Saturday, October 31, 2009

Another U-Turn in the Market

Trick or Treat Holloween, watch the bounce and SELL it BIG !

Have investors been tricked or treated as October comes to a close? Well, a bit of both it seems. Early in month positive earnings, Obama Administration proclaiming the recession is over and CNBC hailing the bull is back when the Dow Jones Industrial Average closed above 10000 for the first time since the bear began growling. It seems as though the investor was on the Halloween Treat “sugar high” early. But as we all know what happens when that sugar high loses its effect, we get the inevitable “trick” let down.

After yesterday's almost euphoric rise, today's slump hit the bulls hard. Looking back over the last nine trading days or so, the sharp increase in volatility and in the intraday ranges of the major indexes (not to mention investor sentiment) becomes apparent. Some market observers attribute this sudden volatility to the Forex market, which has recently shown a large influence (correlation) on the stock and commodities markets (with a consistently lower US dollar contributing to sizable gains in commodities and equity markets). Today, the US dollar continued its recent surge against a basket of major currencies (yesterday, the inverse pattern could be observed).

However, there were also economic news releases that contributed to today's significant u-turn in the market. Yesterday, market observers had cheered rising GDP numbers; today, the health of the US consumer became a key concern after the Labor Department announced that in September personal spending had declined by 0.5%, the largest slide in nine months. At the same time, new data shows that personal income came in flat in September (as compared to August). Also perceived as negative, the latest reading on the Reuters/University of Michigan consumer sentiment index came in lower as well, declining from a reading of 73.5 in September to a value of 70.6 in October.

Market observers note that the volatile trading we have been seeing may continue for the time being until we get more stable (or improved) employment numbers. Consistent income and spending growth can only come with labor market improvements, according to one economist. Next week will bring a significant amount of new data from the economic front; consult the section below for details.

Exacerbating today's selling was a renewed fear about the health of the financial sector. Making headlines was CIT, which appears headed for a bankruptcy filing. Adding to the malaise, an influential market analyst suggested Citigroup would have to take $10 billion of write-downs this quarter. And finally, well-known investor Wilbur Ross voiced his opinion that the US was currently at the onset of a 'huge crash in commercial real estate.'

The remarkable thing about the stock market is the absence of volume associated with it. Compared with previous rebounds in stocks from previous recessions, volume in this recovery from the March lows is 60 percent lower.

American companies' earnings are better than expected partially because of the weakness of the US currency. The dollar is incredibly cheap. Sterling is incredibly cheap. Therefore, as an American company your costs are down.

It is too early to say whether companies' earnings point to a "real" recovery or to a short upwards cycle followed by a downwards one. Clearly we're having an inventory restocking.

Today, the various stimulus packages have also left behind a legacy of debt. We're in a generation where returns disappoint until we deleverage the economy.
China will continue to buy US Treasurys, as a way of ensuring their currency is stable, and the fact that the yuan is not freed from the dollar is creating strains on the European and Japanese economies.

The Chinese are not diversifying the reserves. They cannot diversify, because were they not buying Treasurys, or if they weren't buying dollars, their currency would rise.

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