Stocks slump, economic data weak

A sell-off that began early this morning in Europe quickly spread to U.S. markets amid lingering fears over European debt and concerns that the U.S. and European economies may be poised to enter a new recession.

The flight out of equities continued to bolster Treasuries, with the 10-year bond briefly falling below 2% for the first time ever, while gold also benefited from the fall in stocks.

In the meantime, the latest economic data did little to discourage a small but growing view that the U.S. economy is either poised to enter a new recession or may already be in a new slump.

The Philly Fed’s Business Activity Index fell an astonishing 33.9 points in August to -30.7, far below the level of zero, which marks the line between contraction and expansion.

Yes, the index can be volatile but there's little good to say about August's number.


Losses in the sub-components were broad-based, suggesting the survey is detecting serious weakness in the mid-Atlantic region.

In the meantime, existing home sales unexpectedly fell last month, continuing a downward trend that re-established itself early in the year.

A lack of confidence in the economic recovery, worries about prices and job insecurities played a role.  Additionally, the NAR expressed growing frustration that conservative appraisals are scuttling some deals.

All-in-all, rather disconcerting.

Dow tumbles 635 points in wake of S&P downgrade

What an awful day on the Street.  In the wake of S&P’s downgrade of U.S. sovereign debt on late Friday, global markets, and the U.S. in particular, reacted violently to the country’s loss of its cherished AAA rating.

Never mind that the downgrade had been telegraphed in advance.

Never mind that Standard & Poor’s had been the U.S.’ harshest critic on deficit spending, stating a month ago that there was a 50-50 chance of a downgrade if a $4 trillion plan was not put in place.

Never mind, as Bloomberg News noted, that France, Germany and the U.K., which still hold the coveted rating, all have CDS costs – or insurance against default – that is higher than that of a U.S. Treasury note.

Still, the timing of the downgrade could not have come at a worse time, as heightened recession concerns and growing debt woes in Europe took a huge toll on the market last week.

Not surprisingly, gold prices jumped in reaction to the instability, but interestingly, investors also sought safety in Treasuries, despite the opinion by S&P that government debt no longer warrants the gold-standard AAA rating.

Without question, Bernanke’s Fed has been very closely watching the fluid situation in the financial markets, as well as the recent spate of weak economic data and the still-unfolding situation in Europe.

QE2, when it was all said and done, had little impact on the real economy, and the jump in stock prices we saw earlier in the year, which Fed officials were happy to trumpet, has all but evaporated.

Further, the extra cash the Fed injected into the system exacerbated commodity inflation, which has hurt the economy.

That doesn’t  mean equities, which are looking for their next fix from the Fed, would shun another infusion of central bank liquidity.

It only means that it’s a temporary solution to a bigger problem. We’ll know more on Tuesday at the conclusion of the Fed’s meeting.

Bulls regain composure

What a difference one week makes, as the bulls came up winners for five consecutive days!

Underscoring last week’s triumph, the Dow Jones Industrials gained nearly 650 points, the biggest weekly point gain since the index of 30 industrials climbed 782 points at the end of November 2008 (MarketWatch).

Talk that some European countries might just roll over maturing Greek debt and the eventual passage of a tough and unpopular list of budget cuts in the Hellenic Republic, which paved the way for new aid, helped avert a near-term default and sparked a big rally in stocks last week.

And relatively sanguine economic data – though nothing to suggest a renewed economic vigor – also aided the advance. Simply put – mix in reasonably decent economic news with a healthy dose of bearish sentiment and you concoct a recipe for an explosive rally.

Victims during the week – Treasuries were hit, with the ten-year yield jumping nearly 30 basis points to 3.18%. The dollar didn’t fare very well either amid a move to riskier assets.

In the meantime, barely a hiccup was registered in credit markets before and during the recent debt crisis if measures of risk are taken into account, suggesting a temporary resolution had been anticipated by banks and bond players – something I’ve harped on over the past three weeks.

Looking forward, investors and analysts will be paying close attention to economic data in the holiday-shortened week and the less-than-robust recovery could provide headwinds for equities.

