Stocks fell for a third day today, but April still ends with the best S&P 500 monthly gain since December 2003. A consolidation or small correction will not be at all surprising after several strong weeks. Intermediate-term indicators remain firmly bullish.
Economic indicators continue to drive market activity, and the latest numbers suggest U.S. growth is faltering. March personal spending came in below forecasts at the same time as construction activity slowed. This suggests that the falling housing sector is having a wider impact than previously thought by many. Analysts at top Wall Street firms are openly questioning the Bernanke Fed's view that lingering inflation may require further interest rate hikes. The opposite may be closer to reality if the housing slowdown continues to cut into consumer spending. This may be why retailers, especially those who sell expensive luxury goods, have been weak recently.
A more immediate cause of today's losses may have been in Washington. President Bush and Congress are in a sort of stand-off about Iraq war funding. This afternoon Bush made some conciliatory comments that suggested a deal could be reached with the Democrats. Crude oil prices and energy stocks dropped at about the same time as Bush spoke, so we suspect there is a connection. If so, it suggests that conventional wisdom is wrong; higher oil prices are actually bullish for stocks.
If it doesn't get any worse, today's energy downturn could prove to be a good test of the uptrend's continuing viability. This volatile sector can turn on a dime, however, so we remain cautious.
To great fanfare on CNBC and other financial media, the Dow Jones Industrial Average crossed 13,000 for the first time this week. We wonder how long these thousand-point markers will continue to generate such excitement, since each successive one represents less of a gain from the previous. Going from 1,000 to 2,000 was a big deal because it meant the Dow had gone up 100%. Going from 11,000 to 12,000 took a 9.1% gain. The trip from 12,000 to 13,000 was only 8.3%. Another 7.7% will get the Dow to 14,000.
In any case, the strength in the Dow is mirrored in other benchmarks, with even the Nasdaq 100 finally picking up steam. Sector action is also becoming more interesting. Energy remains on top of the rankings with utilities not far behind. The materials sector lost some ground today as both Dow Chemical (DOW) and Newmont Mining (NEM) reported disappointing quarterly results. It appears the housing slowdown may be starting to show up in sales for the commodity producers. Pharmaceuticals are climbing up the ranks quickly and semiconductors are coming on strong as well.
Market Commentary: Global equity markets continued their recent advance and pushed to new highs with today’s bullish action. Of the major domestic indexes, the Nasdaq 100 has clearly been a laggard, but it managed to produce an upside breakout of its five-month trading range yesterday and extended that run today. So far, there have been no major hiccups as earnings season unfolds, and the majority of companies are reporting upside surprises. At last count, with 187 S&P 500 companies reporting, more than 68% are reporting better-than-expected earnings while less than 20% are reporting weaker-than-expected earnings. Meanwhile, the yield on the 10-Year Treasury is currently at 4.65%, which is just about the exact midpoint of where it has traded the past seven months.
Sectors: The Utilities sector has taken the top spot this week, an honor it has been sharing on and off with Energy and Materials. Healthcare has moved into the #4 slot, continuing its recent advance. We are seeing strength across the board, and even the downtrodden semiconductor industry is showing signs of life. None of the sectors are being hurt by the current release of earnings reports, with most areas meeting or exceeding expectations.
Styles: It’s all about the “middle” as the trio of Mid-Cap styles hold onto our top style rankings, while the “extremes” are assuming the role of relative laggards. This week, the Micro Caps join the Mega Caps at the bottom of our rankings. However, the spread is tight and all areas are doing well, but there are always leaders and laggards on a relative basis.
International: Merger mania arrived in the European Union this past week with Dutch Insurer ABN Ambro now in play. This sparked a widespread rally and helped push the European Union ahead of all other global areas except Latin America in our momentum rankings. Canada continues to move up our rankings thanks to its large energy and natural resource exposure, while the markets of the USA, Japan, and the UK remain the laggards.
The media complex always amazes me. Forever in search of something to catch the viewers or readers attention. CNBC added a special orange colored ticker highlighting every tick by tick move of the DJIA as it approached 13k. Investors should not fall for this noise. Maybe we can come up with other silly notions that somehow have investment implications?
Google $600
IBM $150
Berkshire Hathaway $125,000
S&P 500: 2000
Uranium Energy Corp $10
One word = meaningless
The stock market benchmarks reached yet higher on Friday, and not surprisingly pulled back slightly today. Short-term momentum has remained surprisingly strong and we fear it may be resolved with a sharp downturn rather than a sideways consolidation. Such a break would probably be short-lived, however, as intermediate-term indicators are quickly turning bullish. More merger activity and very positive 1Q corporate earnings news are giving parts of the market even more strength than the benchmarks reveal.
The health-care sector has been climbing the ranks recently and may soon be vying with energy and utilities for market leadership. Pharmaceuticals are behind much of this action, but medical device makers and health care providers are also showing renewed strength. Energy service is off its highs but seems to have found short-term support. Crude oil prices moved above $65 again today, mainly because of more violence in Nigeria.
