T'was the Friday before Christmas and all through the markets not a creature was stirring not even a mouse.

Weekly Statistics

Friday Statistics

Friday should have been a market holiday. Volume was minimal at 4.01 billion shares, down from the 7.6 billion average. The indexes started negative as the few remaining traders closed their positions and headed out for the holiday. The S&P traded in a very narrow 4-point range until just before the close when a minor uptick appeared to increase that range to 5 points. The Dow traded a narrow 28-point range until that final tick higher. The uptick at the close was probably short covering and positioning for Tuesday. The first trading day after Christmas is normally bullish and sometimes quite bullish.

Once the minor amount of economic news was over it was a very quiet day. The New Home Sales for November rose from an annualized rate of 563,000 to 592,000 and beat estimates for 575,000. That is a rise of 16.5% from November 2015. The Midwest region was the strongest with a 43.8% spike while the South was the only area that saw sales decline at -3.1%. The Northeast was flat and the West rose 7.7%.

The average price for a newly listed home was $250,000, up +1.6% from October. The median sales price was $305,400, a +0.9% gain.


Consumer sentiment for December rose from the initial reading of 98.0 to 98.2 and the highest level since January 2004. The internals keep improving with the number of respondents saying the economy will be better over the next year rising from 46% to 51% in just the last month. The present conditions component rose from 107.3 to 111.9 and the expectations component rose from 85.2 to 89.5.

Fewer people expect to lose their jobs and more people said they believe jobs are plentiful. Nearly two-thirds of respondents said their household finances have improved over the last several years and nearly half said they improved over the last year. Business owners who feel economic conditions are now favorable rose 11% to 42%. More than 79% of respondents feel like this is a good time to make a major purchase.

The post election honeymoon phase is about to come to a close. Once Trump takes office and his promises begin to bog down in Congress, the outlook by consumers will fade. Longer term the outlook will remain positive but the initial honeymoon bliss will fade with the arrival of reality.


One of those points of reality will be the GDP. Earlier in the week, the last revsion on the Q3 GDP came in at +3.5% growth. Trump has been talking about 4% to 5% growth. He may be able to generate that 2-3 years from now but the Atlanta Fed is only projecting 2.5% growth for Q4. When the actual Q4 GDP number is announced on January 27th, it could be a wake-up call for overly bullish investors. The economy is improving but not at the rate currently priced into the market.



The only important report for next week is the Richmond Fed Manufacturing Survey. The rest are just filler as the calendar year comes to a close.


In stock news, Deutsche Bank (DB) agreed to a $7.2 billion settlement with the U.S. Justice Dept over the sale of mortgage backed securities during the financial crisis. The starting price was $14 billion so the settlement represented nearly a 50% savings. The agreement is expected to be finalized in early January. This is just one of multiple problems facing Deutsche Bank. There is an ongoing probe for alleged manipulation of foreign exchange rates, another on a violation of sanctions with Iran and another for suspicious equities trades in Russia. Shares of DB are recovering after trading down to $11 in September.


Lockheed Martin (LMT) shares lost $3.20 after Trump said he asked Boeing to come up with a replacement for the F-35 fighter because of enormous cost overruns. Trump requested Boeing price out an equivalent F-18 fighter as an alternative to the F-35. Lockheed has nothing to worry about. Comparing the 5th generation F-35 to the 4th generation F-18 is comparing apples to oranges. The F-35 is a stealth fighter that relies on its invisibility to get close to opponents before they know they are there. It is a "penetrating" aircraft that can sneak behind a country's defenses. The F-18 is a great plane but it is a top of the line traditional fighter that does not have stealth capability. When matched against the new generations of Chinese and Russian stealth aircraft it would be a tough fight. In a recent exercise, a group of four F-35 planes entered a test range to practice evading ground to air missiles. The planes were so stealthy they were forced to turn on their transponders so the antiaircraft missile batteries could see them even though the ground controllers knew they were there.

