The markets weakened as the weak progressed and sellers appeared at the close. This is not a good sign for next week's markets.

Market Statistics

A sudden burst of great economic news failed to boost the markets with one day left to trade. Positively anemic volume at 3.8 billion shares failed to provide enough conviction to push the markets higher.

The weekly jobless claims came in under 400,000 for the first time since July 2008. Claims came in at 388,000 and a drop of 34,000 from the prior week. However, this is typically a volatile week since many people will wait until after the holidays to file a claim and begin looking for work.

Analysts expect claims to spike higher in January and continue over 400,000 for another month or more. California, Illinois and Georgia reported a decrease in claims of more than 1,000. New Jersey, Michigan and Missouri reported an increase of more than 1,000 new claims.

The December ISM Chicago soared to 68.6 from 62.5 in November. This was the fourth consecutive month of gains and the spike took the index to levels not seen since July 1988. The New Orders component spiked from 67.2 to 73.6 and levels not seen since 2005. Order backlogs exploded higher from 48.9 to 64.6. Production was the highest since Oct 2004 and employment the highest since 2005. This was a VERY bullish report.

The only real negative was a jump in the prices paid component to 78.2 from 70.7. This suggests inflation is slipping into the product chain. It would be hard not to expect the cost of commodities to push prices higher given their big gains in price this year.

The accelerating recovery in the Chicago area is directly related to the bullish trend in auto sales. Chrysler kept its plants open to produce Jeeps during the holidays rather than their normal shutdown because sales were so strong. The boom in the Chicago ISM bodes well for the national ISM in January but not to the extent we saw in today's report. We could see a 2-3 point increase in the national ISM.

Chicago PMI Chart

The pending home sales for November also posted an increase of 3.5% that was much better than expected. As employment continues to improve so will home sales but we still have the looming cloud of foreclosures coming in 2011.

With mortgage rates moving up almost daily that will also slow sales. However, there is a large amount of pent up buying that has not yet been felt. It will depend on the rising unemployment, rising equity market and rising consumer confidence. March will be a critical month for home sales. If the trends begins to accelerate it could signal an all clear for future buyers.

The Kansas City Manufacturing Survey is less important than the Richmond or Philly Fed or the Chicago ISM. The headline number for December was 21 and flat with November. New orders declined by a point to 24 and inventories rose +3 points to 5.

The bad news was again the rising prices. The prices paid for finished goods rose fro 3 to 18 and prices for raw materials spiked from 35 to 54. These are extremely bearish increases and suggest the deflation monster is dead but the inflation monster is waking from his slumber. The Fed still has no inflation fears so they can keep rates low but the warning signs are growing.

The EIA oil inventory report showed crude levels declines -1.3 million barrels but that was far less than the -3.2 million barrel decline analysts expected. Inventories had declined sharply for the last four weeks according to the API with a -15 million-barrel decline. Because there are accounting considerations for decreasing inventories before year-end most analysts expected a sharper decline in today's numbers. Gasoline levels declined -3.1 mb in the API report and -2.3 mb in the EIA report. This was not enough to rescue crude prices from a sharp drop. Crude declined from $91.50 yesterday to a low of $89 today. Year-end fund flows into commodities markets will probably increase the volatility over the next couple days.

Oil Chart

In stock news Anadarko Petroleum (APC) shares spiked +7% on rumors BHP Billiton (BHP) was preparing a bid. BHP failed in its acquisition attempt for Potash and they have been rumored to be looking for another oil company to increase their oil exploration division. BHP is a major player in offshore exploration and owns quite a few leases and wells in the Gulf of Mexico.

London's Daily Mail speculated BHP would offer up to $90 for APC, a 27% premium. Spokesmen for both APC and BHP declined to comment citing company policy against addressing rumors. There was a strong rumor back in September about a possible APC/BHP consolidation but nothing ever happened.

Anadarko owns 25% of the Macondo well that blew out killing 11 workers and billions in damages. APC has said it would not pay BP for the damages because it was gross negligence on BP's part. I can't imagine BHP taking a run at APC with that liability cloud over their head. BP's total including well recovery, cleanup and fines could run $40 billion and $10 billion of that would be attributable to APC. They might be able to settle for a lesser amount but it would take years of negotiating and Andarko's market cap is only $35 billion. Their cash on hand in the couple billion range and insurance was less than $1 billion. Until BP and the courts absolve APC from liability I don't see BHP paying a 27% premium.

