Werlinich Asset Management, LLC
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January 21, 2010
Current Market Analysis
Last Month's Results
Statistics to Watch
Trends To Watch
Fearless Forecasts
What I'm Thinking and Doing
Personal News and Notes

Current Market Analysis

Welcome to a New Year and a new decade, both for us and for the stock market. I was very pleasantly surprised by the out-sized gains enjoyed by the market in 2009. And yet even those outsized gains did not come close to recovering the losses endured in 2008. After the Bear Markets of 2000-2002 and 2008, the past ten years have been dubbed the "Lost Decade", as the average investors are worse off today then they were more than ten years ago. The Dow Jones Industrial Average closed 8.25% lower than it did 10 years ago, S&P 500 closed 23% lower, and the NASDAQ closed a stunning 44% lower. Hopefully the next ten years will be more profitable.

Notwithstanding the decline in the market yesterday, the new year has picked off right where it left off last year; it continues to go up. We had our most recent Dow Theory confirmation (when the Dow Jones Industrial and Transportation averages hit new highs on the same day) on January 11. Since then the Industrials have made new highs three additional times, most recently on January 19, when it hit 10,725.43. If the Transports don't confirm with its own new high shortly, that would be a cause for concern. But for now, it appears to be all clear ahead. I've been telling you for months that I don't see anything in the immediate future that will derail the rally, and I continue to feel that way.

Notwithstanding my short-term bullishness about the market, I continue to be bearish on our government and our economy. As much as our government would have you believe otherwise, the "Great Recession", which is already more than two years old, is not even close to being over. Unemployment is still way too high, the federal deficit is still growing, our trading partners are growing increasingly disenchanted with the weakened dollar and the American consumer remains tapped out. While the economy appears to be improving, as I'll talk about below, we still have a long way to go before any intelligent person can declare that we are in anything resembling a robust recovery. I also believe that there are some very dark storm clouds headed our way again in the not-too-distant future. But that's a story for another day.

I've said this before but I think it bears repeating; please remember not to confuse a short-term, or cyclical" trend with a long-term, or "secular" trend. I believe, until proven otherwise, that this is a cyclical bull market, and will stay that way until it doesn't. At that point, we'll have to re-evaluate everything.

So what do the charts tell us now? Well, they continue to show good times. The Industrial average, like many of the charts you'll see below, shows the "V" shaped recovery that the experts have been "predicting". I have to admit, I didn't see it coming. But as long as the rising uptrend continues, it's all good. And I'm pleased to see the trading volume increase recently. 

The chart of the Transportation average roughly mirrors the Industrials, but there is a slight divergence recently that I'd like to see corrected. I'm also a little concerned about the lagging trading volume. Finally, it's important that the index price remains above it's 50-day moving average. To fall below would be a bearish indicator.

Since May, the yield on the 10-year treasury has traded between 3% and 4%. In November I wrote that "I still expect yields to remain in the 3% - 4% range for the remainder of [2009] before heading inevitably higher sometime beginning in 2010." If you look at what happened in December when rates briefly rose above 3.9%, you'll see that we may already be headed in that direction.

Last Month's Results

As always, I provide the following chart to show the raw results for the preceding month, the quarter-to-date and the year-to-date, not including dividends. Notwithstanding all of the sturm and drang, it was a very good year for the stock market in 2009. If you had the guts and the patience to do nothing during the plunge in early March, or better yet, if you had actually put some money to work, you did very well last year. Just being fully invested in the market guaranteed you a return of around 20%. If you had invested primarily in technology or emerging markets, you could have done twice as well. The worst performing sector last year was government securities. I expect 2010 to be just as volatile, but not quite as profitable as 2009.

