An announcement by the People's Bank of China calmed the worries about a bank crash in China.

Market Statistics

China's central bank said it would use available tools to safeguard stability in money markets and the recent tight liquidity was set to ease. The PBOC said it had provided liquidity to some financial institutions to stabilize rates and will use short-term liquidity operations to ensure steady markets.

What that means is the Chinese government and PBOC blinked after their market tightening created some unexpected consequences. The overnight SHIBOR rate reached 13% last week and shutdown interbank lending. The liquidity freeze was a shot across the bow for the shadow banking system and a warning to cut back on the aggressive lending to nonbank entities. Banks were borrowing in the market at cheap rates and lending to shadow banking entities who then lent to others or purchased high risk assets. The Chinese government is trying to cut down on the multiple levels of lending and asset accumulation using cheap money.

The liquidity scare that knocked the Asian markets for a loop over the last week appears to be over. That does not mean the economic picture in China has improved. It has actually worsened since the lowered levels of bank lending will reduce economic activity even further. China's GDP is declining to the lowest point in 12 years as the post financial crisis rebound fades. The new government does not appear to be eager to provide stimulus for the economy. They are trying to make a directional change in the economy to consumer driven rather than export driven and make it more self sustaining. They are headed in the right direction but the road is going to be rocky. Structural change is always a challenge but the result years from now will be positive.

The calming comments soothed the markets overnight and the S&P futures rebounded from -8 points at the lows at 1:AM to +16 points just before the cash market open. A 24 point swing in the futures is a monster move and anyone who was short stocks at the close on Monday was greeted with an ugly surprise at the open on Tuesday.

Helping to power the pre-open futures was a flurry of positive economics. Durable goods orders rose +3.6% in May for the second consecutive month. As in April the majority of the gains came from orders from Boeing. Ex-transportation orders rose only +0.7%. Orders for transportation equipment rose a whopping +10.2%. This is likely to continue in June since RyanAir (RYAAY) ordered 175 planes from Boeing at the Paris air show last week.

Core capital goods orders rose +1.1%. Shipments of those same goods rose +1.7% and the fastest rate so far this year. Backorders rose +0.8%. The rebound in durable goods orders since the -5.9% decline in March suggests the impact of the sequestration may be less than analysts expected. A weak spot was automobile sales running at roughly an 11.5 million vehicles per year rate. However, with new durable goods orders exceeding shipments in the last two months this is contributing to a rise in longer term expectations. If orders drop below shipments we would expect a slowdown in the economy.

The Richmond Fed Manufacturing Survey for June rose more than expected to +8 after two months in contraction territory. April fell to -6 and that improved slightly to -2 in May. New orders exploded higher from -10 to +9. Backorders improved from -11 to -1 but remained in contraction territory. Capital expenditure plans improved for the second month to +10. This number has been volatile of late with the low at +4 in November and the high at +17 in March.

The major headline for this report was the +19 point jump in new orders. However, this survey was done before the Bernanke press conference and purchasing managers may not be quite as bullish today. Continued weakness in Europe is also weighing on the manufacturing sector.

Richmond Fed Chart

Consumer confidence for June spiked again for the third consecutive month. The headline number rose from 74.3 to 81.4 and a new five-year high. Analysts were expecting only a +2% gain. The cycle low was 58.4 in January. The majority of the gains came in the expectations component, which rose from 80.6 to 89.5. The present conditions component was less bullish but still improved with a rise from 64.8 to 69.2.

Those survey respondents planning on buying a car rose from 10.6% to 10.9%. Prospective home buyers were nearly flat at 5.5%, up from 5.4%. Appliance buyers declined slightly from 48.9% to 48.7%. It always amazes me that nearly 50% of the population is planning on buying a new appliance such as a washer dryer, flat screen TV, etc. You would think the economy would be humming right along if those numbers were true. Of course the survey does not tell us over what time frame those buys are likely to take place.

