Worries over a global double dip recession roared back into the picture on Tuesday and volatility quickly returned.

Market Stats Table

After a week off from worry over Europe the news came back to haunt us today. President Obama was rebuffed by German Chancellor Angela Merkel when he asked her to hold off on implementing austerity programs. She said no and embarked on the largest austerity program on record for Germany. The U.S. administration is concerned the current wave of austerity in Europe will push the global economy into a double dip recession. President Obama is not having a good week.

Japan said it was going to double its sales tax in an effort to pay down debt. China raised the requirements for buying a second home to 50% down payment. The U.K. raised its VAT by 2.5% and capital gains tax from 18% to 28%. With Europe and Asia rushing into debt reduction mode to avoid another debt crisis like we saw in Greece the odds are good we are going to see a double dip.

Our own economics appear to have rolled over and are heading down at an accelerating pace. We saw the Philly Fed Survey on Thursday drop to 8.0 from 21.4 for June. This was a major drop and put the index at the lowest level since August. The employment index turned negative for the first time since November.

Philly Fed Survey

Friday's Weekly Leading Index fell again for the sixth consecutive week and has declined for 10 of the last 11 weeks. The smoothed six-month growth rate is now projected at -5.7% from -3.7% just a week ago. This is the sharpest decline since the WLI began declining into the recession in 2007. The WLI is projecting a double dip.

Weekly Leading Index Chart

On Tuesday the Chain Store Sales declined for the second week with a -0.5% drop. The ICSC reported that customer traffic had fallen below last year's levels especially at department stores. Walgreens reported earnings on Tuesday and said same store sales had been slowing for the last two months. Walgreens is not a high dollar store and a slowdown in sales there should be an indicator of general consumer sentiment.

The Richmond Fed Manufacturing Survey for June fell by three points to 23 and the second monthly decline since the current cycle high at 30.0 in April. Backorders fell to three from 16 and new orders fell to 25 from 36.

Richmond Fed Chart

Existing home sales for May declined to 5.66 million annualized units. That was less than the 5.77 million pace in April and well below the consensus estimates for 6.15 million. The homebuyer tax credit appears to have had far less impact on the pace of sales than previously thought. The northeast region saw an -18% decline in sales to lead the nation. The west was the only area with a material increase at +4.9%. Listings declined by -4% leading to a minor drop in months of supply to 8.3 from 8.4.

This report does not count sales until they close and many tax credit deals are in jeopardy because buyers are having trouble closing. The banks are not moving fast enough on short sales and as many as 73% of homes contracted in April are still not closed. The Senate has passed an amendment to extend the closing date from June 30th to September 30th but the bill they attached it to is stuck in debate and is not expected to pass before the deadline.

The bill, the "American Jobs and Closing Tax Loopholes Act" has become a pork laden Christmas tree where every lawmaker hung their own ornaments of pet projects they wanted to pass. Now it has gotten so big they can't get enough votes to pass it in the present form. Even is the Senate does approve the bill it will have to go back to the House for another vote with all the pork attached. Odds are not good for a passage before the June 30th deadline but pork-laden bills almost always get passed eventually. Everybody wants to get their pet projects approved so they eventually vote for the bill despite the dozens of pet projects attached by everyone else.

Home sales will continue to decline as the summer progresses and so will home prices. Reportedly there are 5.5 million "sidelined sellers" waiting for the market to recover before they will list their homes. These sellers are expected to lose patience and begin listing next spring. This could double the number of homes on the market and further decrease prices.

On Wednesday the new home sales report for May will be released. The expectations are for a decline to 420,000 from 504,000.

The big economic event on Wednesday is the FOMC announcement at 2:15 PM. Absolutely nobody is expecting the Fed to make any changes. Bernanke is on record as saying there is no reason to raise rates in the months ahead and the sharp declines in recent economic reports confirm that belief. The odds are good the FOMC will keep the "exceptionally low…for an extended period" phrase for the eighth consecutive meeting. The key will be the Fed's outlook in the announcement. If they change the wording in some way to indicate the economy is slowing then the market could react negatively.

In the last announcement the FOMC said the "labor market is beginning to improve." That was an upgrade from the prior statement that the "labor market was stabilizing." With jobless claims rising, they were 472,000 last Thursday, and nonfarm payrolls expected to drop as much as -200,000 next week they will probably be forced to change that outlook. Obviously the FOMC statement tomorrow is full of potential minefields for the market.

After the bell today Adobe (ADBE) posted earnings of 28-cents. This was better than the 24-cents earned in the comparison quarter. Adjusted earnings were 44-cents compared to analyst estimates of 42-cents. Adobe guided inline with analyst estimates and shares declined slightly in afterhours to $30.85 before rebounding. Adobe said it would buyback $1.6 billion of its shares by November 2012.

