Here is the local take on the S&P500 from Traverse City, Michigan.
I was unable to publish a quick take last week due to obligations on family matters, my apologies.
The Euro Zone continues to muddle the markets as we have seen a string of seven consecutive down days, with eight of the last nine closing lower. During the nine day span the S&P500 plummeted 8.32%.
Since Europe continues to scuttle along, the choices they have left to try to solve their debt problem continue to dwindle. It seems likely they will continue to squabble amongst themselves and do nothing at all. None within the Euro Zone appear to feel any urgency to resolve this matter, so the ship might not be sinking as fast as we think. In any case, the Euro will likely continue to fall in value against the dollar and other currencies. Despite what many believe, a strong dollar is a very good thing for our economy.
The weakening dollar made it more lucrative to send employment overseas as not only did these companies often reap the benefits of lower wages, they also saw gains in currency exchanges. Much of this production went to Europe, as the Euro was seeing the largest increases against other foreign currencies, and many of these jobs transfers were at comparable wages to those in the US. These exchange rate gains are now becoming losses with the weakening of the Euro.
But this isn’t the only concern for these companies. As the dollar strengthens it brings commodity prices down in the US, and as the Euro weakens, commodities prices increase there. This increases the costs to produce these products overseas, and in turn further reduces the profitability of these operations.
This can be seen in all recent earnings reports as exchange rate losses and costs are beginning to increase in companies with large workforces overseas. As these losses build there is a tipping point, and when reached companies will begin to move this production back to the US. We may have already begun to reach this point as I’ve already read of several companies bringing production back to the states.
For this reason, if the Euro continues to fall, it isn’t unlikely that Europe goes into a recession. But it is much less likely that the US will.
It is not what the Federal Reserve believes, or at least wants us to believe. They have contended that a low dollar value increases exports. Most of the economic data tells a very different story to what the Federal Reserve believes, including the data on the trade deficit.
Through nearly the entire time the dollar was weakening, the US saw an increase in exports. Many point to this increase as proof that a weak dollar increased exports. This increase in exports was at a slightly lower percentage rate than it was with a strong dollar, so although exports increased, the rate of this increase did not. However, during the weakening of the dollar we seen a huge increase in imports, and a widening trade deficit, as imports continued to increase at a slightly higher rate than when the dollar was strong. This was partially because the US paid more for imports and got paid less for exports.
During the last month we saw the trade deficit fall. Funny this happened at the same time the dollar was strengthening, and not happening when the dollar was weakening isn’t it? Not really, exports cost the buyers more, and we paid less for imports. Imports and exports will both likely continue to increase at about the same rates for the time being, but the deficit will still narrow if the dollar continues to strengthen. Eventually imports will reduce and exports will increase, as production is moved back to the US due to a strengthening in the dollar and resulting increased costs and exchange losses abroad. It isn’t what we’ve been told will happen, but the data shows it will.
Probably the very top of the list of inconsistencies to the data that the Federal Reserve promotes as a growth stimulus is a low interest rate. Although a low rate can provide a temporary increase in loan activity, holding rates at extreme lows for extended periods of time does not promote growth, it in fact slows growth.
A great example of what an extended low interest rate does to an economy can be seen with Japan. It was once thought, like China today, that Japan would catch and pass the US as the world’s #1 economy. Instead their growth rate has stalled for over ten years and during the past quarter they fell from the #2 economy when China overtook them.
What does an extended low interest rate do? Absent undue influences like the current debt scare, a few of the things that are evident in countries that promote a prolonged low interest rate include:
Drastic drops in personal savings and large increases in personal debt. This results in increased debt failures into economic slowdowns.
Those with large sums in savings tend to move to the highest interest rates, so large sums of internal savings move abroad. Banks also increase foreign loans as rates are higher on these loans. These loans are also often less stable than domestic loans and lack collateral, which increases losses if they fail.
With the decrease in savings the amounts that are available to lend internally shrink. This tends to create a mortgage bubble in the early stages of the extended low rates, as some of those with savings look for higher returns and the aftermarket on mortgage loans increases due to a higher rate than passbook savings. This large aftermarket demand tends to relax the criteria used to determine these loans, which later leads to failures in these loans. After this bubble bursts, the low rate makes it more difficult for banks to sell mortgage debt, especially in economic slowdowns, so the criteria for loans again stiffens to promote more buying in the aftermarket . Most banks only keep a small percentage of the mortgage loans they write, so the lack of an aftermarket reduces the number of loans made.
It promotes investing in stocks and bonds overseas. Jobs also flow to strengthening currencies as companies enjoy both currency exchange profits and the reduced commodity costs the strengthening currency provides. This job loss in turn tends to increase imports.
