Current Market Analysis

We are in the midst of a very nice rally right now, with the Dow Jones Industrial Average rising about 850 points, or about 8.5%, from the late August low. We've broken above significant resistance levels (see below) and there is a little bit of optimism about the economy. Personally, I believe a lot of the better feelings in the country that have translated into the market are due to the spill in the Gulf being capped. That was such a disaster, and coverage of it was so gloomy and so all-encompassing, that now that the well has been "killed" people can focus on the slightly better, and improving (albeit slowly) economy. I wrote in July that "it would be very constructive if the market could rise above 10,600 without falling to a new low. If so, a floor may have been set. If not, 9,400 could be the next support level." Well, the market has indeed broken above both 10,600 and 10,700.

I have been writing for months that more than anything else we need the employment picture to improve and until that happens, there can't be any meaningful, broad-based, economic recovery. With job growth would come improvements in housing, retail and banking. Well, recently, as I'll describe below, there have been subtle indications that the employment picture may indeed be improving. If so, it is hugely bullish for the overall market going forward.

So what do the charts tell us now? The chart of the Industrial average has broken above two resistance levels and is taking aim at the next one, which is around 10,900. The big one though is around 11,258. If that level can be surpassed, then we could be in for a really huge rally. Also bullish is that the Industrial index is now trading above both moving averages. It will be additionally bullish if the 50-day average can rise back above the 200-day average. I don't expect the next big move to happen without a pullback, but things look pretty good right now.

The Transportation average is about 13 points below its August high, so it has not yet confirmed the new high set by the Industrial Average. But it has moved higher than both moving averages. Look for a move above 4,524 in the next few days to confirm the strength of the overall market.

From May '09 to June '10 the yield on the 10-year treasury traded between 3% and 4%. Each attempt to break out above the range failed. Then as the market turned negative in the second quarter, and investors fled stocks for Treasuries, the yield started to fall, culminating with an unbelievably low yield of 2.4% last month, coinciding with the low of the stock market. As the market has rallied, treasuries have sold off somewhat, and the yield is headed back towards 3%.

