Since the end of August the Dow has risen +460 points and appears poised to move higher in stark contrast to September's reputation as a bearish month.
Is the double dip dead? Based on the stock market action in September you would think those analysts warning about a double dip have been regulated to the dustbin of history. However, although we have seen some slightly better economics it may be too early to be calling for Dow 12,000.
The only material economic report on Friday was the Wholesale Inventories for July. Inventories surged +1.3% and three times what analysts had expected. June's number was revised higher to +0.3%. Sales in July rose +0.6% after declining -0.5% in June. The headline number was the largest gain in two years. Analysts said the reversal into strong inventory accumulation mode suggested rebounding sentiment among wholesalers and a positive boost to Q3 GDP.
Personally I think the inventory accumulation surge started earlier in the year and this is not something that just occurred last month. You don't increase inventories of farm equipment overnight. Wholesalers can't call up John Deere and say give me 20 green harvesters, and 20 cultivators and a dozen each of these other models. It takes time to build them, ship them and a lot of paperwork to finance them. You would also want them to show up on your lot just before harvest time instead of early in the year so they can sit there and rust for six months before the buyers need them. They were probably ordered in the spring when the economy was thought to be rebounding strongly and they just arrived in July when this survey was being done. I could be wrong about this but I try to make sense out of the numbers and cycles rather than just report them.
Overall this was a skinny week for economic reports with the Beige Book the only major event. However, we did see a sharp drop in new Jobless Claims of -21,000 to 451,000 and the lowest level since July 10th. My personal view is that newly unemployed workers probably put off filing for unemployment last week because of Labor Day. "Gee Martha, I think I will wait until after the holidays to file so I can have a few days off before I am forced to start job hunting in order to get benefits." If I am right then we will see a spike in new claims over the next two weeks. If claims don't spike then we have a new trend developing and something to be bullish about.
There are still more than 10 million people receiving unemployment insurance payments and several million more whose benefits have expired. To say claims falling by 21,000 is bullish would be stretching it but even a journey of 1,000 miles starts with a few steps.
Next week's calendar has a few more events but none that are really strong market movers. The Retail Sales will be scrutinized for evidence of consumer spending trends for the back to school shopping season in August. If there was less weakness than analysts expected then it could be bullish.
The Philly Fed Survey on Thursday is the first of the major regional manufacturing reports and is seen as a preview of the rest. Analysts are expecting a major rebound from last months -7.7 reading. Consumer Sentiment on Friday is going to be a tough one to call. The survey period covered the end of August market decline and that is normally negative for sentiment. It also covered the period where analysts were talking double dip every day. It was also back to school season and that boosts sentiment so it will be tough to make a guess on the sentiment number.
There were a lot of stocks in the news on Friday including two separate pipeline problems. In San Bruno California, Pacific Gas and Electric (PCG) had a 60-yr old natural gas pipeline explode and nearly wipe a subdivision off the map. The fire was contained on Friday but the area was still too hot for firefighters to begin exploring in the 38 burned homes for bodies. There are four confirmed fatalities and more than 50 people with injuries. PG&E said the damage and claims would probably exceed its $992 million in insurance coverage.
Enbridge (EEP, ENB) reported another pipeline leak in Romeoville Illinois and was forced to shutdown a 670,000 bpd pipeline that supplies several Midwest refineries. The pipeline was leaking several hundred barrels an hour and had to be shutdown. The oil had bubbled to the surface and was flowing down a city street. Because the pipeline is deep underground and now soaked in thousands of barrels of oil Enbridge could not begin digging until late Friday.
Enbridge said it could be several days before the leak is fixed and the pipeline reopened. This caused the price of the front month contract of oil to shoot up on worries of a localized crude shortage. This pipeline also supplies Cushing OK and the delivery point for crude futures. I suspect this is a weekend challenge and reasonable thinking will return on Monday along with a decline in crude prices. Enbridge shares declined fractionally.
Crude Oil Chart
The Semiconductor Index was knocked for a loss on Friday after Texas Instruments (TXN) and National Semi (NSM) both lowered their forecasts on Thursday. Silicon Labs (SLAB) warned on Wednesday. Texas Instruments reduced their top end estimates but remained in the range analysts were expecting. After a steep intraday loss shares recovered to end flat.
