Current Market Analysis

As we are now in the Dog Days of Summer, and many of my readers are off enjoying some well-deserved vacation time, I'm going to shorten the newsletter this month by dispensing with most, if not all, of the charts in Trends to Watch. Instead, I'll simply and quickly note some of the keys trends currently in place, then return to the charts in September.

It's been over five months since the stock market hit the March bottom. We subsequently had a powerful and widespread rally that had many observers calling an end to the recession and the Bear Market, and proclaiming this to be a new Bull Market. This, in turn, was followed by a significant pullback, during which the naysayers proudly declared "we told you so; this was just a bull rally in a Bear Market." Then, another powerful rally ensued, taking the major averages to new intermediate highs as the Bears were forced to cover their short positions. The next decline only lasted a couple of days before rallying again to new intermediate highs as I write this. If we close today at the current levels, the market will again have confirmed a Dow Theory bull market.

I still believe the jury is out on whether we've really escaped the Bear Market. The longer we hold above the March low the better I'll feel. We are clearly still in a recession, regardless of the nonsense spouted by the "Green Shoot" theorists. That being said, things are certainly less bad than they were a few months ago. I'm convinced we are not out of the woods yet, and the dual problems of rising unemployment and massive federal deficits could eventually derail any economic and stock market recovery. I'm not all Doom and Gloom though. I think the summer rally could extend the stock market gains all the way into the fall as the short-term trends remain very bullish.

Shortly after I wrote to you last month, the stock market achieved the Dow Theory confirmation that I was waiting for when on July 23 the Industrials and Transports both hit intermediate highs on the same day. Since then, these two averages have reached concurrent highs six more times (August 13 was the most recent), serving further confirmation of this bullish signal. Then we had another big selloff before today's rally. So what is all of this action telling us? It tells us that the short-term trend is definitely up. What this DOES NOT tell us is whether this is a cyclical (short-term) or secular (long-term) rally. I believe it is cyclical because there is just too many problems in the economy to suggest that we're headed back to Dow 14,000 from here. Remember, it is not incongruous to have multiple strong rallies while the Bear is still in charge.

So what do the charts tell us now, after the latest Dow Theory confirmation? Well, as we can see below RSI (relative strength) become oversold, then the market sold off a bit after the big breakout before a big rally today. The Head and Shoulders formation (in red) is still positive. As long as the index remains above the blue line of resistance, the bull should remain in charge. Keep a watch on 9,398.19; that's the last closing high for the industrials. For the bull to continue, that level will have to be surpassed, which will likely happen today.

The chart of the Transportation average continues to mirror the action of the Industrial average. RSI became slightly oversold during the breakout to new highs. The Head and Shoulders remains bullish. Again, the index must remain above the blue resistance and will eventually have to break above 3,774.12, it's recent closing high. This may happen today. If it does not, and the Industrials hit a new high, this will be a non-confirmation, which could be problematic.

Over the past few months, the yield on the 10-year treasury has surged from 3% to 4%, fallen back to about 3.25%, moved back up to almost 3.9%, and now has fallen again back to about 3.45%. That is quite a bit of volatility. So much for that fallacy that investing in bonds is "safe". Watch for yields to remain in the 3% - 4% range for the remainder of the year before heading inevitably higher.