All eyes will be on the labor report out on Friday, which is expected to show an increase of 110,000 new jobs in June, up from a disappointing 54,000 in May (Bloomberg). The private sector is forecast to add 125,000.

I’ll go out on a limb and say that 110,000 may be a bit optimistic. And 100,000+ is far from impressive. But anything in that neighborhood would likely ease fears that the latest turbulence and continued uncertainty isn’t forcing firms to shelve recent plans to bolster staff.

QE, commodities and stocks

The Federal Reserve announced its first foray into QE, or quantitative easing, when it communicated to the public at the end of November 2008 – see statement – it would buy up to $100 billion in GSE obligations and up to $500 billion in mortgage-backed securities.

Falling commodities and stocks, surging unemployment and emerging fears that deflation might eventually engulf the economy led the Fed to vastly expand QE, now  referred to as the first round of quantitative easing, as it now included $1.5 trillion in agency debt and mortgage-backed securities purchases and $300 billion in Treasuries.

Initially set up to go through December 2009, the Fed decided to extend and draw out the purchases of agency and MBS until the end of Q1 of 2010 in order to smooth transition in the markets – see statement.


(click chart to enlarge)

Defined as the purchases of government debt over and above what is needed to keep short-term rates at zero, the Fed’s extraordinary action has prevented a much deeper recession from taking hold.

But the  massive purchases have had little impact stimulating a more aggressive recovery, as much of the newly created money returned to the Fed in the form of excess reserves – Economic impact of QE2 looks limited.

Nonetheless, as the chart above reveals, the implementation of both QE1 and QE2 does appear to have had a profound impact on commodities and stocks.

Commodity prices (orange), as tracked by the Thomson Reuters/Jefferies CRB Index, didn’t bottom until Q1 2009 as risk averse investors shunned all but the safest assets, while a sharp slide in global manufacturing triggered a surplus of raw materials.

The end of QE1 marked the temporary end to the rise in raw material prices. In fact, the decline during the first quarter of 2010 can probably be traced to declining purchases of government securities and the expectation new buys were about to come to an end, as Fed moneys dried up.

The blow up in Greece during the spring of 2010 and the modest impact on the credit markets encouraged investors to briefly trade their commodities and stocks for the safety of the dollar.

However, the mere mention at the end of August 2010 by Fed Chief Ben Bernanke that policymakers were considering a second round of QE2 sent astute speculators back into the commodity markets.

And the eventual implementation of $600 billion in longer-term Treasury buys has helped to fuel the dramatic rise in raw material prices.

Stocks (green), as measured by the S&P 500 Index, have tracked a similar path, with the bull market being interrupted by the end of QE1 and the negative effect of the credit crisis in Greece on economic activity and financial markets.

The avoidance of a double-dip recession last year and the favorable impact from a growing economy on corporate profits has reignited bullish sentiment; however, the flood of new Fed money has also provided a stiff tailwind for stocks, in my view.


(click chart to enlarge)

A closer look at the CRB Index and the first and second rounds of QE are available in the chart above.

Stocks ignore upbeat Empire survey

Yes, the Empire Manufacturing Index looks at just a sliver of the goods-producing sector in the US, but the increase from –0.6 in July to 12.1 in August signals that the battered group is expanding again.  Economists per Bloomberg had forecast a reading of 5.0.

The index stands at the highest since November 2007 and is well above zero, which is the line between expansion and contraction.

Moreover, the future general business conditions index advanced 14 points to 48.2.

Stocks, however, ignored the upbeat number and took a tumble as selling inspired from Friday’s lackluster consumer sentiment survey carried over to the new week. 

Sentiment in the market can change quickly as we saw in late June and early July.  But the mood quickly turned positive as 2Q earnings season blew out much of the gloom that had been hanging over the market.

Conditions, however, were ripe for a correction, and in my view, that is what we are seeing right now.

Apple slashes iPhone price, pressures rivals

Apple announced late yesterday that it is cutting the price of its popular iPhone to $99 and will introduce two new iPhones priced at $199 and $299. Dubbed the 3GS because of added speed, the new phones will have memory of 16GB or 32GB.