Name of Index





S&P 500




Large-cap stocks

Dow Jones Industrial Average




Large-cap stocks

NASDAQ Composite




Large-cap tech stocks

Russell 1000 Growth




Large-cap growth stocks

Russell 1000 Value




Large-cap value stocks

Russell 2000 Growth




Small-cap growth stocks

Russell 2000 Value




Small-cap value stocks





Europe, Australia, Far East

Lehman Aggregate




US government bonds

Lehman High Yield




High-yield corporate bonds

Statistics To Watch

  • According to the Department of Labor, the most recent figure for seasonally-adjusted initial jobless claims for the week ended January 9 was 444,000, an increase of 11,000 from the prior week. The four-week average declined to 441,000. The problem is that while it seems there is some modest improvement in jobless claims, the less publicized non-seasonally adjusted number of initial jobless claims was staggering 801,086. That's a huge difference from the "adjusted" number.
  • Non-farm payroll employment was discouraging in December after a surprisingly good November, falling by 85,000 versus a revised 4,000 jobs gained in November. Average hourly wages inched up to $18.77, while the average work week remained steady at 33.2 hours.
  • In December, the total number of workers counted as unemployed remained at 15.4 million, up from 7.5 million only two years ago, which kept the unemployment rate at 10.0%. There are 6.1 million people who have been unemployed longer than 27 weeks. The seasonally adjusted number of people who could only find part-time work held at 9.2 million and the number of marginally attached workers held at 2.3 million. The number of people holding multiple jobs fell to 6.9 million. My Comprehensive Labor Index™, which is much more representative of the real unemployment situation, fell to 20.6%.
  • The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a federal budget deficit of $92 billion in December, leaving us with a deficit of $390 billion for the first fiscal quarter of 2010, which is $56 billion more than the record shortfall from 2009.
  • The Census Bureau reported that the U.S. trade deficit of $36.4 billion in November, up from a revised lower $33.2 billion in October. The trade gap isn't really a big problem at this point, except for the fact that more than 55% of the gap is with one country - China.
  • The Census Bureau reported that privately owned housing starts increased 8.9%% in November after falling 10.1% in October, but remained 12.4% lower than a year ago, to a seasonally adjusted annual rate of 574,000 units. New building permits were down 6.0% from last month and were only down 7.3% from last year.
  • The National Association of Homebuilders/Wells Fargo Confidence Index dipped a bit in December to 16, from 17 in November. The 16-month high of 19 was set last September.
  • The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in November fell 11.3% from the prior month, and remained 9% lower than the same period last year, to 355,000 units. The estimate of homes for sale is up to 235,000, which represents 7.9 months at the current rate of sales. The median sales price rose to $217,400, which is just below the 12-month moving average price of $219,633. There simply is no clear trend yet in new home sales.
  • The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes in November increased 7.4%, and were also up a huge 44.1% from a year ago, to a projected 6.54 million units. The estimate of homes for sale, at 3.52 million, is the smallest figure since January and represents only 6.5 months of supply at the current rate of sales. The median sales price fell to $172,600, which is still slightly lower than the 12-month average of $173,433. Existing home sales continue to be paced by foreclosures which depress home values.
  • The S&P/Case-Shiller Home Price Index, which uses a three-month moving average to track the value of home prices across the US, increased In October for the sixth straight month, to 158.82.
  • According to RealtyTrac, the number of foreclosures in December increased 14% from November, after four straight months in which foreclosures decreased. For the year, the number of foreclosures increased by 21% over 2008. It could have been much worse if not for government intervention. Unfortunately, there are still high levels of delinquencies which will likely result in large numbers of foreclosures again in 2010.
  • The Institute for Supply Management (ISM) index of manufacturing activity was 55.9 in December, continuing the general uptrend in place so far this year. This marked the fifth month in a row in which the manufacturing sector showed signs of growth. The ISM index of non-manufacturing activity was 50.1, marking the third time in the last four months that the index indicated moderate growth.
  • The Federal Reserve reported that capacity utilization in the industrial sector increased for the sixth straight month, to 72.0%. in December. It should also be noted that utilization for the five prior months were all revised upward. Capacity utilization now remains only 8.9% below the average level of the period from 1972 through 2008.
  • The Conference Board reported that it's index of Leading Economic Indicators rose by 0.9% in November, following 0.3% and 1.2% in October and September, respectively. After peaking in July 2007, the LEI fell for 20 months in a row. This is now the eight monthly increase in a row. Most indicators suggest that the recession may have bottomed out.
  • According to the Bureau of Economic Analysis, the "final" estimate of GDP growth in the third quarter was 2.2%, lower that the "advance" estimate of 3.5% and the "second" estimate of 2.8%. Even with the lower revisions, this was far better than the "final" estimate of -0.7% GDP growth in the second quarter. Please keep in mind that these gains are thanks in part to gimmicks like "cash for clunkers" (which added more than 1.5% to GDP), credits for first time homeowners and massive government spending. I expect the 4th quarter GDP numbers to be lower.
  • The Federal Reserve reported that in November the amount of outstanding consumer credit fell by an annualized rate of 8.5% from the prior month, to $2,465 billion. Consumer credit has declined in fourteen of the last sixteen months, and is at it's lowest level since April 2008. This is good for consumers, but ultimately bad for the economy as consumers spend less money.
  • According to the Census Bureau, retail trade and food service sales decreased 0.3% in December, but was 5.4% below the levels from the year before. Retail sales also fell 0.2% in November. To have retail sales fall in the holiday season is not good news.
  • The Federal Reserve reported in that in December the supply of M-2 dipped slightly from the prior month and up only 0.9% during the prior six months. The supply of M-1, on the other hand, rose a more robust 5% over the same six months. The overall rate of monetary expansion definitely appears to be slowing. The Fed is using other tools, like purchasing bonds and mortgages, to create a stimulative monetary policy.
  • The Conference Board Consumer Confidence Index rose in December, following an increase in November, to 52.9 from 50.6. Don't be mislead by these increases; consumers remain very pessimistic about their present economic situation.
  • According to the BEA, disposable personal income inched up again, which caused the personal savings rate to move back up to 4.7% in both November and December.
  • According to the FDIC, 140 banks failed in 2009 and were either closed or merged into healthier banks. By comparison, 26 failed in 2008 and only 3 failed in 2007. 3 more have failed already this year.