This all creates an outflow of money that tends to further weaken the currency of the country that has low rates. Currency value is basically supply and demand, so as this money is exchanged into other currencies, the demand increases on the foreign currency increasing its value and decreases on the domestic currency decreasing its value. The low currency value increases external costs and with it internal costs, and makes it more expensive to produce goods in the country with a low currency value, further pushing jobs abroad.
It promotes investments into nonproductive things like gold or other precious metals or stones. While this money is locked up in these metals or stones it is not being invested in productive things like stocks, bonds, mortgages or even bank savings that tend to promote growth.
It increases investment activities in counterproductive things like commodities or oil. Although the decrease in currency value tends to increase commodity costs, the increase in speculative trading further inflates commodity prices and with it the costs of goods or services that depend on them.
The low rates depreciate retirement savings, as many times the interest rates are lower than the inflation rate. It also reduces the income available to retirees or others that count on this income and this loss of income slows growth.
Additional drops in the interest rate to promote growth provide little if any stimulus, as there is no new savings to lend and no aftermarket to sell the new debt to.
There are other things that extended low rates cause, but these are some of the most detrimental. All of these happen with the extended low interest rates we have seen over the past ten years, and many happened in other economies that held rates low for extended periods of time. Japan has continued to keep their rates near zero percent, and continues to be stagnant.
Many blame the current lack of loans on the Dodd/Frank Act, although this law was passed and signed, the regulatory bodies that were assigned the task of filling the huge voids left in the law with rules, haven’t finished doing so yet. Banks began much stricter lending practices well before this law was even being contemplated. These rules were put in place because they weren’t able to sell much of this debt otherwise, not because of the spineless attempt by Congress to write a bank fraud protection law.
Laws were meant to be written and passed by Congress, then signed into law by the President, with the court system deciding if these laws are constitutional. Congress wasn’t given the authority to assign regulatory bodies the task of making the rules of the law. The Constitution saw the danger of allowing others besides Congress and the President to make laws. Regulatory bodies can change the rules as they go along skirting Congress and/or the President and these rules fall largely outside the normal checks and balances of the court system.
One of my counterparts, Karen Peters who also writes for the Traverse City Examiner, has put together some articles on this very subject. Although I don’t completely agree with everything she has written; she shows this very fact in many of the points within her articles.
However, I believe she is missing the real problem, and that is Congress wrote a bill that gave these regulatory bodies the right to make the law. Each President has used this in the past to skirt Congress, and Congress has also used it to skirt the President. Don’t forget that Congress appointed the regulatory bodies that make the rules to begin with or even created a new regulatory body to make these rules.
The absence of a vote and signature when these rules are placed allows each party to point the figure at the other, when in fact the blame lies squarely on those that wrote, voted on, and passed the bill to begin with. None of the points within Karen’s articles were done without Congress’s approval; they gave their approval when they assigned the regulatory body to make these laws and passed the law onto the President to be signed.
Last Tuesday’s retail sales report gave the first stellar economic data we have seen in months. What makes this data stellar is not so much the 7.5% year over year increase and a 0.6% increase over September, but more the fact this large increase was seen in October. This was after the back to school season finished (with over a 6% increase in year over year numbers) and before the Christmas shopping season began, during what is normally a soft sales month. This increase was also seen during a time with continued unnerving news from the Euro Zone.
I’ll say it again, the holiday shopping season is shaping up to be a very good one. I’ve also noticed that estimates have continued to increase as the season nears. These estimates were around 1% in September, and went to about 2% in October and now most are around the 2.8% range. A 2.8% year over year increase is not bad, but it still looks like it will be better than that, and could rival the year over year increase seen in October.
This Tuesday also saw the second estimate of the GDP come in at 2.0%, declining sharply from the first estimate of 2.5%. But that number was unduly affected by a 1.55% decrease in inventories as companies failed to anticipate the strong retail sales that were seen during the quarter. Without the reductions seen in inventories, the GDP growth rate was 3.5%, another stellar number.
Wednesday saw the initial claims again come in lower than expected at 393K continuing a string of weeks with totals under the 400K threshold, with the prior week’s claims increasing by 3K to 391K. Continuing claims came in higher than expected at 3691K, and the prior week’s total increased by 15K to 3623K.
The early reports I’d read on Black Friday appear positive, with large turnouts and many shoppers saying they spent more than they had planned to. Those that I talked to locally that participated in these sales said much of the same. Long lines, lots of shoppers and spending more than planned seemed to be the norm in these conversations.