Adobe Chart

We are about two weeks away from the start of the Q2 earnings cycle and worries are beginning to surface over guidance. The warning cycle was not particularly active although there were some notable events. However, analysts fear the guidance with earnings is going to slow dramatically as economic conditions weaken and Q3/Q4 comparisons become harder. The economy was rebounding in Q3/Q4 of 2009 and companies were lean, mean profit machines after having cut expenses to the bone. As the cycle progressed many companies added employees and relaxed their cost cutting in anticipation of a continued rebound. If sales are slowing again those increased expenses are going to be a drag on earnings. This earnings cycle may be a turning point for profits.

Banks are likely to guide lower because of the new financial reform package winding its way to passage. Barney Frank was pressing to get it passed this week so the president could take it to the G20 meeting next weekend. I don't know if Barney wanted president Obama to sit on the 1,000-page bill for additional height or to use it as a shield to deflect the barbed comments being thrown at him from other G20 members. On a side note, why does every new bill turn out longer than a Kevin Costner movie?

Analyst Richard Bove said the bill in its current form will be very bad for banks and he predicts it will be repealed or significantly modified within two years. Bove said the unintended costs will be massive and could cost the banks $200 billion. For instance PNC Financial will lose more than $150 million a year because of new limits on debit card overdrafts alone. The banks will eventually find other ways to pass the costs on to consumers but not in the first year. Other proposed laws will prevent banks from hedging against loan losses by purchasing swaps and other derivative instruments.

According to Bove lawmakers don't realize that banks barely breakeven on large corporate loans and they have to hedge the risk. Bove said this will raise costs for banks and force them to either quit lending or downsize loan limits significantly. This will force corporations to borrow from banks in Europe and Asia and boost the cost of credit and slow growth. Expect banks to guide lower if the financial reform bill passes.

As I said earlier president Obama is having a bad week. The German Chancellor rebuffed his request to delay the German austerity program. The president's budget director, Peter Orszag, announced today he was leaving in July. There was rampant speculation last weekend that Obama's Chief of Staff Rahm Emanuel would be leaving the team soon. Emanuel downplayed the rumors but their credibility is growing. There are also rumors that Council of Economic Advisers Chairman Christina Romer is also on the way out. White House Economic Advisor Larry Summers is also slipping from power after Tim Geithner and former Fed Chairman Paul Volcker gained stature on the Obama team over the last year.

Lastly a Federal judge blocked the president's six-month moratorium on drilling today. The case was brought by Hornbeck Offshore Services (HOS) but was joined by more than a dozen other companies in an attempt to get the moratorium cancelled. Many gulf coast officials like the governor of Louisiana also gave their support to the drillers in attempting to get the ban overturned. The judge issued a restraining order that at least temporarily cancelled the ban while the case was argued in the court. The judge challenged the immense scope of the moratorium. He said the firms would likely succeed in showing the moratorium was "arbitrary and capricious." The White House said they would immediately appear the restraining order in a higher court.

The Interior Department said despite the ruling the firms still had to meet new safety and environmental rules before they could resume operations. Louisiana's governor said the state stood to lose $3 billion in revenue over the life of the moratorium. He said the impact of the lost revenue would be worse than the impact of the oil spill. Reportedly the 35,000 direct workers related to the drilling halt earn $330 million a month in wages. The governor estimates that another 150,000 people on the coast depend on the oil industry for all or part of their income. It is estimated that the moratorium could cost the gulf states as much as $25 billion in lost commerce and wages. Secondly, every day of delay in bringing new wells online costs the states 32% of each barrel of oil that is delayed. That is the royalty portion received by the states. Pushing several hundred thousands of barrels of daily production out until 2011-2012 or even farther if the rigs move out of the gulf will cause revenue pain for the rest of the decade.

Over 19,000 deepwater wells have been drilled with only one major blowout. That is an excellent safety record. The one blowout was caused by a sequence of bad decisions by BP managers and not because of a problem with deepwater drilling as a business. The moratorium was a political statement made to appear in control of the disaster. Now there is so much water under the bridge defending that statement the administration can't back down or be seen as weak. It is a lose-lose situation for the administration, the gulf states and the drillers. The drillers rallied sharply on the news of the restraining order but crashed back to earth after the administration said it would appeal the ruling and ask for a stay in the order while the ruling was appealed.