Last Month's Results

• According to the Department of Labor, the figure for seasonally-adjusted initial jobless claims for the week ended September 18 was 465,000, an increase of 15,000 from the prior week's revised figure. The four-week average was 463,250. This was the first increase in five weeks. The actual, unadjusted, initial claims were much lower: 379,369. Overall, while not great, there is some room for optimism.
• Non-farm payroll employment fell by 54,000 in August, as 114,000 temporary workers hired for the census were let go. 67,000 private sector jobs were actually added. Total job losses in June and July were revised lower. Things actually look to be improving. Average hourly wages for blue collar workers were up slightly to $19.08, and the average work week inched up to 33.5 hours.
• In August, the total number of workers counted as unemployed increased to 14.9 million as more people attempted to rejoin the labor market. Therefore, the unemployment rate increased to 9.6% from 9.5%. The more comprehensive U-6 rate was 16.4%, down from 16.5%. 6.2 million people continued to be unemployed longer than 27 weeks, a drop of over 300,000. The seasonally adjusted number of people who could only find part-time work rose to 8.9 million and the number of marginally attached workers fell to 2.4 million. The number of people holding multiple jobs fell to 6.5 million. Overall, the employment picture is poor, but improving slightly.
• The Congressional Budget Office (CBO) estimated that on a net present value basis, the Treasury reported a federal budget deficit of $95 billion in August, leaving us with a deficit of about $1.3 trillion for the first eleven months of fiscal 2010, which is $100 billion less than the record shortfall from 2009. Tax revenues are up while expenditures are down. That's a step in the right direction.
• The Census Bureau reported that the U.S. had a trade deficit of $42.8 billion in July. The trade gap has remained relatively stable for a while, and while modest deficit doesn't worry me very much, it is beginning to trend larger again.
• The Census Bureau reported that privately owned housing starts increased 1.7% in July after an 8.7% drop in June, and was still 7.0% lower than a year ago, to a seasonally adjusted annual rate of 546000 units. New building permits were down 3.1% from last month and 3.7% from last year. Housing remains very weak.
• The National Association of Homebuilders/Wells Fargo Confidence Index dropped 1 point in August, to 13, and stayed there in September, holding at the lowest level since March '09. This suggests prolonged weakness in the housing sector going forward.
• The Census Bureau reported that on a seasonally adjusted annualized basis, sales of new homes in July dropped 12.5% from the prior month, and were down 32.4% from the same period last year, to a meager 276,000 units. The estimate of homes for sale was 210,000, which represents 9.1 months at the current rate of sales. The median sales price was a low $204,000, which is below the 12-month moving average price of $217,683, thanks to short sales and distressed sales.
• The National Association of Realtors reported that on a seasonally adjusted annualized basis, sales of existing homes increased 7.6%, after plunging 27.0% in July, and were still 19% lower than a year ago, to a projected 4.13 million units. The estimate of homes for sale, at 3.98 million represents whopping 11.6 months of supply at the current rate of sales. The median sales price fell to $178,600, which is slightly higher than the 12-month average of $173,225. The expiration of the first-time home buyers credit killed home sales. The program was a waste.
• The S&P/Case-Shiller Home Price Index (10-city index), which uses a three-month moving average to track the value of home prices across the US, has increased incrementally in each of the past three months, through June. While prices have rebounded a bit since the crisis lows, they will likely be negatively impacted by the expiration of the tax credit.
• According to RealtyTrac, the number of foreclosures in August increased 4.2% from July, and were 5.0% less than a year ago. “The trend lines of decreasing default notices and increasing bank repossessions converged in August, with virtually the same number of new default notices and bank repossessions for the month — a clear indication that the clogged foreclosure pipeline is being carefully managed on both ends by lenders and servicers. On the front end, seriously delinquent loans are rolling into foreclosure at an unusually slow rate, while on the back end the dammed-up inventory of properties already in foreclosure is moving to REO in steady stream rather than a flood — presumably to prevent further erosion of home prices.”
• The Institute for Supply Management (ISM) index of manufacturing activity was 56.3 in August. This marked the fifteenth month in a row in which the manufacturing sector expanded. The ISM index of non-manufacturing activity was 51.5, down from July, but still marking growth in the service sector for ten consecutive months.
• The Federal Reserve reported that capacity utilization in the industrial sector increased in August for the fourteenth straight month, to 74.7%. Capacity utilization is now 4.7% higher than a year ago and only 5.9% below the average level of the period from 1972 through 2008. The industrial sector continues to lead the economic recovery.
• The Conference Board reported that it's index of Leading Economic Indicators increased by 0.3% in August, following an 0.1% increase in July and a decrease of 0.3% in June. "While the recession officially ended in June 2009, the recent pace of growth has been disappointingly slow, fueling concern that the economic recovery could fade and the U.S. could slide back into recession. However, latest data from the U.S. LEI suggest little change in economic conditions over the next few months. Expect more of the same – a weak economy with little forward momentum through 2010 and early 2011."
• According to the Bureau of Economic Analysis, the "second" estimate of GDP growth in the second quarter was a lethargic 1.6%, lower than the "advance" estimate of 2.4%, and lower still than the first growth of 3.7%. Overall economic growth is clearly decelerating.
• The Federal Reserve reported that in July the amount of outstanding consumer credit decreased at an annualized rate of 1.75% from the prior month, to $2.419 trillion. This continues the trend of decreases in the use of consumer credit that has been in place for more than a year and a half.
• According to the Census Bureau, retail trade and food service sales increased 0.4% in August, and were 3.6% higher than a year ago. This was mildly disappointing to the market, which was hoping in vain for more robust numbers. I believe that until the employment numbers show some sustained growth, retail sales will continue to lag.
• The Federal Reserve reported in that in August the supply of M-2 increased slightly from the prior month and was up only 2.5% during the prior six months. The supply of M-1, on the other hand, rose a slightly faster 3.6% over the same six months. It appears that the rate of monetary expansion may again be increasing, albeit slightly. The problem is that this money is not circulating through the economy quickly enough.
• The Conference Board Consumer Confidence Index increased 2.0 points to 53.5 in August, but still has a ways to go. Consumers remain concerned about the job market and their near term financial situation.
• According to the BEA, he personal savings rate in August fell to 5.9% from 6.2% in July. This is still much higher than it has been in recent years. I would expect this rate to drop in September as the stock market has rallied.
• According to the FDIC, 125 banks have failed so far this year, through September 17. It's very likely that the failures in 2010 will eclipse the mark of 140 banks that were either closed or merged into healthier banks in 2009. By comparison, 26 failed in 2008 and only 3 failed in 2007.

  Trends To Watch

  In July I wrote that since "everyone is betting against the Euro...I expect the dollar to take a breather sometime soon and confound the herd." And that's exactly what has happened. After a 19.5% increase over six months, the dollar now is dropping hard and fast, breaking below resistance around 82. While I don't expect the dollar to roll over and plunge back to historic lows just yet, it could go a little lower. The next resistance level will be around 78.