The number of respondents that felt there would be more jobs six months from now rose sharply from 16.3% to 19.6%. Those who felt jobs were plentiful today rose +1.8% to 11.7% and a five-year high. Those who feel jobs are scarce declined by -2.3% to 51.4% and a nine-month low but that is still a very high number. Eventually there will be a hit to sentiment from the sequestration but so far the impact appears to be minimal.

Consumer Confidence Chart

New home sales for May rose to another five-year high at 476,000 on an annualized basis. That is a +29% increase over the 369,000 in May 2012. The supply of homes on the market remains near the cycle low of 4.1 months. The low was 3.9 months of supply in January. Sales in the Midwest outpaced all other regions with a +40.7% gain followed by the Northeast with a +20.7% gain. The South actually saw a -9% decline in sales. This was probably the reason for the -3.2% decline in new home prices to $263,900.

Home prices are likely to continue higher because of lack of supply. The U.S. creates 1.5 million new households every year. Granted a new household is probably not going to rush out to buy a new house but eventually a majority will buy a home and that keeps upward pressure on home prices in a normal economy. Households formed 5-10 years ago have seen incomes increase and the arrival of children. Those families are in house hunting mode today. Some will buy existing homes with those homeowners moving up to a new home. With builders constructing homes at only a fraction of the prerecession rate the market will continue to exceed supply.

In the separate Case Shiller home price report today the price of a home was up +12.1% over the same period in 2012. The FHFA Purchase Price Index was up only +7.4% over year ago levels. Prices actually fell in New England, South Atlantic and West South Central regions. Each region declined by -0.2%. The FHFA numbers only include FHA loans and do not include cash transactions. This is why the two surveys do not agree. In May 34% of homes purchased were all cash. That number is astonishing but it represents hedge funds and real estate REITS purchasing homes for investment.

New Home Sales Chart

The economic calendar for Wednesday is highlighted by the last revision of the Q1-GDP, which is expected to be revised to +2.5% growth due to an abnormally high inventory component. The more important events will be the speeches by Fed presidents Kocherlakota and Fisher. Both have already spoken this week and both seem to have converted from hawks to doves since the Bernanke comments last week.

Fisher had the quote of the day on Monday. When asked about the accelerated tapering schedule suggested by Bernanke he said he still favors a reduction in stimulus but "I am not in favor of going from wild turkey to cold turkey overnight." He said I agree "we should dial back stimulus" but only if the economy continues to grow as the Fed economic targets are reached. That appears to be the central message from multiple Fed speakers this week. All have turned somewhat dovish in their comments but it may not be an overnight conversion from hawk to dove but more spin control after the market crash.

Fed heads are all trying to spin the Bernanke comments more towards the qualifications to the taper plan rather than the focus on timing. Bernanke's taper comments were based on continued rising employment and rising inflation and neither are in evidence today. There are five more high profile speeches on Thursday and Friday.

The Kansas Fed Manufacturing Survey could surprise to the upside if it follows the Richmond Fed trend.

Economic Calendar

I touched on the weakness in Europe earlier but the focus is really on Greece this week. The southern countries are starting to appear in the headlines more often with Greece suddenly on the verge of disaster again. The coalition government narrowly avoided a collapse after Prime Minister Samaras shutdown the state run broadcaster and fired all 2,656 employees. The junior member of the coalition, the Democratic Left party, withdrew from the coalition leaving Samaras with only 153 seats in parliament with a majority required out of the 300 seat total. Losing 4 additional seats would force a new election. The Troika inspectors are going to be back in Greece next week to insure the country is adhering to its promises on reducing the debt. Don't hold your breath on that one because it is nearly impossible for Greece to slash spending by the required amount because the economy is spiraling downward out of control.

