WEEKLY UPDATE

August 26, 2010



Back in 2007 the economy was speeding along in overdrive, but by the end of 2008 it hit a wall. The economy is once again moving forward, but it is having a difficult time getting out of first gear.

Last week, new unemployment claims hit a whopping 500,000 (which was a nine-month high). This week registered at 473,000 new claims, however the four-week moving average still rose. This week we were also hit with a 27% drop in existing home sales for July (a record low dating back to at least 1963) and a 12% drop in new home sales. If that weren't bad enough, we were told on Tuesday that orders for manufactured durable goods fell much lower than most economists had expected. This is especially bad because manufacturing has until recently been one of the only bright spots left in our economy.

Consumer Confidence remains weak

Below is the most recent consumer confidence survey which shows that consumers still lack confidence in the economic recovery. The average consumer continues to cut back on risk while they rebuild their personal balance sheet, which are natural consequences of the popping of the real estate bubble two years ago.



Still to come, a revision to the GDP

A much awaited update to the GDP figure is due out tomorrow. If this is worse than economists expect, stocks will likely continue to slide, but if it is better than expected we expect to see a strong (but temporary) bounce in stocks due to its currently over-sold condition.

The chart below identifies a downward channel for the Dow (as marked in red).



Bonds continue to rally

Not much news to report here - bonds continue to climb in price as investors seek relative safety and a reasonable dividend yield. Over the past year treasuries have been a better investment than the stock market. Talk of a bond bubble remains a debate for many, but with economic conditions as weak as they are it is difficult to argue against such high demand in the bond market.



Take Care,
Greg

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August 16, 2010

Stocks Have a Tough Week

Stocks finally began to crumble under the weight of mounting evidence that the economy is growing more slowly than expected. We had mentioned before that the market was reaching a ceiling of resistance, leaving it vulnerable to a correction. It appears that that correction began last week. Our managed client positions are already poised for this move.



Treasury prices continue to climb as the economy struggles, but who is buying treasuries?

We noted last week that U.S. investors are plowing money into bond funds. Along with U.S. investors, so too is the Federal Reserve who noted last week that they are devoting $2 trillion of their balance sheet assets to purchasing long-term U.S. treasuries. The Wall Street Journal noted this morning that even though China's holdings of U.S. treasuries fell $24 billion in June, total foreign investment in U.S. treasuries jumped $33 billion in June following net buying of $15 billion in May. Much of the world is buying U.S. government debt right now.

How low can bond yields go?

While the answer depends on many ever-changing factors, one thing is clear: interest rates have been lower before. I pulled up a series of charts to put this discussion of interest rate levels into perspective. This first chart shows interest rates on the 30-year treasury and how they have moved in the past year. I highlighted in yellow last week's move to lower levels. It appears that rates have fallen dramatically in the past four months; while this is true it only tells part of the story.



Here is a long-term examination of bond yields. The chart below shows how rates have been falling since reaching an all time peak in 1983 (about the time my career as an investment advisor began). Rates have indeed been in decline for a long time but what is especially interesting is that when you compare today's rates to those of the 1940's, we are still much higher than those post-depression interest rate levels. Does this mean that interest rates are likely to move even lower? This graph can't make that conclusion, but it does help putting into perspective today's interest rate environment and how it compares to other times post-crisis.



Conclusion

Our managed client portfolios continue to be positioned for the events that are currently unfolding.

Take care,
Greg

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August 10, 2010

Fed Leaves Interest Rates Unchanged - Bonds Rally while Stocks Fall

The Federal Reserve's Federal Open Market Committee met today and announced that they will keep interest rates low for an extended period. They noted that the pace of the recovery has slowed in recent months and specifically cited stubbornly high unemployment as one of the key factors behind their decision.

Treasury Market Reaction

Key to investors is buried in the Fed's announcement their decision to start purchasing short-term US Treasuries as an additional effort to keep interest rates low. The chart below shows how the bond market reacted to this news by immediately jumping in price. This is the chart of the iShares Barclays 3-7 year Treasury Bond Fund and I have noted with the red arrow the moment the Fed made today's announcement. This is good news for Treasury bond investors.



Stock Market Reaction

Stocks recovered some of their worst declines today after the Fed announcement, and they still remain overbought. Interestingly, trading is very light in the stock market these days. In fact yesterday was the slowest trading day of the year.

Many indicators are suggesting that investors are shying away from stocks. Mutual funds reported that investors took $688 million out of stock funds last week and poured $2.1 billion into bond funds; this is part of a trend that has seen a weekly average of over $7 billion flow into bond funds this year.



The chart above shows how the market remains in classically overbought territory and is trading on some of the lowest trading volume seen in many years.

Take care,
Greg

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August 5, 2010



The chart below is a bit much to absorb on first glance but reveals an interesting insight into the market.

The top section of the chart shows the Dow Jones Industrial Average this year. I have labeled the April peak (A), the subsequent lows set by the market during this latest correction as items (B) and (C) and where we are now as item (D).

The market has worked its way higher on the strength of better than expected corporate earnings which, for now, has won out over a slew of disappointing economic news. The market has retraced 62% of what it lost in the latest correction and is now at a classic crossroads.

I placed two indicators on this chart which help reveal the strength of the market's action. Both of these indicators show that the market is in overbought territory and poised to go lower. Each time these indicators reached the levels they are now at the market turned lower.



What will it take to turn the market to higher levels?

The answer is either better economic news or news that the Fed has decided to resume quantitative easing (printing money); and the odds are not high that either one of these events will come to pass. Nevertheless we have all eyes on tomorrow's June employment report. If the report comes in better than expected the market may be able to extend this rally a bit further before working to lower levels.

Take care,
Greg