 months, or another 10% of median home price. No wonder home builders’ earnings are going down the toilet. At this rate, expect to see more builders forced into bankruptcy.

Chart 2 – Yes, durable goods orders have been strong but these figures do not show the aftermath of the recent credit crunch. But while it is getting harder to get a loan and interest rates are rising, credit card rates while already extreme have not gone up and consumers are showing no tendency to cut back on using their credit cards. Demand for expensive goods is rising that shows that the well-heeled have so far not had to cut back on spending. It will be interesting to see what impact the August crunch has had on all sectors of consumer spending next month.

Next Week 

Here are the economic reports we’ll be watching. 

- Monday, July existing home sales (previous -3.8%).

- Thursday Q2-07 preliminary GDP (previous 3.4%).

- Friday, July personal income (previous 0.4%), July personal spending (previous 0.1%), August Chicago PMI (previous 53.4).

Synopsis

Putting it all together…

While this week was positive, there remains one troubling sign and that is the lack of commitment on the part of buyers as evidenced by the light volume. Yes, prices went higher but the low volume makes the moves highly suspect. That’s not to say they will reverse next week. But it does signal that caution is advised. If the bulls run out of steam now, the bears would be only too happy to take over in driving the markets lower again.

However, at this point with the market leading stocks turning up hard, aggressive traders and investors are playing it cautiously to the upside – that is unless more mortgage skeletons start flying out of the financial closet again this week. The last thing this fearful market needs right now is another big scare.  

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