Last Month's Results

• According to the Department of Labor, the most recent figure for seasonally-adjusted initial jobless claims for the week ended August 8 was 558,000. The four-week average has declined to 565,000. The seasonally adjusted number of continuing claims for unemployment is 6.2 million. That's a lot of people collecting unemployment insurance.
• Non-farm payroll employment improved in July, falling by "only" 247,000 versus a revised 433,000 in June. Average hourly wages inched up to $18.56, while the average work week moved to 33.1 hours, so real wages continue to stagnate.
• The number of workers reported in July as unemployed fell to 14.5 million, lowering the unemployment rate to 9.4%. The seasonally adjusted number of people who could only find part-time work fell to 8.8 million and the number of marginally attached workers held at 2.3 million. The number of people holding multiple jobs rose to 7.28 million. My Comprehensive Labor Index™, which is much more representative of the real unemployment situation, fell to 19.47%. I still expect the CLI™ to be around 20% later this year.
• The Congressional Budget Office (CBO) estimates that on a net present value basis, the Treasury will report a federal budget deficit of $1.3 trillion for the first ten months of fiscal year 2009 as the July deficit of $181 billion was $79 billion worse than last year. TARP payments, as well as support for Fannie Mae and Freddie Mac were partly responsible for the increased deficit.
• The Census Bureau reported that the U.S. trade deficit in June was basically unchanged at $27.0 billion, up from $26.0 billion in May. About 68% of this deficit is with China. This is going to be a major problem in the non-too-distant future.
• The Census Bureau reported that privately owned housing starts rose 3.6% in June following a huge 17.3% rise in May, but was still down 46.0% from a year ago, to a seasonally adjusted annual rate of 582,000 units. New building permits were up 8.7% from last month but were still down 52% from last year. The general lack of new construction will ultimately help clear out the inventory of homes for sale.
• The National Association of Homebuilders/Wells Fargo Confidence Index rose in July from 15 to 17; it's highest level in almost a year.
• The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in June rose 11% from the prior month, but were still down 21.3% from the same period last year, to 384,000 units. The estimate of homes for sale is down to 281,000, which represents smaller 8.8 months at the current rate of sales. The median sales price fell to $206,200, which was below the 12-month moving average price of $217,608. The significant reduction in average sales price suggests more distressed or foreclosed sales.
• The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes in June rose 3.6%, the third straight month of sales increases. Sales were basically the same as a year ago, at a projected 4.89 million units. The estimate of homes for sale, at 3.8 million, represents 9.4 months of supply at the current rate of sales. The median sales price rose to $181,800, almost exactly the same as the 12-month average of $181,083.
• 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, inched up to 151.00 in May, the first increase in three years.
• According to RealtyTrac, foreclosures increased by 7.1% in July to 360,149, and remained 32% higher than a year ago. "July marks the third time in the last five months where we've seen a new record set for foreclosure activity," noted James J. Saccacio, CEO of RealtyTrac. Nevada, California and Arizona reported the highest foreclosure rates in the country while California, Florida and Arizona had the highest actual number of foreclosures.
• The Institute for Supply Management (ISM) index of manufacturing activity increased to 48.9 in July, continuing the general uptrend in place so far this year. Still, this was the nineteenth straight month in which the manufacturing sector failed to grow. The good news is that New Orders are growing and the trend is moving in the right direction; a number over 40 suggests the recession may be weakening. A number over 50 suggests manufacturing growth. The ISM index of non-manufacturing activity was a slightly lower 46.4.
• The Federal Reserve reported that industrial production increased 0.5% in July after a small decline in June. This was the first monthly increase in about a year and a half. Manufacturing capacity utilization increased slightly in the month to 68.5%, a level 12.4 percentage points below its average for 1972-2008. Prior to the current recession, the low over the history of this series, which begins in 1967, was 70.9% in December 1982. So there is still a long way to go.
• The Conference Board reported that it's index of Leading Economic Indicators rose by 0.7% in June, the third increase in a row. Most of the components of the index gained sharply.
• According to the Bureau of Economic Analysis, the "advance" estimate of GDP growth in the second quarter was -1.0%, much better than the decline of 5.7% in Q1 and 6.3% in Q4 '08. The hope is that worst of the recession is now behind us. We could have a rebound this year, only to slip back into a recession next year.
• The Federal Reserve reported that in June the amount of outstanding consumer credit fell by an annualized rate of 4.8% from the prior month, to $2,502 billion. That means that consumer credit has declined in nine of the last eleven months. That's good for consumers, bad for the economy.
• According to the Census Bureau, retail trade and food service sales decreased 0.1% in July. This contradicts the improvement shown in June.
• The Federal Reserve reported in that in June the increase in the supply of M-2 was only 3.2% in the prior three months, while the supply of M-1 rose by 15.3% in the same period. In the prior six months, the rates of increase were 2.7% and 9.9%, respectively. The overall rate of monetary expansion appears to be slowing somewhat.
• The Conference Board Consumer Confidence Index fell in July, for the second straight month, to 46.6, largely thanks to a poor job market. This surprised analysts and caused the market to drop.
• According to the BEA, disposable personal income continued to fall in June, causing the personal savings rate to fall from 6.4% to 4.6% in April.

In the interests of brevity this month, I'm just going to summarize some of the key trends without going through all of the charts. During the big rally, both the financial and housing sectors moved through resistance to new highs. I believe this is simply a matter of a rising tide lifting all boats, and short-covering, rather than a sign that either of these struggling sectors are out of the woods yet. The price of West Texas Crude zoomed back above $70 in wild trading before briefly settling back under $70. As I write this, the price has roared back to almost $75 today. The price of gold continues to consolidate in the mid-$900's, rather than falling back below $900 an ounce. This relative strength is heartening to long-term bulls like myself. Copper prices, like those of other base materials, continue to rise, thanks mostly to demand from China. Speaking of China, after an amazing run, their market is taking a little breather right now. This should come as no surprise; as we have learned, nothing goes straight up. Trading volatility, as measured by the VIX, continues to drain out of the market and return to normal trading levels. And finally, the one gloomy trend to keep your eye on is the dollar, which continues to fall back towards to abyss. This is potentially very damaging to the future financial stability of this country.

What I'm Thinking and Doing

Personal News and Notes

Greg Werlinich
President

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