In stock news Lennar (LEN) reported earnings of 61 cents on revenue of $1.4 billion that was a +53% jump over the same period in 2012. That was $100 million over analyst's estimates. Home deliveries jumped +39% and the average selling price rose +13%. CEO Miller said "demand in all our markets continues to outpace supply, which is constrained by land availability and fewer home builders." Many builders went out of business during the financial crisis and major builders like Lennar let land go back to the prior owners rather than continue to pay the option fees. Major builders take out options to buy land when times are good rather than actually paying for it and then letting it sit idle. If the business continues strong they exercise the options for the land in areas they still want and forfeit the options on land in areas where growth has failed to keep pace.

Lennar Chart

There is a concern that interest rates are going to rise too quickly and shutdown the home purchase cycle until the economy catches up. The mortgage rate has risen by more than a full point in just the last month. Some lenders have already raised their promotional rates significantly higher. Quicken Loans is quoting 5.1% today but there are brokers still quoting in the high 4% range. Compared to the high 3% loans earlier this year this is a significant increase. Compared to anytime in the last 30 years it is still a bargain but perception by prospective home purchasers is always the key.

The yield on the ten-year treasury has been in the 2.6% range for the last two days with the 30-year treasury yield at 3.6%. said today that a record $61.7 billion has been withdrawn from bond funds and bond ETFs since June 1st. That compares to year to date inflows through the end of May of $111 billion. The great bond rotation appears to have begun. Wait until investors get their quarterly statements and it could turn into a tsunami.

Ten-year Treasury Yield Chart

30-year Treasury Yield Chart

Carnival Corp (CCL) posted earnings that beat the street by 3-cents despite warning last month about a drop in sales and a shift in the timing of expenses. Adjusted earnings were 9 cents or $72 million. The company lowered estimates in February after the fire in the liner Triumph that was stranded in the Gulf of Mexico. Carnival has had a really bad run of luck over the last year but they seem to be making lemonade out of their lemons. Carnival said bookings were running slightly behind the competition due to the various ship problems but they forecast earnings of $1.25 to $1.33. Shares rose +5% after the earnings report.

Carnival Chart

YRC Worldwide (YRCW), the combination of Yellow Freight and Roadway, filed bankruptcy twice over the last four years. They were left for dead after the second bankruptcy but as Mark Twain was misquoted as saying, "The reports of my death have been greatly exaggerated." The stock languished in the $5 range for a couple years and then was suddenly resurrected in early May. The stock has rallied +300% since May 2nd. Providing the rocket fuel today was a note from Standpoint Research saying the stock could double by next year. The director of research said late today, "The gains you are seeing today may be a drop in the bucket compared to what you will see in the next few years." Those are pretty bullish comments for a stock that had four sell and four hold recommendations just a few weeks ago. Standpoint said the trucker was benefitting from reduced costs, improving economy and rising shipping volumes.

YRCW Chart

Walgreens (WAG) showed today how not to report earnings. The company reported earnings of 85 cents that missed estimates of 91 cents. Income rose +16% to $624 million on sales of $18.3 billion. Profits rose +4% to $208 million. However, same store sales declined by -3.9%. ISI Group said Walgreens was cutting back on discounts and customers were flocking towards stores like Target, Walmart and Costco.

Walgreen's Chart

The earnings miss by Walgreens may be a preview of things to come. Earnings estimates for Q2 have declined from the +9% growth expectations in January to only +3.3% today. Revenue estimates have declined to only +0.5% growth. Even worse the preseason warnings have been running 7:1 over positive guidance events. Analysts want to believe in the economic fairy tale the Fed is spreading but the numbers don't add up. The only bright side is that expectations may have been lowered so much that companies will actually end up beating the lowered guidance. Remember, at the end of Q1 everyone was expecting gloom and doom from the sequestration process. That has failed to come to pass and that means profits may be better than expected.

Earnings estimates for Q3 are still in the 6.9% range and +11% for Q4. I wish there was a put option I could buy for that Q4 estimate. The chances of hitting that number are close to zero.

