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Market Wrap

Bulls At the Mall, Not In the Markets

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It appears the bulls took the week off and headed for the shopping malls rather than spend money in the markets. The lack of buyers has allowed the indexes to fall back to support and I fear the next two weeks could be very rocky.

Market Stats Table
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Tuesday was all about economics because there was a serious lack of news on the stock front. The final reading on the Q3 GDP was unchanged at -0.51% and not really a shock to anyone. The initial reading on the fourth quarter will be the shocker but that won't happen until the end of January. Current estimates are for a drop of -5.5%. Q2 is not anticipated to be as bad but current estimates are slipping lower. For 2008-Q3 the biggest hit to GDP came from consumer spending which subtracted 3 full points from GDP. Fixed investment subtracted another full point. Ironically, residential investment, the black hole in the economy, only subtracted a half a point from the Q3 number. Government growth added a full point and under the Obama administration we can expect that number to spike dramatically over the next two years. Corporate profits fell -$18.5 billion from Q2 to Q3 after falling -$60 billion in Q2.

The final reading on the December Consumer Sentiment rose one point to 60.1 and the highest level since September. Improvements in the current conditions assessment was credited with the gain. Respondents continue to point to falling gasoline prices as prime reason for improving emotions. Despite the improvement the sentiment is still -15 points below the Dec-2007 levels. November was the lowest level since May 1980 so a minor bounce in December is still not a bullish event. Analysts expect job losses to continue with unemployment rising as high as 8.5% in 2009. This high unemployment rate will eventually drag on sentiment as will holiday bills once the decorations are put back into storage and the lights taken down. Holiday cheer, even when conditions are bleak, tends to push sentiment higher. Once that cheer goes as flat as a day old coke the bounce in sentiment fades.

Consumer Sentiment Chart
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Existing Home Sales for November fell to 4.49 million units on an annualized basis. This was a -8.6% drop and a new low for this cycle. The inventory of homes for sale spiked to 11.2 months of supply from the 10.3 months in October. Single-family sales fell -8% and condos dropped -13%. This was the most since the National Association of Realtors began keeping records in 1999. Home prices were down -13.2% nationwide from the prior November and a new record for price reductions.

National Association of Realtors Chart
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Sales of new homes fell another 3% in November to 407,000 annualized units. This is the lowest level since Jan-1991. Months of inventory dropped only slightly from 11.8 to 11.5 months. Median sales prices are down -12%. The October sales numbers were revised down by -3%. Sales are off -35% year over year and inventories are down -26%. Builders are being forced to discount prices to compete and avoid paying the carrying charges for existing inventory. Falling prices on existing homes are pressuring prices on new homes and there are some real bargains available from builders if you are willing to shop in the cold of winter.

New Home Sales Chart
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The Richmond Fed Manufacturing Survey imploded for December to -55 from November's -38. This is the lowest level since the series began back in 1993. Shipments fell to -55 from -31, new orders fell to -66 from -48 and order backlogs fell to -59 from -45. The shipments and new orders components were new historic lows. Lack of financing for buyers was reported as the major blow to the supply chain. This is an extremely ugly picture for the economy and potential preview for future reports from other Fed regions.

Richmond Fed Manufacturing Survey Chart
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On the stock front American Express and CIT Group were in the news with approval to receive $5.72 billion from the TARP fund. Both companies converted into bank holding companies in order to qualify for TARP funds. AXP received approval for $3.39 billion and CIT $2.33 billion. In another press release the Treasury Dept said it provided $4.7 billion to 92 other banks from the TARP funds. Treasury released a list of 49 banks that received $2.8 billion last Friday and another 43 banks were approved today. Those names will not be released until next Monday. None of the banks will say how they are going to use the money according to an AP survey of 21 banks that actually responded to the request. House Financial Services Committee Chairman Barney Frank said he is preparing legislation to require the money to be spent for specific purposes when/if the second half of the $700 billion is released in January. The bill would require banks to report on their new lending every quarter and put limits on executive compensation. One avenue being recommended to relieve the mortgage mess is to convert mortgages to 40 years to reduce payments or reduce the principal and add a silent second lien (no payments) to recover that principal reduction when the home is eventually sold.

Cerberus Capital, the 80% owner of Chrysler, is suspending withdrawals from its fund for a year after receiving requests for withdrawals for 16.5% of its capital on Dec-31st. Cerberus has or had $27 billion in assets under management. It is tough to know what any fund has today given the declines in assets and strong redemptions. One fund, Cerberus Partners, was down -15.8% for the year as of Nov-30th with the bulk of those losses in Oct/Nov. The government just announced it was loaning Chrysler $4 billion last Friday. When asked why Cerberus did not put up the money the company claimed it would not be in the best interest of the fund to put additional money into Chrysler. Buyout firm TPG had received pledges of some $20 billion to the private equity firm this year. Many investors were trying to cancel those pledges and TPG was forced to offer a 10% pledge reduction to anyone who requested it. Private equity firm Blackstone Group (BX) said it planned to liquidate two funds due to lack of funds and tight credit markets. Hedge Fund Research said the average U.S. fund lost -17.7% in the first 11 months of 2008, the worst ever performance.