The key is the price on the F-35 at roughly $120 million each today. Lockheed said it expected to drive down the price to $85 million by 2020 as volume production increased. More than 5,000 are expected to be built for the U.S. and 11 of its close allies. The U.S. will have 2,616 F-22s and F-35s when the final contracts are completed. I would be a dip buyer on Lockheed in January.


Portola Pharmaceuticals (PTLA) spiked 33% after they announced positive results for the oral drug anticoagulant betrixaban over the injectable drug Lovenox from Sanofi. The FDA and EMA sent an official acceptance notice to Portola along with a promise for a priority review. This drug is in the same class as the blockbuster $3.5 billion a year drugs Eliquis from Pfizer and Xarelto from JNJ.


Tesla (TSLA) rolled out an upgraded Autopilot system with a lot of new safety features and the stock gained $5 to a new three month high. The new features force speed limits on undivided roads but still allow up to 90 mph on divided highways. The Autopilot requires hands on the wheel when moving at medium to fast speeds. If the car senses the driver removing their hands more than three times in one hour the Autosteer feature will disconnect and will not resume unless the driver stops the car and restarts it. At speeds less than 8 mph drivers do not have to touch the wheel. They also revealed an Easter egg hidden in the Model X OS that will set off a light show to the tunes of Wizards in Winter by the Trans-Siberian Orchestra. There are other eggs that transport the user into a "Mars" experience. There is a new OS due out next week that will enable the car to go from 0-60 in 2.4 seconds. If you order a new Tesla by the end of December, Tesla will include free supercharging.


Amazon (AMZN) continues to dominate the holiday shopping season and I really mean dominate. Retail Metrics surveyed online purchases and said shoppers are transacting purchases from mobile devices in record numbers. Adobe Digital said Black Friday and Cyber Monday both saw more than $3 billion in online sales and "virtually every day since has been $1 billion or more."

Slice Intelligence surveyed 1.7 million online shopping receipts from Nov 1st through December 16th and found that Amazon was killing everyone else. Amazon raked in a 36.9% share of sales. Best Buy was number two at 3.9% so Amazon was selling 10 times what Best Buy was selling. Target was number three at 2.9%, Walmart at 2.7% and Macy's at 2.5%.

CNBC Chart

If you put off shopping for some items until after Christmas, now is the time. I had about a dozen items in an Amazon "saved for later list" and over the last week, prices for some of them have fallen more than 30%. The buying rush is over and the prices are dropping fast.

The winner in the package delivery business this season is the Post Office. At my house, we shop for a lot of kids, spouses, grand kids, nieces and nephews. As an Amazon Prime member with free shipping, my wife takes advantage of that to order several dozen $3, $5, $10 items for the kids. Last year UPS delivered at my house nearly every single day from Thanksgiving through Christmas Eve. This year, UPS only came once. The USPS came nearly every day and FedEx came about twice a week. The difference was amazing. I asked my UPS driver when he showed up this week if he was seeing the same pattern on everyone else. His truck was still full but it was mostly larger, heavier packages. There were very few of the small junk size packages. He was pleased saying he was actually getting done at a decent time every day instead of working late into the night.

For investors that suggests a potential problem. With UPS shipping fewer packages but those packages having a higher average weight, did that increase profits or decrease profits? UPS was expecting to ship between 700-750 million packages and FDX 350-400 million.

Also, a problem is the Amazon cargo service. Amazon is now operating 40 "Prime Air" cargo jets on daily runs from shipping centers to regional distribution centers. They still use UPS, FedEx and USPS for the last mile delivery but they are taking away the long haul business from those delivery services. Also, they are carrying the larger, lighter boxes on the planes to avoid the move by UPS and FDX to charge by volume instead of weight. A case of paper towels does not weight much but it takes up a lot of space so those services charge more. By carrying the lighter packages, there is also less wear and tear on the planes. FlightAware said analysis of cargo, capacity and landing data from four airports showed that Prime Air planes were carrying between 37% to 52% of their maximum loads by weight.