The move could put pressure on rivals such as Palm and Nokia, analysts said, and it could also broaden the appeal because the lower price will probably appeal to cash-strapped consumers. Apple has consistently exceeded it profit targets and has managed to grow profits even in thsi recession (see The Sweet Taste of Apple).

Why this bull may have legs

Stocks have been crushed over the past year and half, leaving many of us to lick our wounds as the highly-touted and closely-followed Dow Jones Industrial Average of 30 stocks gave up more than 50% from its late 2007 peak to the recent low 6,440 in early March.

But a recovery in excess of 35% in just three months has been nothing short of astounding as investors begin to anticipate tangible signs of an economic recovery.

But is the rally for real or will we re-test the lows? I spotted this article, New bull run called by tracker of Dow's historical trends, on Marketwatch.com that suggests what we are seeing is the real thing. The surge over the past three months

"is second only to the post-Depression bull run, with odds favoring a further rise during the next three months, one strategist said. 'I say this with the utmost confidence and my fingers tightly crossed: This is the start of a new bull run,' said Hugh Johnson, chairman of Johnson Illington Advisors"

Going back to 1900, Johnson counts 18 surges of 20% or more in any given quarter. I must point out that according to The Economist, there were three rallies in the great bear market of the early 1930s that produced 20% gains that were then followed by new lows.

But I feel that Kate Gibson's piece expresses the growing optimism that the worst recession in over two generations will soon come to an end.

Today's employment report and the smaller-than-expected job loss is signaling a turnaround is near. See Nonfarm payrolls drop 345,000, Unemployment rises to 9.4% and Nonfarm payrolls vs. the unemployment rate.

The Sweet Taste of Apple

Many companies have been hit hard by this recession and have seen profits evaporate and sales droop. So far Apple has been a notable exception. The maker of Macintosh computers posted a 15% rise in net earnings in the quarter just ended to $1.33 per share on strong sales of its iPhones.

These fun little devices that allow users to take pictures, listen to music, search the Internet, and make phone calls show how a creative manufacturer of discretionary items - goods that consumers want but don't need at any given moment - can survive and even thrive a steep downturn. Better-than-expected iPod sales also aided results.

Caterpillar Crawls

Dictionary.com defines the word bellwether as a person or thing that assumes the leadership or forefront, as of a profession or industry. In my opinion, Caterpillar fits neatly into this definition. The company is a worldwide leader in the heavy equipment industry, making all kinds of machinery used in construction and mining.

When the economy is strong and businesses are expanding, Caterpillar cranks out giant earth-movers used in the construction of new buildings, housing developments, highways, and mines. But we are in a steep global recession and many companies are cutting back, so the need for the company's products has waned.

As a result, what CAT says provides us with clues to what we may see looking about six to nine months down the road. Unfortunately, there is not that much to be excited about.

Today the company cut its full-year revenue forecast, citing a weaker economic outlook and a high degree of economic uncertainty in the global economy. It added that it expects total global demand to decline about 1.3% in 2009 and remain in a recession for most of the year, making this the "worst year of global growth in the postwar period." Yikes!

If you are wondering about all the government stimulus plans set to take effect around the world, CAT pointed out that the timing and impact of all these measures make it difficult to forecast sales. Another words, when will the spending hit and what will governments buy?

One thing we have seen is a rebound in the price of copper - a key industrial metal. Many have credited stimulus spending out of China and some look to speculators who have been stepping back into the metal because they believe the worst of the global contraction is in the rear view mirror. But recent uncertainty in US data has put a lid on the copper rally for now.

Stocks Hit the Skids

Thus far, I've avoided any chatter about the market but I wanted to make a brief comment on today's slide.

Financial shares have been big winners in recent weeks, but they received a beating today, kicking the legs out of the rest of the market. The Dow Jones Industrials fell about 3.5% and the broader market lost around 4%, thanks in large part to sobering comments from Bank of America about its credit quality. Returning storm clouds and a stronger dollar also depressed oil prices, which approached $46 per barrel.

I'll do my best to stay away from dissecting each wiggle in shares, and I wanted to point out that we've seen a big run-up since the March lows. Consequently, a setback or two is not to be unexpected. But attempting to call short-term movements in stock prices is fraught with peril, and I plan to leave my crystal ball in the back of my closet.