The Dow crept a little higher over 10K but the gain was as timid and uncertain as a schoolboy's first kiss.
We should be glad that the markets finished in the green regardless of the amount of the gain. After the Friday morning employment report showed that the unemployment rose to 10.2% the positive close shows that investors felt the news was not that bad.
The actual jobs lost in October were 190,000 and that was slightly worse than the final consensus estimate of 175,000. This was also better than the 263,000 jobs lost in September but that number was revised to a loss of only 219,000 in this report. The August number was also revised lower from -201,000 to -154,000. That was the second revision to August from the initial 216,000 reported. Essentially we picked up 91,000 jobs due to higher revisions in the prior two months. All in all this was a "less bad" report despite the jump in the unemployment rate.
The official unemployment rate jumped to 10.2% but that only counts those recently unemployed and looking for work. The broader U6 unemployment rate rose to 17.5% from 17.0% in September. The actual number of unemployed workers rose to 30.5 million people. That consists of 15.7 million officially unemployed, 9.2 million working part time or in temporary jobs because full time jobs in their field are not available and another 5.6 million workers no longer looking for jobs but willing to work if jobs were available. How likely is a strong economic recovery when more than 30 million people are out of work?
Since the vast majority of workers are losing jobs permanently as opposed to simply being laid off, it will take longer for the unemployment rate to decline. Workers must find new employers and more than likely in new industries other than their prior experience. This means lower wages as they enter the new industry in need of training. The labor market in the U.S. is changing with the manufacturing, financial services and retail sectors shrinking. Continued increases in productivity through computer utilization and decreased office space requirements and support systems from Internet commuting are shrinking the work force. Moody's projects that the unemployment rate will peak at 10.3% around June of 2010. I think their estimates are low and it could be several years before a return to a more normal labor environment.
Non-Farm Payroll Chart
We saw last week that the ISM Services composite index fell in October with the employment component slipping from 44.3 to 41.1. This is still in contraction mode for employment and services were thought to be the part of our economy that was thriving. This goes back to the shrinking office and Internet commuting comment above. As offices grow smaller it takes fewer coffee carts on the street and the need for dry cleaning diminishes. If you work in your bathrobe rather than a Brooks Brothers suit then demand for suits, retail clothes stores and salesmen shrinks along with the supply chain servicing that sector. Add to that with a reduction in people stopping for a donut or drive through breakfast somewhere and you get the picture. Obviously this is just an example and new businesses will eventually sprout to replace old but the process is going to be slow.
I heard a statistic on Friday that 25% of all new employment comes from new business creation. Carl Schramm, CEO of the Kauffman Foundation, in an op ed in the WSJ on Friday was suggesting we give an immediate green card to anyone wanting to come to the USA and start a new business. Schramm said over the last decade 25% of high tech startups in the U.S. were started by people who immigrated to the USA. Those same people accounted for 24% of international patent applications. Because of the high percentage of new business startups from immigrants getting their education in the USA he suggests giving permanent residency to anyone completing a scientific or engineering degree from qualified university in the USA. There is already an "entrepreneurs" visa that requires immigrants to bring $1 million with them to immigrate into the country. He recommends adding a "renewable jobs" visa for immigrants that can start a new business and prove they hired employees.
I may get some flack on this but I think that could be a good idea. New immigrants require housing, cars, furniture, appliances, etc. Starting a new business requires a location with employees and generates new tax revenue. The census bureau claims that 81.6% of new businesses "with employees" employ 20+ people with 63.6% employing more than 100. Put a restriction on the visa application that requires a new business with 20 paid employees within 12-18 months of arrival to qualify for a permanent green card. You could also require that English be the required language of the new business and prohibit them from filing for welfare or unemployment for five years. There are hundreds of thousands of people who want to immigrate to the U.S. and start a business. I would bet you there are dozens if not hundreds or even thousands that would eventually grow some very large businesses. This would jump start employment and require no Federal stimulus other than the funding the red tape to get it going. To me this sounds like a win-win situation. Let me know how you feel.
The only other report of note on Friday was Consumer Credit for September. The report showed that credit balances are continuing to shrink at rapid rate with a -$14.8 billion decline in September. That was a -7.2% decline on an annualized rate. 12.5% (-$9.9B) was a decline in revolving credit like credit cards while non-revolving credit like home equity loans fell -3.7% (-$4.9B). Balances are expected to continue declining until the job market improves.