Analysts were upgrading FedEx last week and keeping UPS at a hold in some instances. Several analysts had tried to determine what impacts this was having on revenue for UPS and FDX but were unsuccessful. They did decide from the research that Amazon was going to need a lot more planes as they grow past the current learning curve and expand their flight base to more than the 10 cities they are currently serving. Analysts believe the investments that weighed on earnings will help FDX in 2017.

FedEx missed on earnings last week and fell $10 from its recent highs. UPS does not report earnings until January 31st. They are expected to report $1.68 per share.



While most stocks and indexes were dormant on Friday, the biotech stocks were surging. The Biotech Index ($BTK) rose +2.3% on no specific news. There were some positive drugs results throughout the week but the index closed at two-week lows on Thursday. That may be the reason for the rebound. Investors are probably looking for something that has already sold off in hopes the trend will reverse and biotechs rise in January. The Biotech ETF (XBI) rallied 3.5%.


Crude prices continue to hover in the $52-$53 range while we wait for any potential OPEC production cuts to occur in January. Libya announced the reopening of the pipelines from the Sharara and El Feel fields and their intention to add 270,000 bpd to production over the next three months. Libya and Nigeria are exempt from production cuts. U.S. inventories rose +2.5 million barrels and that was unexpected. Inventories do not normally rise in December because refiners have to pay taxes on the oil in inventory on December 31st. Imports rose +1.11 million bpd last week to 8.47 mbpd and that was a nine-week high.

Refiners are trying to push as much refined product into the system as possible with 21.41 mbpd supplied last week. That was a multi-month high. Refinery utilization rose to 91.5% and that was also a post summer high showing they were running as fast as possible to turn the oil into refined products and pushed into the pipelines.

Also weighing on future prices was the government decision to sell 190 million barrels from the Strategic Petroleum Reserve starting in January. This was part of a budget deal where lawmakers agreed to sell the oil to pay for some budget expenses.


Producers activated another 16 rigs with 13 new oil rigs and 3 new gas rigs. The offshore activity also increased by 3 rigs to 25. The higher OPEC pushes prices, the faster U.S. producers are going to activate rigs.



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Markets

High-frequency trading accounted for 57% of the December average trading volume of about 7.56 billion shares. That means on average only 3.63 billion shares were traded by retail and institutional traders every day. The peak for high-frequency trading came in 2009 when about 61% of the 9.8 billion share daily average was computers or 5.98 billion shares per day.

Overall trading volumes have slowed significantly as baby boomers drift out of the market and younger workers never got into the investing marketplace. Active mutual funds have declined to about 4,500 and less than half of their prior peak. Retail investing has shifted in a large part away from day trading or swing trading and back into a buy and hold mentality because the market has moved mostly higher for the last seven years. The current economic expansion is the third longest in history and on its way to be the second longest. Recessions have not been legislated away but investors have forgotten their regularity. More than likely, there will be one in the first four years of the Trump administration.

At the same time there are analysts calling for Dow 23,000 to 24,000 in the next couple of years. Since Dow 23K is only a 15% rally from here that is easily obtainable. The next major milestone we will face is Dow 25K or 25% from our current location.

Analysts are rapidly updating their 2017 forecasts in light of the recent rally. These are the highest estimates on the street today.

2,300 Bank of America
2,350 Credit Suisse
2,400 JPMorgan
2,400 Barclays
2,424 Piper Jaffray
2,500 RBC Capital Markets

If any of those targets come true, buying some January 2018 SPY calls on a dip to 2,200 on the S&P could be a profitable trade. Unfortunately, they are expensive.

The S&P closed at 2,263 and my target for a January decline is 2,190 to 2,200. We are likely to get another bump higher early this week but then a fade into Friday on the pension fund rebalance. January could be a challenge but there are a lot of buyers waiting for the dip. I do believe we will trade significantly higher in 2017 but not without a pause for profit taking ahead of the inauguration.