BioZoom (BIZM) sprang to life in late May and hardly a day has gone by in June that I did not get some email spam claiming this stock was going to the moon. The company's claim to fame was a Star Trek like hand scanner called a VitalScan that supposedly read various vital signs by simply holding it over the person and reading the output on your smartphone. Unfortunately it was suspiciously similar to a previously marketed scanner that was marketed on for purposes of biofeedback monitoring. In the world of "too good to be true" this one probably was. The SEC halted trading today until July 9th citing the lack of current and accurate information. The SEC said it was concerned the company was illegally marketing securities in the OTC market. Given the number of pump and dump spam emails I received I would say that was a good guess. At its highs it was trading 10 million shares a day on a company that only has a primitive website as its information base. A lot of penny stock traders may be burned on this one.

BioZoom Chart

The markets rebounded from a serious support break on Monday but could not hold the gains at the close to end down -139 on the Dow. Today the Dow rallied to +152 intraday but declined to barely maintain triple digit status at +100.75 at the close.

The balance of the week "should" have a negative bias as a result of the Russell index rebalance. It may not be a significantly negative bias to offset the buy the dip crowd but it will exist. As I explained in the weekend newsletter the last week of June has a history of declines as a result of that rebalance. The first week of July has a positive bias on a historical basis.

The S&P broke below support of the 100-day average at 1579 on Monday and looked like it was headed lower. The banking news out of China last night and the positive U.S. economics helped power an oversold rebound. However, the rebound stalled at 11:AM and moved sideways the rest of the day. A buy program at the close was matched by some end of day selling to kill any bullish overnight sentiment.

Futures were flat for the first couple hours of overnight trading but are now -6 at 8:30. I would not give that negativity too much credence since there was a 24 point swing in the futures overnight on Monday. Volatility has returned with high volume.

About the only thing guaranteed for the rest of the week is increased volatility ahead of the Russell rebalance and July 4th holiday week. Volume next week will be minimal because most traders will be at the beach.

The S&P has resistance at 1600 and support at 1580 and again at 1560. If we do dip below 1580 again I suspect we will make a lower low. The rate genie is out of the bottle and the uptrend in equities has finally broken. Eventually some of that bond money will find its way to equities but probably not this week.

S&P Chart

The Dow also dipped below its 100-day average on Monday but rebounded to close +6 points over that level yesterday. Today the 100-day was support but 14,800 was strong resistance. The final closing spike to that level was sold hard. Next level resistance is 14,860.

I view the rebound as an oversold bounce from support. If that 100-day average support breaks again I think we are looking at a dip to 14,400.

Dow Chart

The Nasdaq declined to round number support at 3300 on Monday and rebounded a respectable +27 points on Tuesday. The Nasdaq chart has the same problems as the other big cap indexes with a lower high and lack of momentum in the afternoon. The buyers simply ran out of conviction and the rebound faded.

Support remains 3300 and the 100-day average.

Nasdaq Chart

The rebound on the Russell 2000 is a shorting opportunity for traders wanting to get in front of the Russell rebalance on Friday. This means the resistance at 960-965 will be super critical for the bulls to show a convicting move higher and force a short squeeze.

Stocks in the Russell indexes that are being removed will be sold by traders and funds ahead of the actual rebalance at the close on Friday. Because they are still in the indexes today that gives the indexes a negative bias. However, the stocks being removed are only a small percentage of the total indexes. If the markets were to turn bullish or a headline event forced a short squeeze the momentum could easily overcome the shorting of only a few hundred stocks. Watch for the negative bias but be prepared for a short squeeze rally.

Russell 2000 Chart

The overall market should have a negative bias for the rest of the week but even with today's rebound we are still oversold. Economic news on Wednesday should not move the markets but we have plenty of news from overseas to produce headlines. We are approaching what could be a lackluster Q3 earnings cycle and the summer doldrums.

Enter passively, exit aggressively!

Jim Brown

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