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Rally off and running again...

Week Ending May 29, 2009

Rally off and running again...
Leaders on hold
Earnings still in the tank
Home prices still falling but sales off the lows
Next weekly newsletter June 14...


Last Week

Quote of the week
"There's consternation in the stock market. If we see a pick-up in long-term yields, an economic recovery will be much more difficult. That concern could be enough to halt the recent stock rally."   
- Russ Koesterich Barclays Global Investors, San Francisco.

Rally off and running again...
Stocks rallied strongly on Tuesday following the Memorial Day holiday based on a strong showing in the Conference Board's consumer confidence indicator which is interesting - we have found this metric to be of little trading value. However, investors chose to ignore the most recent Case-Shiller home price index that showed home prices continue falling at an accelerating rate.

But then on Wednesday, markets experienced a big reversal day as the Dow gained nearly 2.4% in the morning only to give it all back and be down 2% by the end of the day. According to Bespoke Investment Group, similar reversals since 1900 have been accompanied by drops of more than 1% over the next week and the Dow was down an average 1.7% a month later.

But then on Thursday and Friday stocks resumed their upward move with all the major indexes closing higher on the week which is bullish. It has now been eleven weeks since the rally began.

Technically Speaking
Leaders on hold...
Last week four stocks on Dan Zanger's watch list were moving higher and they gained more than 5% which was bullish. This week, none of his market leaders on Monday were making new highs and that is somewhat bearish.

Weekly volumes for the major indexes were below average again this week but that may have been due to the holiday-shortened week.  The fact that volume was highest on Friday is also bullish. A rally needs a steady supply of new bulls buying stocks to give it strength so below average volume on rising prices is bearish. But it is important to point out that momentum has been falling and that increases the probability for a correction in the next few days.

Meanwhile, the Market Volatility Index (VIX) moved lower this week to 28.92 versus 32.63 last week and 33.12 the week before.  Fear continues to fall and while still higher than average, remain elevated but the fact that they have been falling is bullish.     

Since rebounding off its December 5 bottom, the 19 commodity NYFE CRB Index has almost steadily gained ground and that continued this week as it rose to 417.04 up from 404.26 last week and 393.43 two weeks ago. As we said last week, the seemingly endless supply of cash from governments should continue to have a positive effect on commodities but when it doesn't any longer, look out below.  This index is now up nearly 30% from its December 5 low.   

But gold showed some strength this week. After the surge in gold to $1001.10/oz February 20 then dropping, the precious metal moved higher again this week to close at $959.30/oz up from $958.80 last week and $931.80 two weeks ago amid more US dollar weakness. Volume and open interest took a noticeable jump this week and that is bullish for the metal. Gold normally has a seasonal low in July and then rallies into year-end but there are factors at work, namely government generated inflation, that are more powerful this time around.

Meanwhile, the US Dollar Index slipped again this week to close at 79.34 down from 79.96 last week and 83.02 two weeks ago. A steadily weakening dollar is bullish for commodities, interest rates and U.S. multinational corporations with a larger share of their revenues derived from overseas sales. 

And not surprisingly crude oil futures joined the inflation-fueled party this week as a barrel of crude closed at $66.31/bbl up from $61.67 last week and $57.10 two weeks ago. Oil is still down 55% from its mid-summer high of $147.20 and the rapid drop has had a negative impact on supply which is bullish for prices.

The Baltic Dry Index, an indicator that tracks the cost of shipping dry goods by sea, continued to surge this week jumping 25.4% from 2786 last week to 3494 to another new 2009 high as shipping demand continued to increase. This is bullish for both the economy and the price of oil. This is further confirmation of growing inflationary pressure.

The U.S. bank prime rate and the Fed funds target rate held steady at 3.25% and 0.00% - 0.25% respectively while the effective Fed funds rate firmed to 0.19% (from 0.18% last week). 

Meanwhile, the 3-month London Interbank Offered Rate (LIBOR*) slipped again to another new 52-week low of 0.65625% (from 0.66% last week and 0.82563% two weeks ago). This compares to LIBOR 52-week high of 4.81875% last October. 

On the mortgage front, Freddie Mac mortgage rates firmed again this week to 4.91% (from 4.82% last week) for the 30-year fixed mortgage while the one-year adjustable rate mortgage (ARM) slipped to 4.69% (from 4.82% last week).  