Trends To Watch

In November I wrote that "In the short-term, I wouldn't be surprised to see the dollar rally a bit, but longer term, the dollar is headed lower." Those were prescient words as the dollar surged almost immediately thereafter. I believe that left to its own devices, the dollar would sink like a stone under the weight of the massive government deficits and unfunded obligations. But "relative" to the currencies of other countries, the dollar is still the world's reserve currency. Therefore, the dollar could rally further before it inevitably rolls over and tests the 72 level.

To put the action of the dollar index into some context, I'm showing you a chart of the past 22 years. You can clearly see that the dollar is off of its second lowest level ever, and isn't that fall off its historical low of 70.70. It's been quite a drop from a high of 121 only seven years ago. And unfortunately, I don't think we've nearly seen the worst of it.  

The price of gold continues to surge to unprecedented heights. But that upward move is never in a straight line, as was demonstrated in December. Remember, I've said many times that there will be corrections and profit-taking, but don't get scared out. I am firmly convinced that this is not the top; this is just a point along the way in an upward trend to a much higher level.

The stealth bull market in silver silver continues unabated. The gain in the price of silver over the past year has dwarfed that of gold, yet it has happened almost in a media vacuum. Investors who have put some money in silver are doing very well, and will likely continue to reap the rewards going forward.

After breaking above $80 per barrel, the price of West Texas Crude is consolidating a bit right now. This is totally normal. I won't get concerned unless the price falls below $75, and violates the rising blue trend line. I still believe that the price of oil will be back above $100 per barrel before we see $60 again.

The rising price of copper continues to be a good indicator of growing worldwide economic strength. And while I believe much of this increase is due to activity in China, it's still positive. As with any commodity, there will be a period of consolidation or correction ahead, but the current trend is very bullish. And like silver, there is very little discussion in the press about this upward trend.