National Semi had a more downbeat forecast. The NSM CEO said, "We'd all like to believe that consumer spending is onward and upward but I don't think it is." Both companies said weak demand for personal computers was a problem and consumers were not spending the big bucks on other electronics purchases. Ron Slamaker of TXN said consumers appear to be buying fewer TVs this quarter.
This corresponds with a new survey from Isupply. The company said there was a glut of LCD-TVs in Q2 with 36% excess inventory, up from 25% in Q1. This is pushing prices down at an accelerated rate. Prices are already down -24% in 2010 compared to a -30% drop in all of 2009. Another analyst said the deflation in prices would probably continue through this holiday season as retailers dumped inventory where technology was changing monthly.
This weekly bad news in the chip sector is holding back the Nasdaq but the damage could be worse. The SOX is still holding above a 10-month low set in August, but just barely.
Maybe things will improve for chips next week when Intel hosts its developer conference in San Francisco. Intel is expected to shed some light on some new products and that could help chip sentiment.
Dell was downgraded to underweight by Morgan Stanley because of slowing PC sales and increasing competition in the server market. Analyst Katy Huberty set a price target on Dell shares at $11. They closed Friday at $12.06. Dell said its Q3 business slowed because of weaker back to school sales.
LULU, not the frizzy haired kid in the comics but Lululemon Athletica, reported Q2 profits that double last year's quarter and raised its forecast. Earnings of 30-cents compared to only 13-cents last year and revenue rose +56%. Same store sales rose +31%. LULU raised its full year guidance to $1.18-$1.22 from $1.05-$1.10. These are the kinds of metrics traders want to see in an earnings report. LULU shares rallied +13% to $40.53.
Transocean Offshore (RIG) rallied +3.52 on multiple news items. Transocean said it was appealing the Swiss regulatory body ruling on its proposed $1 billion dividend. The Swiss agency turned them down last quarter because of the uncertainty about potential liability in the oil spill.
Secondly BP's new CEO, Bob Dudley, was quoted by Bank of America as saying BP would not be going after Transocean and Halliburton because their contracts indemnified them against damages even due to gross negligence. If you think about the risk here that may be a good plan for BP. If they sue Transocean and Halliburton then those companies will try to prove gross negligence on the part of BP and drag every tiny detail out into the light of day.
If Transocean and/or Halliburton won their case against BP then the government would immediately tack on another $17 billion penalty against BP. Even if BP won against Transocean and Halliburton they could only get $3-$5 billion in expenses minus the monster legal bills and months of being dragged through the court system with all the dirty laundry being aired. Giving Transocean and Halliburton a free pass or maybe settling out of court for a billion each gives BP the high ground and no dirty laundry for the government to see. This story making the rounds on Friday was responsible for the big gains. However, after the close BP was quoted by a reporter as contradicting those original statements by Dudley.
FBR Analyst Robert McKenzie also helped the gains saying regardless of what happens he does not believe Transocean's liabilities will be as high as people expect. He was one of several analysts this week claiming Transocean will settle in order to end the warfare between the two companies. BP still leases multiple deepwater rigs from Transocean and they both need each other in the years ahead. RIG gained +6% on the news.
Computer Sciences (CSC) was named as a potential LBO target by Jeffries & Co. The company said in a note to investors that a LBO at $56 would produce a 25% return to the acquirer. That would be a +34% premium over Thursday's close at $41.72. Jeffries upgraded CSC to a buy from hold. CSC gained a buck on the news.
Chesapeake Energy (CHK) found a bid on a rumor Chevron might be considering a buyout of the struggling firm. CHK has overcommitted to shale gas acreage and the price of gas continues to decline. Chesapeake has said it wants to move more to drilling for oil than gas until gas prices move back over $6. They have been selling off large chunks of shale acreage in order to reduce debt and raise money for the switch over to oil. They have acquired one of the largest oil lease positions in North America making them a target for a larger diversified company like Chevron. The uproar over fracking problems in shale drilling is also a cloud over Chesapeake's stock price. One rumor suggested Chevron would be willing to pay $30 for CHK, currently at $21.