*LIBOR is the benchmark for $900 billion in subprime mortgage loans which typically adjust to it every six months. Corporations around the world have the interest rates on roughly $9 trillion in debt pegged to LIBOR and rates on more than $380 trillion in derivative interest rate swaps also are based on LIBOR. About 6 million U.S. mortgages, including the vast majority of subprime home loans as well as 41% of prime ARMs are linked to LIBOR.

Earnings - Earnings yet to recover
Last week the average Price/Earnings ratio for the 8,011 US stocks of the VectorVest index hit a another new all-time high of 151.45 (145.92 last week and 143.5 two weeks ago) thanks to rising prices but no increase in average earnings.  So far at least, this rally has not been accompanied by earnings growth with the average stock experiencing an anemic earnings growth rate of just 2%.

At the beginning of the last recovery, April 11, 2003 marked the "golden cross" of the price of the VVC moving above its 40-week moving average and the beginning of a 56-month bull market. As the rally was getting underway in March and April 2003, earning growth (GRT in red) was a much healthier 8% and earnings growth had begun improving nearly a year before after hitting a low of 3%.

This time around as we see from the chart, another golden cross occurred two weeks ago prices failed to penetrate above the 40-week MA (purple line). That happened this week which is bullish from a momentum perspective.  As we said last week, if this rally is to survive we need to see prices stay above the 40-week MA and a genuine recovery in earnings.

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Economic Reports
Home prices still falling but sales levels off lows
Last week we learned that while builder optimism increased, both housing permits and starts got worse showing that the stats had yet to support any improvement in housing demand. This week we got more of the same in the form of continuing deterioration in the Case-Shiller home price index for March. On a monthly basis, the 20 city composite index fell 2.17% from February and home prices nationally were down 18.7% on a year-over-year basis. With the lone exception of February, when the rate decline moderated, housing price declines have continued accelerate year-over-year. Price declines have averaged 1.84% a month since January 2008. According the C-S paired home sales in the 20-cities the index covers, home prices have fallen 32.2% from their peak.

On Wednesday, we learned from the latest National Association of Realtor data that existing home sales increased from last month to 4.68 million in April, a gain of 2.9% from last month but down 4.3% from a year ago. From their peak, home sales are down 30% while median home prices are $170,700, up slightly from last month and down 26.1% from their peak. The inventory of unsold homes was 10.2 month in April.

Meanwhile, new home sales improved slightly in April to 352,000 (from 351,000 in March) and inventories dropped to a 10.1 month supply (from 10.6 months in March) which is good news for the industry. However, with permits and starts still running at 498,000 and 458,000 respectively, there is still too much product being added to bloated inventory levels. The median price of a new home rose 3.7% in April to $209,700, but prices are down 14.9% year-over-year.

Given the upticks in both new and existing home sales together with improvements in homebuilder sentiment (in the NAHB home price index), there is a definite trend to improvement in the industry and that is positive. But large inventories and rising foreclosure rates will continue to keep prices under control for the next few months at least.

We continue to climb the Wall of Worry this week but momentum continued to abate. This is offset on the positive side for markets by the government and Fed taking an increasingly more active role in our economy and markets which will be bullish shorter-term for stocks and commodity prices but increase the size of the ultimate bill. As we saw this week, this will also put upward pressure on interest rates and that is bearish for markets and the economy.

There will be no newsletters for the next two weeks. Our next weekly will be published June 14.

On the lighter side...
However beautiful the strategy, you should occasionally look at the results.
Winston Churchill

Stories of interest this week...

GM Said to Plan June 1 Bankruptcy as Debt Plan Gains

Biggest Losers in GM May Be Taxpayers, Altman Says

Unemployment at 8 Percent Is the New Normal as Growth Slows

Wall Street Derivatives Proposals Adopted in Treasury Overhaul

Housing Hitting Bottom Means Fewest Starts Since 1945

Home Prices in 20 U.S. Cities Fall More Than Forecast

S&P 500 Rally Is in Last Stages, Aurel Says: Technical Analysis

Short Sellers Pare Bearish Bets After S&P 500 Surges

Latvian Hookers Signal No Recovery for Economy: Matthew Lynn


Faber Sees U.S. Inflation Approaching Zimbabwe Levels

Working for your wealth,

John M. McClure
John M. McClure, President & CEO
EquiTrend, Inc.

Posted 06-01-2009 3:22 PM by John M. McClure