The financial sector, as represented by the XLF, has been in a holding period for almost half a year. The XLF been unable to break through a major resistance level at $16. And now it is trading dangerously close to its 50-day moving average, which is ominously converging with the 200-day average. Should the 50-day move below the 200-day, it will be time to bail from the financial sector. The past year has been the best possible scenario for banks: they pay nothing on deposits yet lend at 5% of so, making tons of money on the spread. If interest rates rise, this spread will invariably tighten, ending this perfect money-making environment. I think the banking industry is heading toward very rough waters again.

The housing market has also been treading water for the past half year. Remember, housing is clearly linked to the labor markets, interest rates and the overall economy. It wouldn't take much to knock housing back down. The first danger sign would be if the index falls below the 50-day moving average or the rising trend line. Like the financials, I think the housing market is headed for more problems.

Foreign markets, as represented by the MSCI EAFE index, are looking a bit troubled as they have traded sideways since October. The index is basically sitting on the 50-day moving average and the trend line. I drop below 55 could be dangerous.

Like the developed markets, the Chinese market has traded sideways for a couple of months and is now actually trading below the 50-day moving average and is basically resting on the trend line. RSI has also fallen below 50. There could be a problem here.

The Baltic Dry Index has been on a wild roller coaster with huge swings up and down. Based on the chart I would bet that we're due for another jump up, possibly to as high as 5,000.

The NYSE Bullish Percent Index represents the percentage of stocks listed on the NYSE that signal a buy. Contrarians would argue that the extreme levels of exuberance noted in the chart suggest a bearish indicator because there is little room left to the upside. This chart looks neither overly bullish or bearish to me. But with RSI highly overbought, I wouldn't be surprised to see this head down, which suggests a market pullback might be coming.

Finally, we can take a quick look at the volatility index, also known as the "investor fear gauge". Clearly there is very little fear in the market right now. Indeed, investors may be a bit too complacent. This could be a contrary indicator for an upcoming pullback in the market.

Fearless Forecasts - Looking Back and Looking Ahead

Each year in the January newsletter I make a number of predictions about the stock market, the domestic economy and maybe a new trend. I also use this opportunity to review the accuracy, or lack thereof, of my Fearless Forecasts from the prior year. I hedged last years predictions a bit by saying it was going to be a particularly challenging economic environment. That turned out to be a huge understatement. So let's see how I did.

  1. I'm going to go out on a limb and predict the Dow will be marginally higher by the end of the year, but not until we get through a very difficult first half. I'm going to call for a 5% rise, bringing the Dow to around 9,200. The good news is that this proved to be my worst prediction. I was right about difficult first half, during which the Dow fell by 3.75%. But I was wrong about how much the Dow would recover. By year-end, the Dow surged to finish at 10,428.27, up 18.82% for the year.

  2. The Federal Reserve target rate will remain between 0% and 0.25% for most of the year, possibly rising no higher than 0.5% by the end of the year. The recession will last the entire year, but will the economy will be "better" in the second half. I nailed this one. The Fed Funds rate remained at 0.25% for the entire year. Regardless of the blatherings of the government, the recession lasted the entire year, although things clearly improved in the second half.

  3. I think 10-year Treasury yields will remain between 2.0% and 3.0% for most of the year as the Fed works to keep rates low. It is possible that they could fall briefly below 2% in the first quarter during the worst of the economic news before rallying higher. I had the right idea here but I was off by a little. Treasury yields bottomed in January at about 2.2% before rising to over 3% in May, after which they remained between 3% and 4% for the rest of the year. In December, the yield reached 3.9%.

  4. The dollar is a bit of a mystery because, left to its own devices, it should drop like a stone. It is being held aloft by being "relatively" better than other currencies. And that relative strength could prop it even higher, moving the dollar index above 90 and bringing it closer to parity with the Euro. Sooner or later though, but maybe not in 2009, the dollar will fall, and fall hard. The dollar index peaked at 89.6 in March during the Crash. It subsequently fell for most of the rest of the year, before bottoming at 74.23 in early December. It finished the year around 78. I think most observers would describe that as a pretty hard fall.