The S&P traded flat all day but spiked from 2,261 in the last several minutes of trading. This was more than likely short covering ahead of an expected rally on Tuesday.


The Dow traded negative most of the day on Friday but spiked 17 points in the last several minutes of trading to end with a 15-point gain. UnitedHealth was the motivating factor and the only stock to move more than $1 for the day.

I expect the 20,000 level to be hit on Tuesday. The animal spirits tend to run on the first trading day after Christmas. That could easily be a sell the news event because of the pension fund rebalance later in the week. (See the Random Thoughts section)



The Nasdaq has been moving sideways in a tight range for two weeks with short term support at 5,425. The index is more than likely going to break support at 5,400 and has risk to 5,240. All of the FANG stocks were negative on Friday until right at the close when NFLX rebounded slightly to close with a penny gain.



The Russell posted two large declines on Wed/Thr and only a minor rebound on Friday. A break of short-term support at 1,355 could quickly drop to 1,310 and even fall below 1,300. The small caps have the biggest risk because of their limited liquidity. If funds need to exit in a hurry, the volatility can be significant.


Despite the market holding near its recent highs, Lipper said investors pulled $21.6 billion out of equity funds over the last week. This was the 41st consecutive week of fund outflows from stock mutual funds. Even ETFs saw fund outflows as investors positioned their portfolios for the coming tax bill.

I expect a positive market on Tuesday and a negative market on Thr/Fri as pensions funds rebalance and short sellers position themselves for a potential January decline. Investors that have been holding off on selling for tax reasons will be free to liquidate. Funds that have been holding on to gains waiting for 2016 to end, will be free to sell. Investors worried about a potential terrorist event surrounding the inauguration will also be moving to cash. If there is an early January rally, it will be one of the most unexpected events in recent memory.

I do expect any correction to be limited because there are so many people waiting for a buying opportunity. We will be buying any dip in anticipation of a Feb/Mar rally.

I would refrain from being overly long into year-end and I would definitely keep my stop losses in place.

 



 

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Random Thoughts


When the market did not self-destruct last week, the bearish investors started to gravitate back to neutral. Bullish investors remain undeterred but nobody joined them. This survey ended on Wednesday.

Last week results


Pension Fund Rebalance

When bonds or equities suddenly surge an abnormal amount in a given quarter the pension funds typically rebalance their fund ratios at the end of the quarter because they are required to maintain certain ratios in the fund. With the market up very strongly since the election and bonds down an equal amount there is going to be a "near record" rebalance at the end of December.

Reuters surveyed 45 fund managers and CIOs and found that equity holdings rose to six-month highs as a result of the post election rally. Credit Suisse warned this imbalance could result in $38 billion in equity sales by month end and possibly as much as $58 billion.

Since the election, the value of global stocks has risen by about $3 trillion and bonds/treasuries have declined by a similar amount. Pension funds have strict asset allocation quotas and this sudden imbalance has to be corrected at the end of the quarter. Credit Suisse said pension funds could buy $22 billion in bonds as they take profits in equities. source


Another reason the U.S. markets are primed to move higher in 2017 is the capital flight out of the Eurozone. According to the Wall Street Journal, investors have withdrawn $550 billion from Europe in 2016 and the largest amount of capital outflows since the Eurozone was created 17 years ago. Investors are fleeing negative yields and the uncertainty of Brexit and the potential for other countries to follow Britain's lead. This has driven the Euro lower to near parity with the dollar and reduces Europe's buying power. Add in the banking crisis in Italy and a populist revolt against multiple European governments and that makes the U.S. a safe harbor for European investors. Most of that money has already been put to work in the U.S. but there are continued outflows from Europe that will boost the U.S. markets in 2017.


 

Enter passively and exit aggressively!

Jim Brown

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"The market does not trade upon what everybody knows, but upon what those with the best information can foresee."

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