For next week the economic calendar is slim with consumer sentiment the most notable economic report. That should give you a clue as to how little information will be available for the markets. I added the Treasury auctions because it will be a record refunding event. The $81 billion being offered is $6 billion over the last quarterly refunding. The auction will raise money to pay off $38.5 billion in maturing securities and raise another $42.5 billion in new cash. The Treasury said last Monday that it would need to raise an extra $276 billion before year-end. They also said they could hit the legal debt ceiling as early as mid December. Since the Fed said it had completed its debt purchases this will be the first auction without the Fed as an underlying silent buyer. That makes the auctions more noteworthy because the government put on yields has expired. Expect to see plenty of market commentary next week on the auction results.
The FDIC closed five banks on Friday bringing the total for 2009 to 120. The banks closed were United Security, Sparta GA, Prosperan Bank, Oakdale MN, Gateway Bank of St Louis, Home Federal Savings, Detroit and United Commercial Bank, San Francisco. UCB had 63 branches that will be taken over by East West Bank. The closings will cost the FDIC $2.93 billion.
Those banks still operating are hoarding cash at record rates. They claim to be preparing for "adverse conditions." Bank regulators, the Treasury Dept and the Fed are all leaning on them to accumulate more capital in order to avoid future problems. Citigroup has doubled its cash hoard to $244.2 billion since Oct 2008. Richard Bove said in his 44 years in business he has never seen a company with this much cash.
Citi still has not paid back the last $20 billion of the $45 billion in bailout money. They claim they can't pay it back out of cash because it would put them under the current capital guidelines from regulators. They are making almost no money on these funds with interest rates at less than 1%. They are afraid to lend it because of the near death experiences from 2008. Nearly following in the path of Lehman and Bear Stearns has put the fear of failure into first place on their list of things to worry about.
Citi's total liquidity as of Sept 30th was $450.3 billion. Liquidity includes cash, deposits at other banks and debt securities that can be pledged as collateral at the Fed's overnight borrowing window. JP Morgan has accumulated $453.6 billion in liquidity including $80.7 billion in cash. Bank America increased liquidity as of Sept 30th to $422.6 billion. Wells Fargo is holding $201 billion. Wells Fargo has more customer deposits and requires less liquidity. Still Richard Bove placed a sell recommendation on them due to that lower liquidity.
Banks are worried about the rising delinquencies and foreclosures in commercial real estate. You may remember Wilbur Ross and George Soros teaming up to warn about the impending disaster a couple weeks ago. Commercial property sales are the lowest in more than 20 years and prices are down an average of 41%. Office vacancies have hit a five-year high of 17% while shopping center vacancies are at a 17-year high. These large banks have very high exposure to commercial loans and analysts believe they are preparing for the worst.
Its official, the homebuyer tax credit has been extended until April-30th. The $8,000 credit for new buyers was set to expire on Nov-30th but that has been extended until April 30th. There is a new wrinkle to the extension. Now current homeowners can get a $6,500 credit towards a new home if they can prove they lived in their current home for five of the last eight years. To qualify for the new buyer credit you cannot make more than $75K individually or $150K as a couple. To qualify for the existing owner move up credit you can't make more than $125K or $225 as a couple. I am glad they added the existing buyer credit since there are more home owners today than new buyers.
You may have heard last week about the plan for Goldman Sachs and Warren Buffett to buy the $5.2 billion in unused tax credits owned by Fannie Mae. Well Fannie can kiss that idea goodbye. The administration nixed the sale on Friday even though it would have provided Fannie with much needed cash. The administration said it would cost the government too much in taxes that Goldman and Buffett or their investors would not have to pay if they got the credits. Instead Fannie will see them expire worthless.
Fannie posted a loss of $18.9 billion for Q3 and said it would need a further infusion of $15 billion from the government. That will bring the total bailout for Fannie to $60 billion. $22 billion of the Q3 losses came from credit-related expenses from buying back mortgages under President Obama's foreclosure prevention plan.
Google (GOOG) posted a minor gain of +$2 on Friday. This was the 2-year anniversary of its all time high of $747 and it closed about $200 under that level on Friday. Google should get a bounce next week as more people get their hands on the Motorola Droid phone. Verizon should also get a bounce. One of my sons replaced his dying Motorola Razor on Friday with a new Motorola Droid from Verizon. I had a chance to play with it and this phone is really slick. It may not be an iPhone killer but it is definitely an iPhone competitor. The price of entry may be a killer to demand. At $199 and a 2-year plan for $79 a month it is steep enough already but everyone appears to be going for the "all in" package for $120 a month. That is a little steep for me but I have to admit it was very slick with high appeal for tech fans. Two of my kids have iPhones and love them but the new Droid in the house is producing some interesting "can your phone do this" conversations. They are going for $600 on Ebay on Friday night.