  5. The price of oil will go no lower than $30 per barrel early this year during the worst of the economic news. Then I expect it to strengthen and again trade over $75, perhaps even getting close to $100 per barrel as demand soars and supplies remain tight. The price of West Texas crude fell to $37 per barrel in February, rose quickly to a high of $82 in October before finishing the year around $80.

  6. The price of gold will likely rise above $1,000 per ounce. As the federal deficit soars to $2 trillion or more, it's possible to see the price spike as high as $1,500. Prices will average better than $950 per ounce for the year. There will be the inevitable profit-taking and consolidations, but the general trend will remain upward. The price of gold hit a low of $801.50 in January before soaring to $1,226 an ounce by December. The price has remained above $1,000 since October.

  7. I still don't think we've reached the bottom of the housing mess. Prices will have to fall at least another 10%, the inventory of homes for sale must decline and mortgage rates will have to remain around 5% to bring buyers back into the marketplace. We are simply not there yet. The market isn't likely to improve before 2010. According to Case-Schiller, the national average for home prices bottomed in April. According to the National Association of Realtors, existing home prices remained flat all year while the number of units sold dropped 4.3%. According to the Census Bureau, prices for new homes fell 4.4% and units sold fell 33%. Inventories of home for sale have dropped considerably.

  8. Finally, GDP will likely be negative for all of 2009, although it will improve in the second half. The trade gap will shrink even further as imports evaporate. The federal deficit (cash basis) will exceed $2 trillion for fiscal 2009 (ended September 30). The unemployment rate will rise to 9%, with my Comprehensive Labor Index™ rising above 20%. The story of the year will be the hundreds of billions squandered by ill-conceived bailouts and failed stimulus plans. I nailed these. GDP was horrible in the first half before recovering in the second half, thanks in large part to massive government intervention. The trade gap shrunk a bit. The federal deficit surpassed $1.4 trillion. Unemployment peaked at 10.2% before closing the year at 10%. My CLI remains well above 20%. I think most average citizens would argue that the bailouts and stimulus programs have been a failure, and the resultant anger is about to reshape our government.

All things considered, I think my forecasts were amazingly accurate last year. Not bad for someone with no training in economics. Or maybe that's the point. Anyway, I can't rest on my laurels. It's a new year, which means a new set of Fearless Forecasts. So without further ado, here we go:

  1. As much as it pains me to do this, I'm going to forecast a full year decline on the Dow Jones Industrial Average. I think we'll likely have a solid first half, maybe even be in the red through the third quarter. But I believe we're headed towards trouble in 2011 and I expect the market to begin to discount those future problems. I never get the percentage gains or loss correct, but put me down for a loss of 7%, bringing the Dow to about 9,700.

  2. I don't think the Fed will have the courage, or the political will, to increase rates this year in any meaningful way. So I'm going to call for Fed Funds to remain at 0.25% for most of the year, and be capped at 0.50%.

  3. It's much tougher to predict the yield on the 10-year Treasury because market forces would suggest higher rates, but the Fed will fight that tooth and nail. I think the yield will trade in a range of 3.50% to 4.50% for the majority of the year. If there is to be a variance, I expect it to be on the upside during the first half of the year.

  4. Ah the dollar; everyone's favorite whipping boy. I think we will see a bit of a rally in the dollar in the first half of the year, perhaps taking the dollar index to as high as 85 or so. Then I think the dollar will continue its inevitable slide. That drop will take it back down to around 70 or so.

  5. I feel a little more confident predicting that oil will resume its upward trajectory. This will, of course, not happen in a straight line. I think the price of West Texas Crude will go no lower than $70, and maybe no lower than $75 per barrel. I'll call $95 as the high, but I wouldn't be surprised if it broke above $100 during the summer.

  6. I think the price of gold will exceed $1,500 per ounce sometime in 2010, probably toward the end of the year. I don't think the price will fall below $1,000 this year. I also think the price of silver will exceed $20 per ounce.