There is a story just breaking this week that has not been truly explored yet. President Obama has pledged $2 billion as a loan to Petrobras to help them fund their deepwater drilling off the coast of Brazil. Petrobras is a government owned oil company but it does have shares that are traded on the NYSE under the symbol (PBR). The loan could grow to as much as $10 billion and will be made though the U.S. Export-Import Bank. Petrobras has made the largest oil discovery in the last 30 years in 10,000 feet of water a couple hundred miles off the coast of Brazil. They estimate it will cost them $300 billion to develop the find and they could be producing one-million barrels per day by 2020. The problem is the $300 billion development cost. They have been hitting up everyone in North and South America for loans to fund the development.

So why is the cash strapped U.S. agreeing to loan up to $10 billion to a government owned deepwater driller in South America? Bloomberg is reporting that George Soros, a major contributor to the democratic party, is a major investor in Petrobras with as much as $900 million invested and much of it just before the announcement about the U.S. loan. The Internet conspiracy theorists are digging for answers but so far it is just speculation. My question is simpler. Why is the U.S. funding drilling programs for other nations while it is throwing up roadblocks for U.S. drillers and threatening to raise taxes on oil? There has got to be more to this story and the Soros connection may have a bearing.

Where were you 35-years ago. Odds are good you were reconsidering your summer plans to visit a beach. This is the 35th anniversary of the movie Jaws. The movie grossed $470 million, a record at the time. Adjusted for inflation that would be $1.9 billion today. Even though it was just a movie people were scared to go into the water for the rest of the summer. Some are still afraid today. The movie put the term "Were gonna need a bigger boat" into the social lexicon where it will likely remain for decades to come.

Need a bigger boat clip

The market is going to need a bigger reason to move higher. The breakout has failed and the S&P closed back under the 200-day average and under 1100. This is not a good sign. The two-week rebound off the lows appears to be failing. The S&P spiked to 1131 on Monday and then plunged to close on the 200-day support at 1110. Tuesday's opening rally barely reached 1118 before falling back to rest on the 200-day until just before the close. Once that 200-day average was broken again the drop accelerated to close at 1095. That is a -36 point drop in the S&P from the Monday highs. This is not a bullish sign.

The market had been pricing in a double dip until a sudden flurry of good news about China's imports and Brazil's 9% GDP. That euphoria lasted about two weeks as analysts rethought their outlooks. After a week of questionable economic reports the verdict is in. The double dip possibility is back on the table and the markets are pricing in the risk.

The U.S. auctioned off $40 billion in two-year notes today. The yield was 0.73% and the lowest yield EVER seen in a two-year auction. The bid to cover was 3.45 and well over the 10 auction average of 3.01. After the auction the yield fell to close at 0.697%. This is a clear indication investors are worried about the future. How many people would want to tie up a lot of big money for two years for less than .75% in return? Evidently quite a few and that is troubling.

The S&P began weakening after the auction because institutional traders understand the implications of the debt sale. I know bonds and treasuries make most stock traders crazy because yields trade inversely with price and few stock traders understand the relationship between bonds, stocks and the market. However, some events like today's auction are so clear that the big money has to start taking defensive positions like raising cash.

I told everyone two weeks ago I believed the markets were going to try and make a breakout but I did not expect it to last. I confess I did expect it to last longer than a week but the return of the European worries and the return of economic concerns were too much for the market to bear. Add in a FOMC meeting and we have a perfect storm brewing. The best thing we could see this week would be a strong statement from the FOMC about the recovering economy. While I doubt that will happen it would help. Given the current economic conditions the Fed will probably try to craft the best statement possible without actually lying to us.

The S&P closed under multiple levels of support and has no technical reason for a Wednesday rebound. The rally is over technically and the fundamentals are not much help. With the close under 1100 I have reverted back to a bearish bias. Resistance is now 1100, 1110, 1120 and support is well below at 1050.

S&P-500 Chart

The Dow chart is not much better than the S&P. The resistance at 10500 held and the 200-day support failed. However, support at 10275 held at least for today. If that level fails we would retest the lows.

Dow Chart

The Nasdaq was positive for most of the day but collapsed with the chip stocks after lunch. The chips imploded knocking -10 points off the Semiconductor Index after noon. Apple was the only major gainer at +3.68 and only three other Nasdaq stocks gained more than a buck. Those were LNCR, HAYN and SQQQ. The second quarter is not normally good for tech earnings and summer tends to be choppy for the Nasdaq. There is no real reason to be buying techs today despite the great long-term prospects. The chip sector is expected to be very robust for the next two years but we still have to get past the summer doldrums. Next support is 2250 followed by 2225.

Nasdaq Chart

The Transports dropped nearly 4% today and -252 points since its high at 4514 on Monday. The possibility of a double dip is taking a toll on transport expectations.

Dow Transports Chart

As I said earlier I have reverted to a bearish bias with the S&P close under 1100. I am sure there will be volatility around the 2:15 Fed announcement but I doubt it will result in a lasting rally. The risks for the market are to the downside today.

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