The financial sector is struggling to maintain its gains from last week ahead of the Basel III meetings on Sunday in Basel Switzerland. The new rules are expected to put stiffer new capital requirements on banks in order to prevent future financial crises. Many will be forced to raise additional capital and in some cases a lot of additional capital. It should force quite a few mergers as smaller banks find it easier to combine assets than find new ones. Analysts claim the new rules will probably make banking less profitable and restrain economic growth as banks cut back on lending as a way of increasing capital. The new rules won't take effect immediately and are expected to give banks up until 2018 to meet the new criteria. Banks are expected to be forced to raise their reserves by 3-5% to a level of 8-11%. There is also a set of new criteria for what capital will be required. Obviously they don't want 5% of the capital to be in Greek bonds or mortgage backed securities. Several of the top 20 U.S. banks do not have the reserve amounts that will be required. U.S. regulators are expected to go even further under the recent reforms and require an even stronger asset base.
Paul Volcker spoke on Friday in Canada and stressed that major structural reforms are required in the banking sector in addition to the Basel and U.S. changes in progress. He warned that the U.S. and China trade imbalance was "unsustainable." He also warned that stabilization in Europe was years away and not months.
It appears we are living in a pessimism bubble. Despite the markets recent gains and the sudden improvement in some economic reports the majority of consumers believe we are about to hit a double dip. Investors may already be discounting last month's double dip fears but a new survey claims consumers are not.
The StrategyOne Survey found that 65% of Americans believe a double dip is about to occur. Nearly 44% believe the second dip will be worse than the first with 21% believing it will be "much more severe." Only 21% believe the economy will recover by the end of 2011. Another 23% don't believe the economy will ever fully recover.
71% believe that America is fundamentally broken and not working. Since the American consumer is characteristically optimistic and resilient this marks a significant departure from the norm. Confidence has been materially damaged and real doubts are emerging about our future. The constant media reinforcement about unemployment and high government debt is proving to be a potent depressant.
In the survey Americans were very concerned about their money.
* 41% are planning to cut back on their spending over the next 3â€“4 months, compared with 8% who plan to increase it.
* 35% say they will plan to cut back their online spending over the next to 3â€“4 months, compared with 12% who plan to increase it.
* 79% say they are planning to spend less money for Christmas this year.
* 87% say they do not plan to make a big-ticket purchase (such as a house or car) in the next 3â€“4 months.
* 49% have already delayed making a big-ticket purchase during the past few months.
* 26% of Americans don't expect their personal finances to fully recover from the downturn until after 2011, and just as many (26%) think their personal finances won't ever fully recover.
It has been 34 months since the Great Recession began and normally we would already be setting new highs in economics by now. Of course I guess that is why they are calling it the Great Recession instead of a garden-variety recession.
When I started writing this weekend I had planned to focus on why I thought the double dip would not occur but in the course of reading nearly 100 articles in preparation for the weekend commentary I was reminded of some existing problems.
For instance you may remember Wednesday's Fed Beige Book said they were expecting "continued growth but were seeing widespread deceleration" through the end of August. Of the 12 Fed regions five banks reported "economic growth at a moderate pace." Two Fed banks saw "positive developments" but the remaining five banks said conditions were "mixed or decelerating."
While the economy as a whole does not seem to be slipping back into recession the outlook is still weak. Economists are now predicting that GDP will fall back to just over +1.0% growth compared to the 3% estimates at the beginning of July. That is definitely "widespread deceleration."
Growth from the $787 billion stimulus package is winding down and along with it the economic activity. Last week the president launched an election Hail Mary pass with the announcement of a "$350 billion jobs recovery" package but no democrat ran down the field to catch it. The term stimulus is now a four-letter word and no democrat wants to be heard uttering the word in public. Analysts claim the package has zero chance of being passed and was being offered because the president needed something to offset his floundering ratings, which fell to a new low on Friday according to Rasmussen. The future lack of progress on the recovery package can then be blamed on the republicans.