The Bernie Madoff scandal took a turn for the worse on Tuesday when a hedge fund executive who invested with Madoff was found dead in an apparent suicide. Thierry de la Villehuchet, 65, a co-founder of money management firm Access International, was found dead in his office from an apparent suicide. The man had invested $1.4 billion of client's money with Madoff as well as a substantial portion of his own funds. He reportedly had been searching night and day since the scandal broke for some way to recover the funds. Reportedly he could not bear the blame that surfaced once the scandal was discovered. This is the first suicide attributed to Madoff but there have been several others recently that were attributed to the market.

Numerous readers emailed me today asking about the sharp drop in various ETFs. The ProFunds group, including ProShares, are the 4th largest ETF provider offering 76 short and leveraged ETFs and 115 mutual funds. They are required to distribute substantially all of their ETF income and capital gains to shareholders no less than annually. Long funds report those distributions as dividends, which are taxed at the 15% capital gains rate. Short funds do not have that capability and the profits are distributed to shareholders in the form of a regular distribution and those funds are taxable as regular income. The ex-date on the short ETFs was today. Anyone selling shares yesterday would have received the full price and no taxable distribution. Anyone buying the shares tomorrow would pay the current price after the distribution. The distribution is going to be huge in many of these short ETFs since they have been highly profitable. Since many people have been long the short ETFs for many months today's drop was particularly disturbing as the ETFs went ex-distribution. For instance the SIJ ETF gapped down -47 points to $61.50. Other major drops included TLL -32, TWM -22, SZK -16, SSG -38, SMN -26, SKK -39, SJL -52, SDK -47, SDP -27, SCC -31, SBB -31, DDG -24. Investors waking up to these declines were shocked to say the least. Fund managers notify investors of the impending distribution so investors can bail in advance. Evidently many investors did not read their notices. You did not lose the money but you will receive a distribution that is fully taxable for the amount of the drop.

Gasoline futures dropped to 82-cents per gallon intraday and a new five-year low. At the same time MasterCard's spending pulse survey showed that gasoline demand rose +3% over the last week. Refining margins are now the worst in 2008 and have been negative for much of the last two months. The February crude oil prices declined to just below $38 intraday as they continue to equalize from the drop in the expiring January contract on Friday to $33.87. Much of that drop was expiration pressure leaving the February contract $10 higher. The drop from Friday's $42 close in the February futures is just the equalization of that price imbalance. The December 2009 contract is still trading at $52.

The Dow has closed down 4 of the last 5 days and is on the verge of breaking critical support at 8400. Future support at 8200 and again at 8000 may not be far behind. The uptrend in the Dow from the November lows has broken. The rising redemptions in funds and the potential for redemptions once we escape the 2008-tax year is weighing heavily on the market. The normal holiday bullishness is absent and volume is extremely low. Volume today was only 6.2 billion shares across all markets and Wednesday will be even worse. Internals are weak, volume is weak and negative news flow is high. This is not a good sign. Traders are losing confidence in the November bounce and in mutual funds in general. So many funds are now admitting investments with Madoff that investor confidence is slowly eroding.

Dow Chart
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The Nasdaq is only slightly less bearish than the Dow. The same uptrend channel has broken but only slightly. There are still some tech buyers hitting the dips but their numbers are dropping rapidly. I believe we are going to retest 1400 unless something dramatic happens quickly.

Nasdaq Chart
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The S&P-500 is very close to breaking critical support at 860 and the next stop could be 820 on the way to 750. There is nothing bullish about this chart and a break of 850-860 would turn it completely bearish. We could easily see a retest of 750 over the next two weeks.

S&P-500 Chart
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The Russell 2000 has not yet broken its recent uptrend but is moving precariously close. To call this chart bullish would be in error but there is still hope compared to the other indexes. However, it will only take one strongly down day and a break below 450 to change the picture completely.

Russell Chart
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I wish I could tell you Santa was coming to the market bringing a sleigh packed full of rising stock prices and gifts for every good investor. Unfortunately I can't make that prediction. Today we heard Congress was in closed session as a man with a white beard and red suit was pleading for a bailout of immense proportions. Even with the rating agencies coming down on him for not applying a stricter criteria for rating who was naughty and who was nice the man said there was not enough toys to spread around. He was heard to say, "I am not the Treasury Department or the Fed. I can't print my own money". Paulson, Bernanke, Bush and Obama were consulted and while nobody will confirm it an agreement was reached. As the man ran from the chamber he was heard to say "Merry Christmas to all and to all a good night!"


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