Tech reviewer Walt Mossberg said "The best super-smart phone Verizon offers, the best Motorola phone Iâ€™ve tested and the best hardware so far to run Android -- Like the iPhone, the Droid is really a powerful hand-held computer that happens to make phone calls, and is a platform for numerous third-party applications." Note he did not say it was better than the iPhone. However, lines at Verizon stores did not live up to expectations and Motorola's stock ended the day with a -5% drop. Motorola had been moving higher over the last week on expectations for a big opening.
Ebay scored big on Friday when they sold Skype for just over $2 billion. They bought it for $2.6 billion so there must be some kind of weird accounting trick here to make a profit. Actually Ebay only sold 56% of Skype, gave 14% to the original founders to settle a lawsuit and Ebay kept 30%. Skype now has 520 million registered users who make free calls between each other and pay a small fee to call regular phones. Skype brought in $185 million in revenue for Ebay last quarter and was the fastest growing part of its business. Over 40 million new users signed up in Q3. Netscape founder Marc Andressen is one of numerous investors who partnered to do the deal. Now Ebay can worry about its core business and let somebody else run the phone company and eventually getting a return on their investment. Andressen expects over a billion users and billions in annual revenue. Ebay finished flat on the news.
Amazon just keeps getting upgrades after their Q3 earnings surprise. Amazon garnered four separate upgrades on Friday from Bernstein, Oppenheimer, RBC Capital and Barclays. Bernstein raised their price target to $160 saying Amazon should see faster sales growth in 2010.
Travelers (TRV) also got an upgrade from Bernstein and that led the Dow stock +2.5% ($1.26) higher. Oppenheimer upgraded Dow component GE to an outperform producing a +6% (90-cents) jump in the stock price. Travelers, GE and IBM were the three best performers in the Dow representing about 28 Dow points. The worst performer was American Express with a loss of 53-cents. That gives you a basic idea of how lackluster trading was on Friday when the spread between the biggest Dow winner and biggest loser was only $1.79. Still it was a good finish with the Dow gaining +3.2% for the week.
Starbucks rallied +7% after reporting earnings Thursday night that beat the street. Starbucks also raised guidance for earnings growth to 15-20% in 2010, up from 13-18%. Starbucks closed 900 stores and cut costs to raise profits. Now they are looking overseas for growth opportunities. CEO Howard Schultz said they would be opening thousands of stores in China. That is in addition to the 700+ they already have there. Starbucks is trying to combat the rollout of the McDonalds coffee offerings by inking a deal to sell coffee in 9,000 Subway stores. SBUX closed at a new 52-week high on Friday at $21.
The earnings cycle is over for all practical purposes now that Cisco has reported. We still have HPQ (11/23) and Dell (no date) but we already know how those stories will play out. With 440 of the S&P-500 already reported we saw 80% of those companies beat estimates. Only 14% missed estimates and 6% reported inline. The average surprise was 14.5% over estimates. As of Friday Thomson/Reuters says total S&P earnings for all companies reported came in at a -14.8% decline. At the end of Q3 analysts were expecting a -25% decline. Obviously everyone feared the worst.
For Q4 the expectations are off the charts with expectations for a +193.1% increase in earnings. Yes, 193.1%. That declines for Q1-2010 to "only" a 34% increase. The Q4 estimate is so large because so many firms lost a ton of money in Q4-2008. If they just break even in Q4-2009 it would be a monster improvement. Statistics can be misleading if you don't understand the context. I am sure this number will change dramatically as the weeks progress and estimates are adjusted for the guidance we got with Q3 earnings. Every time there is an analyst upgrade to a stock like Amazon, GE or Travelers the S&P estimate for Q4 will change.
Crude oil dropped -$2.19 on Friday in response to the job losses and higher unemployment. Workers without jobs use and buy less gasoline and lower demand reduces prices. This was a knee jerk reaction to the jobs number and support at $77 held. Hurricane season is over but somebody forgot to tell Ida. Tropical storm Ida is heading for the Gulf and should be somewhere off the coast of New Orleans on Monday. At present this is a low power storm with winds of 39-73 mph. However, once it enters the gulf the warm water could increase the intensity. Nobody appears to be expecting it to gain much strength since water temperatures have declined from summer levels.
Crude Oil Chart
Tropical Storm Ida
The Dollar declined on the unemployment news but rallied back by day's end. This added to the confusion in the commodity sector. Gold rallied intraday to nearly $1102 before closing at $1095. That still equates to a $55 gain for the week. Gold is becoming the new currency while other commodities weakened on the jobs data.