Make no mistake the expiring tax cuts and the coming changes in health care are a serious cloud over consumer sentiment. 99% of consumers could not tell you what tax cuts applied to them but they definitely don't want them to expire. Details about future changes in the health care system are starting to appear and consumers, other than those with uninsurable conditions, don't want those changes either.
Despite these negatives I still believe the markets are going to rally the closer we get to the elections. With the Dow up seven of the last eight days I am starting to believe in a September rally. There are reasons why we could see a continued move higher. The changes are subtle but there are changes in progress. Wholesale inventories rose +1.3% and the biggest gain in two years. The trade deficit on Thursday was better than expected. Jobless claims fell by -21,000, discounting the Labor Day factor. Corporate cash is at extremely high levels. Companies are starting to announce stock buybacks again. Mergers and acquisitions are at a pace not seen in three years. Companies are selling debt at a record pace to lock in cheap rates. They will have to put that money to work. Q3 earnings are expected to rise +25% or more. There is zero inflation. The nonfarm payrolls showed private hiring was still positive. Consumer electronics are declining in price on almost a weekly basis. Give Joe Worker a six-pack and a cheap large screen TV and sentiment will improve.
The reverse of this view would be an article last week by Nouriel Roubini and Ian Bremmer in the Institutional Investor titled "Paradise Lost." (Thanks to Art Cashin for the heads up) In it they claim crisis breeds denial. After a suitable period of healing everyone always believes that markets will set new highs. They claim the political, economic, financial and psychological hurdles standing in the way of this scenario today would require divine intervention to make new highs. It is a good article by Doctor Doom but far too long to discuss here. I think Roubini has to continue to write doomsday articles to justify his nickname although he has seldom been wrong. Read Paradise Lost
There are positives to this economy. I believe those positives are convincing funds to nibble at stocks. Bonds are actually being sold again and some of that money is making its way into stocks. The risk trade is coming back in vogue. Despite the constant stream of warnings in the semiconductor sector the Nasdaq is moving slowly higher.
Granted the gains over the last two weeks have come on extremely low volume but they are still gains. Friday's 5.6 billion shares was the lowest volume in two weeks. Volume for September month to date is -31% below 2009 levels. That should be over next week. Traders will be back at work and funds will have to make decisions on quarter end and year-end positioning. Do they position for a September decline or a slow grind higher into the elections?
LiquidNet reported on Friday they had to cut 12% of their staff because of the drop in volume. LiquidNet is a dark pool where institutions and funds send large orders to be matched with other buyers and sellers. The average share volume per trade is 50,000 shares. Volume has died and not just last week. The CEO said mutual funds saw outflows of more than $60 billion after the flash crash as investors fled the market.
Commentators including myself talk about September being the worst month of the year in historical terms. What does that mean in English? September is the only month that has averaged a negative change since 1950. That change (loss) is not large but it is still negative. What September does have a lot of is high volatility. Some years will have big gains and others big losses but nearly always high volatility.
If you look back at the last 15 years September has produced some monster gains and losses for the S&P. Only three years had changes of less than 2%. The average gain/loss for 15 years was only -0.25% but you can see in the table below that in directional years the numbers were huge. I thought it was also interesting that only six years were negative and nine were positive. Of course the entry for 2010 only covers seven days.
I mentioned earlier about the $60 billion withdrawn from funds after the flash crash. I am beginning to believe that the volatility from May through August eliminated the need for a normal fund induced Sept/Oct dip. Over the last four months funds were either forced to liquidate to cover withdrawals or they did it voluntarily as the outlook changed. The last four months have been a killer for anyone in the market. This probably shook out the weak holders and weak positions in mutual funds. You may remember a couple weeks ago I reported on a fund manager that was holding 50% in cash and he claimed many other fund managers had equivalent positions. If that was the case then they have nothing left to sell and the improving economics, even slightly, and the impending elections are a reason to reduce that cash position in favor of equities.
Secondly, if equities begin to move higher the sell off in the bond market is going to explode. Once those hiding in the safety of bonds start to believe in equities again the reversal of that money flow is going to be dramatic.