For the moment there are several candidates for sector leadership, and we think it is prudent to remain broadly diversified while energy, health care, utilities and possibly others fight it out for the top of the rankings. Any one of these sectors is vulnerable to a sudden reversal.
Last evening the Chinese government reported its economy grew at a faster-than-expected 11.1% annual rate in the first quarter. This would seem to be good news, but in fact Chinese stock benchmarks plunged in reaction. This was due to fear that authorities will raise interest rates to keep the economy from overheating. In yet another textbook illustration of how important China is to the global marketplace, stocks fell in Asia, then Europe, and finally in North America. By late afternoon, U.S. markets were off their morning lows but remained weak.
As ugly as today's opening hour was, in the big picture the benchmarks are still in a consolidation period. The S&P 500 easily held above the breakout line we mentioned in our last update. On the other hand, small cap stocks are failing to keep pace. The Russell 2000 Index challenged its February highs on Monday and again Tuesday but could not hold above that point. If the small caps cannot sustain their momentum, it calls the broad market rally into question. Nonetheless, it is encouraging that today's Asia breakdown did not lead to the kind of sharp sell-off we saw on February 27th.
Our new positions in the energy sector are down slightly but retain positive intermediate-term momentum, and they remain at the top of our RSM rankings. Fundamental news is also positive. Energy producers and energy service companies continue to report strong earnings growth. Though crude oil fell back below $62 today, a research report from Merrill Lynch forecasted rising demand in the coming months. Refineries are again operating at near-capacity as they gear up for summer gasoline production.
The 300 index tracks yuan denominated shares listed on China's two exchanges, and even after last nights 4.7% decline, it is still up 54% YTD. YOWSA!! There is a sense that perhaps the Chinese market is over-heating. Click here for expanded story and GDP and inflation stats. From an investment standpoint, we recall the discourse this past February regarding the speculation that had been building in the stock market - we could say this is certainly evidenced by the 54% YTD move thus far! One writer in the South China Morning Post says the stock market is "now a full blown financial mania." My thoughts? Well, Alan Greenspan was years off calling the top in the US that occurred in 2000 (his irrational exuberance uttering was in 1995!) - so who is to say one journalist's opinion about financial mania is going to be right or wrong! I'd say we should watch the chart closely and be vigilant as to another steep pullback like we experienced in late February. Good luck.
Most US markets joined the rest of the world by reclaiming their February peak levels this week. It certainly feels good to have that correction behind us, but a boisterous celebration might be premature. Those February peaks can still be viewed as “resistance” levels, and stocks could easily turn down again. Perhaps in the weeks ahead we will get the evidence that says the former resistance has become the new support, but until then, the best we can say is that resistance is in the process of being pierced. Bonds rallied sharply the past three days and are back near where they started the month.
Sectors: The Energy, Materials, and Utilities sectors continue to hold the top spots in our rankings. Of interest this week is the rise of Healthcare, a sector that has been lagging the market for most of the past four and a half years. Healthcare also exhibits lower than average volatility, so it looks even better on a risk-adjusted basis. The Financial sector has seen some upside action this week, but it is too early to determine if it is truly a sign of renewed strength or just a short-term, counter-trend move of a downward trend.
International: Latin America, Pacific Excluding Japan, and China own the top spots with the European Union and Diversified Emerging Markets close behind. Canada is improving its ranking thanks to its large energy exposure. The “developed” large-capitalization markets of the US, Japan, and the UK are the laggards.
The correction of the last few weeks - or downturn, or stumble, or whatever you want to call it - is now officially over. On February 22d the S&P 500 reached an intraday high of 1461.57. From there it was downhill and the bottom really fell out on February 27th, when the S&P 500 fell -3.5%%. Weakness continued through a low of 1363.98 on March 14th. Over the last month the index climbed back and closed today only slightly below its high of 1468.62, comfortably above the February 22d peak.
The rally today was sparked mainly by some merger news; Student Loan Marketing Corp (SLM), affectionately known to generations of traders as "Sallie Mae," is being taken over by a private equity consortium in a $25 billion deal. So far in 2007, buyout activity in the U.S. has totalled $684 billion - 46% above the same point last year. Why is this important? It means that smart people clearly think stocks are fairly valued, if not undervalued, at current levels. There is room for more upside. Strong quarterly reports from several financial stocks confirmed the new sense of optimism.
Less noticed were reports from Tokyo about another Alan Greenspan speech. You may recall he helped set off the recent weakness by mentioning the possibility of a recession. According to persons who were present, Greenspan told his Asian audience that even if the U.S. does have a recession, the rest of the global economy is strong enough to keep the damage minor.
Of course, another correction phase could begin now that this one is over. Today's gain brings both the broad market indexes and many key sectors into overbought conditions. A few days of sideways movement would set up the market for another leg higher. Likewise, a failure from here would be very bearish.
