Homeowners Learn To Walk

The burning question for stock market investors over the last two weeks was fairly simple: is the worst over? Will we look back at January 22-23 as a panic low, or the beginning of something even worse? Unfortunately, because our crystal ball is foggy right now we cannot answer the question. We will note, however, that the rally in previously weak sectors like financials, consumer discretionary, and technology appears to be running out of steam. A period of consolidation would not be surprising given the magnitude of recent gains. To name just one example of a beaten-up sector, Fidelity Select Home Finance (FSVLX) gained +11.8% last week. For the calendar month of January the same fund was up only +1.5%, however, suggesting it has a long way to go before regaining its former glory.

Cynics of both the bullish and bearish variety tend to laugh whenever anyone says "It's different this time." On the other hand, does it really make sense to argue that today's financial markets are comparable to those of 1929, 1974, 1987, 1994, or even 2000? The times do change. History may repeat itself, but usually with a new and unexpected twist. Analysts are beginning to point out an unusual phenomenon. In the past, distressed homeowners could be counted on to do everything in their power to make their payments and avoid foreclosure. That is why mortgage rates tend to be lower than credit card rates. This time, a surprisingly large number of people appear willing to simply walk away from their homes and accept the hit to their credit ratings. If this trend persists, lenders could find themselves stuck with more foreclosed properties on their hands - and housing prices may take much longer to recover.

4Q corporate earnings are proving to be a mixed bag. With 294 of the S&P 500 companies having reported so far, earnings are off -24.5% from a year ago. The bulk of the change can be found in financials and consumer discretionary stocks. Telecom, technology, utilities and energy are still showing healthy growth. This is consistent with the recessionary scenario that is (the last two weeks excepted) driving defensive stocks up and economically sensitive sectors lower.