The markets are apparently ignoring bad economic news. Primarily because bad economics news means the Fed is going to stay on the sidelines for a long time. Estimates for a Fed rate hike are now closer to June than January. This means the dollar should continue to deteriorate and with the low interest rates banks can keep piling up the cash from the spread on the loans they do have. By the way, did you hear that traders at Goldman Sachs made $100 million a day in trading profits on 36 of the 65 trading days in Q3? I suspect that other banks who shall remain nameless but still have TARP loans outstanding are also making money using the government money but just not on the scale of Goldman.
So, if the Fed is on the sidelines indefinitely and stimulus dollars are still flowing then conventional wisdom suggests the markets should continue higher. The worst is behind us and Q4 earnings are going to be in the range of 150% even after they adjust for Q3 guidance. It is just a mathematical anomaly because earnings were so bad in Q4-2008 but there will be plenty of airtime devoted to the expectations and John Q Public won't understand the complexities. They will hear 150% increase in earnings and get $$ signs in their eyes. There is also quite a bit of money still on the sidelines in funds that for one reason or another are still not invested. Eventually they will have to bite the bullet and buy something. This is obviously a long-term outlook and not specific just to next week.
For next week I don't see any reason for the markets to decline. Earnings are over and they were good even if they were mostly due to cost cutting. The major monthly economic events are behind us and nobody flinched at the bad news. I see no reason for a decline. Unfortunately that is when disaster normally strikes but we will deal with it if and when it happens.
The Dow closed over 10,000 on two consecutive days. You can throw confetti if you want but that is not the key to the markets. The critical level for the Dow is 10,100 but that is still not the key to the markets. The key level that must be crossed is 1100 on the S&P.
Support at 1020 was never tested last week and the S&P has risen to the middle of its range for the last couple of months. A failure at 1075 would begin to form a head and shoulders but a break over 1100 would target 1135-1150 short-term and 1250-1300 long term. It would reinforce the rebound since July and bring another truckload of skeptics off the sidelines. With no material economics to watch next week the 1100 level is going take on almost mythical importance. The S&P closed at 1069 and I personally believe 1075 is going to be a pothole in the rally road but I think we will get past it.
However, and there is always a however, the S&P has some challenges. The bulls will call them a wall of worry to climb. In the chart below the pink line at the 1075 level could turn into the right shoulder if the rally fails at that level. The red line is the long-term downtrend resistance from October 2007 and also a major hurdle. Note how well it contained the rally in October. Lastly the 1100 level is also resistance as a prior high. This was also alternating support/resistance several times back in 2004. "IF" and I made that a big IF, the S&P succeeds in breaking through these levels and moving over 1100 then skeptics will be silenced and bulls will be firmly in control.
S&P-500 Chart - Daily
S&P-500 Chart - Daily H&S
The Dow is showing a more bullish pattern than the S&P but this could be because of the liquidity play in late October. The Dow has already moved over what could have become the left shoulder from September at 9850. The uptrend on the Dow is slightly stronger than the S&P but the downtrend resistance from 2007 is higher at around 10300. That is also the 50% Fib retracement level from the March lows. If the Dow can get over the initial hurdle of the October highs at 10100 then the converging resistance at 10300 is going to be the next challenge.
Dow Chart - Daily
On Thursday the Nasdaq had its best one-day gain in months but it was not strong enough to erase a week of declines. The Nasdaq still has some tough resistance at 2160 dating back to March 2008. It fought for two weeks in October to cross that level but could never hold the gains. 2250 becomes the next target if a successful breakout occurs. With all the big cap tech earnings behind us the next couple weeks are going to be devoid of any big events to power tech higher. It will depend on the investor rather than an event generated short squeeze.
Nasdaq Chart - Daily
Last Tuesday I turned cautiously bullish because of the out performance on the Russell-2000. Wednesday reversed those gains but Thr/Fri the buyers returned. I believe the Russell gave us the early signal that the market was turning. Let's hope that signal continues because it shows a measure of fund manager sentiment. The Russell has major resistance at 585 and again at 623. I could see it getting past 585 but 623 is going to be a major roadblock. If the Russell can clear 623 on its third try in three months then the next hurdle will be 650.