APC Chart

Also in the energy sector the coal companies had a good day due to the positive manufacturing reports and the drop in jobless claims. This suggests economic activity is rising and the demand for coal for electricity and for steel production will continue to grow. Walter Energy (WLT) rose +3.5% and Patriot Coal (PCX) +5%. They are both big in metallurgical coal.

U.S. stock mutual funds had their first positive week for fund flows since April and they should post a positive gain for the month. The Investment Company Institute (ICI) said domestic funds took in $335 million for the week ended on 12/21. That is a drop in the bucket compared to the $100 billion in outflows since May 5 through Dec 15th. Foreign stock funds took in $3.6 billion last week.

Bond funds saw outflows of $4.37 billion as investors run from the bond bubble and move towards more risky investments for 2011. That was less than the $8.6 billion in outflows in the prior week as a result of Meredith Whitney's muni bond default warning.

The news out of Europe is very quiet but there are still some problems simmering in their debt markets. I believe the lack of news is related to the holidays and once into the New Year we should expect the worries over Spain to blossom into the next hurdle for the equity markets.

The S&P closed lower for only the fourth time in December and the month is setting up for the best December since the 1990s. However, we have seen selling at the close for the last three days. It was not a lot of selling and definitely not on heavy volume but it was still there.

Volume was very light at 3.8 billion and internals were negative but we really can't draw any conclusions over today's holiday trading. Market direction on Friday should be a coin toss.

I had a reader ask me what would happen if the market did not go down in January. Since about the middle of November the analyst community has switched to an almost unanimous expectation for the market to decline -7% to -10% in January. The expectations are now so widespread that it almost seems like the move we might see is a continued rally. When everyone moves to the same opinion the market tends to do the opposite.

Pullbacks are inevitable and they never come in the time frame investors expect. If we did get a decent continuation of the rally in January we might see a situation where bearish traders and traders waiting in cash for a dip might be forced to chase stocks higher. I know this would drive the bears crazy. They have been calling for a market top every day this week so a continued move higher would be very painful and could generate a dece4nt short squeeze.

I would not bet on market direction on Friday because shorts will be trying to establish positions for next week and fund managers will be trying to window dress into the close. All of this should be on the lowest volume day of the year.

The S&P closed at 1258, again. It seems like it has closed there every day for the last week. The markets have moved sideways with no material gains and a negative close on Friday would pretty much kill the hopes of a Santa Claus rally. In theory that predicts a bearish January. However, the Santa period also includes the first two days of January so suspicious traders can still hope.

S&P-500 Chart

The Dow, like the S&P, has gone flat. Volatility has died and the depth of the candles is almost invisible. We have stretched the string of less than triple digit days to 19 days. This spring is being compressed so tightly the odds of a triple digit explosion next week are nearly 100%.

Support remains 11,544 and resistance 11,600 but neither of those will matter next week. The numbers we will be talking about next Friday will be materially different.

Dow Chart

The Nasdaq has had a solid top at 2670 for the last week and support is 2660. Who would have thought we would be talking about a 10-point range for an entire week? Monday's gap down was immediately bought and pushed right back into the range.

The Nasdaq big caps are not performing well. Most of the charts are looking heavy and I fear we will see some selling in stocks like Apple, Google, Priceline and Netflix next week. The bulls may be waiting for the dip but hopefully they don't buy the first negative day.

Nasdaq Chart

There was no change on the Russell. This formation is very unsupported and odds are good we are going to retest support at 765. The Russell has been trading in a very narrow range for the last two weeks with no deviation at all.

Russell Chart

It is really tough writing about the markets for more than two weeks with almost no movement. How many ways can you say low volatility, managers holding positions for year-end and watch for big changes in January? It is boring for me and I am sure it is boring for readers.

Fortunately it will be January soon and there will be plenty to write about. Volatility will increase and the markets should go directional pretty quickly. It may not be the direction your hoping for but at least there will be opportunities to trade and make some money.

I still believe there will be a buying opportunity in January but I have to admit the concept of skipping a meaningful dip and just continuing higher intrigues me. It is always possible and in the 13 years I have been writing it has happened more than once. Everyone continued to predict a disaster but the market was not listening. Whichever option we are presented in January I look forward to the change.

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