Some very good earnings reports and forward guidance were largely ignored in the recent drop. Although some managed decent gains like the over 3% run up in Deer (DE) after reporting a 46% increase in earnings on Wednesday, these stocks could have easily ran much higher than they did had these reports been given just a couple weeks earlier.
A look at the major index charts shows that the DJIA, S&P500, NASDAQ, NYSE and Russell 2000 have broken from bullish patterns into a steep fall.
These falls have all breached the 50 EMA without rebounding back above this level. Most of the indexes have already seen the 13 EMA regress over the 50 EMA, often considered a bearish indicator. All of the indexes have fallen below earlier support levels. The break was from a lower high, and has fallen to a lower low a technical traders drop out signal.
The indexes broke from the wedge formations I noted they were forming in my previous article. Breaks from wedge formations often exaggerate the move in the direction they break from. It is not uncommon for this exaggeration to correct itself.
This drop came during a timeframe that it is not uncommon to see pullbacks of this nature, with most rebounding shortly thereafter.
The indexes have become extremely oversold in this drop. Drops that exceed seven consecutive days are extremely rare. It doesn’t seem unlikely that stocks could rebound in the week ahead.
The S&P500 constituent charts show that many of the constituents have maintained within the lower channel of uptrends they established since August even though they have taken significant drops. Many are resting at or near support levels. Almost all are deeply oversold.
Considering the index has shed over 8% in the just two weeks, very few of the constituents reached 52 week lows during this time. Sixty of the constituents are at a lower percentage from 52 week highs than the index dropped in these two weeks. Most of the stocks within the index remain with the normal ranges seen in 52 week patterns.
Overall the S&P500 constituent charts have taken significant pullbacks. Although there are some bearish signs in these charts, they don’t appear to be folding over.
Overall the economic data is showing market improvement and earnings reports continue to be very strong. Many of the trends seen now are those found during sustained economic uptrends. If any sense of resolve in Europe is felt by investors, stocks could move higher very quickly. Although there are some bearish indications, most stocks have not folded into the recent pullback and appear to be at levels they could rebound from. Stocks are in extreme oversold conditions. Considering the degree to which most are oversold, it looks like they could whipsaw higher. Short positions look risky at the current time.
The +2% H and -2% H and 10 day indicators are currently active. See a more detailed description of these indicators here.
The -2% H indicator provided one correct instance during the past two weeks with Wednesday’s 2.21% pullback.
The +2% H indicator did not provide a correct instance over the past two weeks and has remained quiet for over four weeks.
Wednesday’s 2% dropped was the fourth without a closing price offset of 2% higher, and again sets a high likelihood that a run of 2% or greater will be seen within the next 30 trading days, with most of these offsets occurring within ten trading days. As discussed in the previous article, there was an intraday run of over 2% on 11/11/2011 and there are occasions that intraday highs have served as offsets as there were no closing price offsets within the timeframes they are normally seen. There have also been times when both intraday and closing price offsets have been seen. There is no way to determine if an intraday high made an offset or not.
Wednesday’s pullback again toggled the 10 day indicator into a high state on the day the previous 10 day indicator was set to expire. This indicator suggests there is a higher than normal likelihood that there will be a run of 3% to 5% higher within the following ten trading days. The early rebound Friday nearly toggled this indicator back off, but it remains in a high state.
The 10 day indicator that expired on Wednesday failed to perform as expected as it did not provide an indication of a 3% or greater move higher. It finished the ten trading days at (highest close/lowest close/last close):
Current cautions: Volatile conditions have persisted although they are beginning to be somewhat subdued. The market move we have seen recently is not uncommon for this time of year, and many short term drops have happened into the Thanksgiving weekend. The current pullback has reached a timespan that is rare
Have a great day trading,
Disclosure: Many of the stocks I have sold recently have reached levels that I feel comfortable reinvesting at and as a result I am nearly 100% invested in stocks in my trading accounts. The change in my investment level over that in my prior article was due to the purchase of six issues partial offset by dividend payments. I will receive dividend payments from 14 issues in the coming week and 12 in the following week. If I make no investment changes, these payments will reduce my investment levels due to rounding.
Disclaimer: What I provide in the Quick Market Takes is my perception of the current conditions and what I think is the most probable outcome based on the current conditions, the data I have collected and the extensive research I have done into this data along with other variables. It is intended to provoke thought of the possible market direction in my readers, not foretell the future. I do not claim to know what the market will do. If the market performs as I expect, it only means I am applying the market history to the current conditions correctly. My perception of the data is not always correct.
This article is intended to provoke thought about investment possibilities. Acting on the information provided is at your own risk. You are urged to do your own research, and where appropriate, seek professional investment advice before acting on any information contained in these articles.