  

  After taking a breather over the summer, the bull market in gold has resumed with a vengeance. The price of the yellow metal has broken above the resistance at $1,265 and soared to a new all time high (unadjusted for inflation) of about $1,295/oz. I wrote in July that "any price under $1,200/oz is an opportunity as I believe the next target for gold will be $1,300." I hope you took advantage of that advice because $1,300 could occur any day.

  

  While gold is getting all the headlines, silver continues to do equally well. Indeed, after consolidating for most of 2010, the price of silver has also moved to a new high of about $21/oz. In July I wrote that "I look for silver to move above $20 per ounce before year-end." Well that didn't take too long. The question now is will silver rise to $25/oz? I will likely be a buyer if the price falls below $19/oz during the next pullback.

  

  The price is copper has moved to the top end of the trading range, and has moved above both moving averages. Equally important from a technical perspective is that the 50-day average has moved higher than the 200-day average. All of this suggests that the price of copper could be moving higher, which is bullish for mining and industrial stocks.

• 

  At around $75/barrel, West Texas Crude it is now trading fractionally below both moving averages and at roughly the midpoint of the most recent trading range (below in purple). $70 or so is a pretty strong support level and $84 is a solid resistance level. Let's see what happens next.

  

  The financial sector has returned to the trading range in place for the better part of the last year and a half. The current price is roughly in line with both of its moving averages. I have been negative on the financial sector since the Lehman failure in '08, and there is nothing going on now to dissuade me from that stance.

  

  If you read any of the statistics that I reported above on the housing sector, it shouldn't surprise you that the housing sector isn't doing very well. What surprises me is that it's not doing even worse. With the index trading near the bottom of the range, and the 200-day average well above the 50-day average, the technical picture is as gloomy as the fundamental outlook.

  

  The European market has not only stabilized, but seems to be trending back to health after the Euro crisis from the summer. Support at around 46 has held, the price is trading above both moving averages and the 50-day looks to try to overtake the 200-day average. Look for resistance around 57-58. I don't believe the crisis is over by any means, but for now, things look more sanguine.

  

  The health of the Chinese economy, and by proxy, it's stock market, is very important to the world's economy as they buy much of the world's output of raw materials and produce most of the goods sold to the world. The Shanghai Composite, while better recently, is still not in great shape. The moving averages have crossed and the index is below both. This is all very bearish. Should the Chinese market roll over and violate support below 2,400 it would be very ominous and have very negative implications for the global economy. There looks to be resistance around 2,800 on the upside. So there is your range; pay attention.

  

  The Baltic Dry Index tracks the Shanghai Composite very closely. Based on the trading patterns from the past year, you would expect the BDI to next head lower, after the bounce from a highly oversold position that I called in the July letter.

  

  The NYSE Bullish Percent Index represents the percentage of stocks listed on the NYSE that signal a buy. Contrarians would argue that extreme levels of exuberance is a bearish indicator, and vice-versa. After the very strong rally from the last month, it's to be expected that RSI is close to oversold levels. This would suggest a sell off, or at the very least, a period of consolidation to allow some of the exuberance to wear off.

  

  As I predicted back in July, the VIX has returned to the middle of it's "normal" trading range. Barring unexpectedly bad economic or political news, or very bad q3 earnings, I would expect the VIX to remain relatively quiescent for the rest of the year.

  

  What I'm Thinking and Doing

  Investors who did not panic during the spring sell off or the two summer swoons are now being rewarded by a move back into equities. Corrections are normal parts of the stock market cycle. I wrote last time that the market would likely consolidate somewhere between resistance at 10,600 and support at 9,600. It did that and has now broken to the upside. The technicals right now look better. Corporate profits, by and large, are growing and companies are increasing their dividends. We could be in for a very nice rally. And while we will certainly have another correction along the way, I think the market is poised to go higher.

  I made very few changes to my portfolios over the summer. I was content to sit with my core holdings, collect my dividends, and wait for a better sense of the near term direction of the market. I may use this rally to sell a couple of my weaker holdings on an up tick and redirect those funds to stronger positions. I'm also going to start looking at the gains/losses so far this year to make sure my clients pay little to no taxes next year.

  Personal News and Notes

  Well, summer is officially over, which makes me very sad. The good news is that we're having a very pleasant Indian summer in the NY area right now, and the weather is beautiful. The Jewish holidays are over and the kids are back to school full time after their fantastic summer adventures. Nola is now in 10th grade, Lily is in 7th and Ezra is in 5th. They all seem to right back in the groove. And Lily is about to start the Bar/Bat Mitzvah circuit, with her own coming in May. My baby girl is growing up.

  I had a really nice summer, culminating with super fun vacation in West Virginia and the Outer Banks of NC. I have to admit, I am sad to see summer go. I am SO not ready for the cold weather. I will have to go find the sun a few times throughout the winter.