  7. I expect the housing market make incremental gains in the first half of the year. The number of units sold will have a modest increase, maybe 5% or so, while prices stay relatively flat as foreclosures and delinquent homes continue to flood the market but the number of homes for sale falls to a sustainable level. Any future gains are dependent on low interest rates. If rates go up, there will be no joy in real estate. Towards the end of the year, unfortunately, I think the entire housing sector will roll over when the next wave of adjustable mortgages come due for refinancing.

  8. I expect high yield debt and emerging markets to trail the broad market averages as these sectors, which led the market in 2009, revert back to the mean. Technology will also struggle this year as large cap value will take the lead this year.

  9. I think GDP growth for the 4th quarter of 2009 through the 3rd quarter of 2010 will be in the neighborhood of 2.0% to 3.0%, which isn't too bad, but which continues to be artificially inflated by government intervention. The trade gap will likely remain somewhat flat for the year, or increase slightly as economic conditions appear to improve. Unemployment will hang around 10% for the first part of the year before falling no lower than 9%. The U-6 measure for unemployment, a more accurate gauge of the true unemployment situation, will range from 15% to 17%.

  10. Finally, the big stories of the year will be the Republicans taking back Congress as the electorate revolts against the incumbents, the end of the health care bill in its current form, and a huge public outcry over tax increases in 2011 for the entire country, not just the "rich".

What I'm Thinking and Doing

This is getting to be a broken record, because for the past few months, little has changed on the economic front. Parts of the economy, like housing, banking and manufacturing, continue to make incremental, but measurable improvements. Other areas, like unemployment, the federal deficit and consumer sentiment, remain stubbornly weak. I believe the most immediate problems are unemployment and the federal deficit. These twin problems, when added to the other unfunded liabilities of the government, like social security and Medicare, could wreck havoc on our very tenuous economic recovery. Any hint of interest rate increases could cripple the retail sector and the housing market, which would in turn damage the fragile banking recovery and corporate profits. Our trading partners (read: China) are increasingly upset about the losses being taken on their foreign currency holdings as the dollar depreciates. At some point they are going to demand better returns on those holdings in the form of higher interest rates. If that happens, see above. On the plus side, corporate profits and dividend payouts are improving. And I think the mid-term elections, which are going to go strongly to the Republicans, will keep the President and Congress from doing too many stupid things. I look forward to the upcoming cries of "throw the bums out"!

For now, I still believe the tailwinds are behind us. As I said earlier, I think the first half, or more, of the year will likely produce gains in the overall market, so I want to be invested in equities, specifically my core sectors.

Personal News and Notes

All I can say about 2009 is good riddance to bad rubbish. I couldn't be happier to turn the page on that difficult year. It's time for a new outlook, with new mojo, for a new decade. After illness and injury, my body is mending and I'm back in the pool, putting in 5,000 yard workouts. I also finally shaved off my beard. After six weeks I was looking a little too rugged.

I had a good time in Aruba over Thanksgiving where it's always sunny and 90. I could get used to that. I took the kids to Florida over the Christmas break to visit my father. While we were down there I got to visit with a high school classmate that I hadn't seen in 27 years. Then a week later I returned to Florida to attend the 3rd Annual Inside ETF conference, at which I spoke on a panel about Leveraged and Inverse ETFs. While I was there I managed to visit with more high school friends and a business school friend, all of whom I had re-connected with through Facebook. Now I'm already dreaming about getting out of the cold in New York again sometime in February or March. Any suggestions?

Speaking of Facebook, for those of you so inclined, you can friend me on Facebook, connect with me on LinkedIn, or follow me on Twitter. I've been using these three sites because I'm actively seeking to make new business connections as well as maintain contact with friends old and new. So please look for me out in Cyberspace, and ask your colleagues, friends and family members to do the same.

That's it for this month. I thank you, my readers, and remind you that this newsletter is for you. If you have any thoughts or suggestions on how to make it better, please let me know. And if you'd like to speak with me about your investment needs, I'd be pleased to be of service. Simply give me a call or drop me an email.

Best regards,

Greg Werlinich

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