I believe there will be a rally after the elections as long as control changes at least in Congress. Since it appears to be nearly a lock today the recent gains could be funds starting to establish positions. Two weeks ago Dow 10,000 reappeared as support and it was tested on four different days and was rock solid. That could have been the green light for funds. Hedge funds have been flat to down all year. They need to capture some performance before year-end to justify their fees. They can't afford to sit around and wait for November.
I realize I may be grasping at straws in my economic views and my thoughts on the +5.7% gain so far in September. Reader Rodney will remind me of the negative points when he gets this email. I agree there are plenty of negatives still undecided and still in play. I may be in denial as Roubini suggests of anyone hoping for a new bull market. Regardless of their views I have to look at the charts, economics and the calendar and come up with a judgment call. While I am not 100% convinced we are going higher I do have a bullish bias today. The charts are starting to sprout again as are the economics. I would like to think we are not going to see Dow 10K again this year but I can't promise it.
The S&P ground its way higher on Friday to close at 1109 and above several levels of key resistance. The last three days have been a picture of defiance of resistance and on very low volume. The S&P moved over the 100-day average at 1102. It also moved over downtrend resistance from April as well as horizontal resistance at 1100. The breakout was not huge, only about five points but there were several lines of defense and each was ground slowly away. Every dip was shallow and was quickly bought. Nobody was chasing prices higher but there was no shortage of buyers on the dips. The last two days there was no end of day sell off. The next resistance is the 200-day at 1115 and then the August resistance highs at 1127-1130.
S&P-500 Chart - Daily
The Dow has not yet broken free but it was wedging up for a potential breakout on Friday at 10475. It did edge over the 200-day at 10,450 but the 10,475 level is going to be critical. A break over that level targets 10,700. The Dow was handicapped on Friday by losses in HPQ, INTC and MSFT. They were lower by downgrades to expectations for PC sales. Also weighing on the Dow was losses in AXP, JPM and TRV.
I believe a move over 10,475 will happen on Monday as long as the Basel III outcome is not any more negative than currently expected. There is only one economic report and it is normally not a market mover.
The Nasdaq finally moved over initial resistance at 2225 and has a speed bump at 2270 and the 200-day before encountering very strong resistance at 2300. It is a miracle the Nasdaq has done so well with the daily warnings and downgrades from the chip sector. Making any forward progress is amazing. I doubt there will be a major struggle at the 200-day but I do believe 2300 will be a major resistance barrier. However, since the S&P and Dow are leading and they could be well over their corresponding resistance levels and drag the Nasdaq through 2300 when the time comes. The corresponding levels would be 1130 on the S&P and 10700 on the Dow.
The Russell 2000 was a negative factor last week. The Russell lost ground with a seven-point loss for the week. That is more a factor of serious short covering the prior week rather than specific weakness last week. The Russell is fighting the 200-day at 645 and the 100-day at 650. The 100-day has been pretty strong resistance since late May.
The weakness in the Russell is a negative point in my theory that funds are starting to sneak into positions ahead of the elections. The weakness tells me that funds are still not confident enough to put money into small caps. When that happens and the Russell moves over 650 it will be a positive sign but we still need a move over 675 as confirmation of a new bullish trend. Support is 630.
We should know pretty quickly next week if funds are buying stocks again. If they come back from the extended holiday and push the indexes higher then the bears should start to cover. It is one thing to be short going into September because of historical trends but another to remain short in a rising market. With the amount of pessimism we had two weeks ago the shorts should have loaded up again after the early September spike. When the markets did not immediately roll over it should be causing some sleepless nights. Next week should be exciting regardless of direction.
Saturday was the ninth anniversary of 9/11 and there were events planned all over the country. Vice President Joe Biden was at the WTC with Michael Bloomberg for a memorial. President Obama attended a ceremony at the Pentagon where flight 77 impacted and Michelle Obama and Laura Bush were in Pennsylvania for a memorial for flight 93 victims.
Sunday is a big FreedomWorks Taxpayer march to the front lawn of the Capitol building. They are expecting a million people with the theme "Remember in November."