Russell 2000 Chart - Daily
The Dow transports imploded in late October as various freight and package companies reported earnings and guidance that was lackluster or downright ugly. The transports declined -13% from their 4066 high on Oct-21st to the 3546 low on Nov-2nd. The Burlington news recovered about 200 points in a single day and UPS helped fuel the gains on Friday. That was the 10th anniversary of UPS becoming a public company. It was started in 1907 by a 19-year-old named Jim Casey. Today's CEO Scott Davis said on Friday that UPS had been through 20 recessions and this one had clearly bottomed. He said improving industrial production and global activity would fuel the U.S. recovery. The comments did not do much for UPS stock but it helped the transports to a 41-point gain. If the transports are turning positive then the broader market should also improve.
Dow Transports Chart - Daily
I have to qualify my bullish comments above with a warning on volume. The market decline on Oct-30th came on 12 billion shares of volume. The rebound the next day traded 11 billion shares. Since that initial rebound the volume has been declining daily with Friday barely breaking 7 billion shares. That was the lowest volume since Oct-12th. The big gain on Thursday was only 8.6 billion. Volume is a weapon of the bulls and it appears they may be running out of ammo. However, another way to look at it suggests the remaining bulls did not want to buy the initial rebound just in case it proved to be a head fake. Thursday's gains were aided by a short squeeze so real investors probably wanted to get past the jobs report and into next week before putting big money at risk. At least that is my scenario and I am sticking with it. Would you have pulled the trigger on any big money the day before the jobs report? With Friday's market action so lackluster I would have waited as well and planned to take action next week. Hopefully that money will be burning a hole in somebody's pocket on Monday and the dollar will not get in the way with another bounce.
One of our astute readers sent me some comments on a possible play on CIT. As you know CIT filed a pre-packaged bankruptcy last weekend. The common stock is going to be eliminated but according to the 8K LINK the preferred stock has "contingent value rights." With the government owning the D shares they are probably going to squawk if preferred shares get erased. The reader believes that the A shares, which could be bought for 25 cents, or a penny on the dollar of face value, could be an interesting Lotto play. Thanks Joe for the heads up!
There was a lot of talk on Friday about the impending vote on the health care bill in the House. If you don't want to hear about it here then skip the next three paragraphs. Nancy Pelosi is trying to force a vote this weekend before representatives go back home for the Veterans Day recess. Last Tuesday's election wins by conservatives over incumbents has put the fear of failure into house democrats. Voters expressed their opinions and in most cases it was not for those backing the President's policies. Pelosi is trying to force the vote in the house before voters can confront their elected officials at home over the Veterans Day holiday. It was clear on Friday afternoon that House support had slipped and they did not have the 218 votes to pass it. The President and his administration were calling every House democrat on Friday and personally asking them to vote for it. Evidently that did not work because the President actually made a rare appearance on Capitol Hill on Saturday to speak to House democrats and urge passage of the bill.
The current bill will cost an individual making $44,000 before taxes a $5,300 annual premium plus a $2,000 deductible totaling $7,300 or 17.5% of his salary. A family making $102,000 will pay a premium of $15,000 plus $5,300 in deductibles for a total of 20% of their pretax income. If you make more than $100K your premiums will be higher. The Joint Committee on Taxation confirmed on Friday that anyone who does not purchase the minimum policy or pay the individual mandate tax will be subject to civil and criminal penalties with fines up to $250,000 and imprisonment up to five years. LINK
If you make over $500K or more you will be hit with a 5.4% surcharge in addition to your regular premium to offset the subsidies for people who can't afford healthcare. Companies will be forced to provide coverage and pay 72.5% of the cost or be fined 8% of their total payroll. Even more bizarre the CBO said the Pelosi plan assumes 8-to-14 million people will pay the fines rather than the more expensive insurance premiums. This will raise $167 billion while not incurring any health care expense. LINK
There are NO PRIVATE plans. If you currently have a private plan you will be required to switch to a "qualified plan" (government mandated coverage limits and fees) if ANYTHING in your current private plan changes including co-pay, deductibles or benefits. Last but not least the premiums begin in 2010 but the coverage does not begin until after the 2012 presidential elections. That means you will be paying double premiums until coverage starts in 2013. Payments to Medicare Advantage plans will be slashed and doctors will have their payments from Medicare cut if they allow you to have more treatments than the government believes is acceptable.
Call your representative ASAP and voice your opinion. Here is a link to a WSJ article explaining the sections I referenced above. Click Here I am sorry I had to bring this up in this commentary but I feel like Howard Beale in the movie Network. He told everyone to get up, open their windows and yell, "I am mad as hell and I am not going to take it anymore!" I wish I could reprint the entire speech here because it is very appropriate to today's problems. LINK