February 9, 2010
Markets Overshooting the Downsid Markets Overshooting the Downside Despite heightened volatility in the markets last week, the S&P 500 index surged into the close on Friday to finish with a mere 0.7% loss for the week. Sovereign credit risk continues to roil the markets and improved earnings are doing little to inspire traders.
If we look at various momentum indicators, the equity markets are quickly approaching oversold territory. The Bespoke Investment Group looked at the S&P 500’s trading average with a 3 standard deviation range above and below the 50-day moving average. As the chart confirms, the index has not hovered around this level of “oversoldness” since March 2009.
Source: Bespoke Investment Group
Investor sentiment is also sending a contra indicator. According to the American Association of Individual Investors (AAII) Sentiment Survey, the number of individuals who are bearish on the 6-month outlook for stocks is sitting at 43%, the highest level since early November, right after the market endured a 6.5% correction. Just for the record, the S&P 500 posted an 11% rally from that point.
Even the professionals are boarding the bearish bandwagon, with the Investors Intelligence Survey of Advisor Sentiment showing that the ratio of bullish to bearish sentiment also fell to the lowest level since early November.
With all the bearishness, it would be easy to believe that the economic recovery is over and done, but not so fast. Leading economic indicators from the Organisation for Economic Co-Operation and Development (OECD) jumped to one of the highest points in years, suggesting that economies around the globe have a tremendous amount of economic momentum to propel them forward.
Source: OECD
Moving beyond macro sentiment, Cisco is a prime example of the trouble afflicting stocks. On Wednesday, the network equipment maker reported net profit of $1.9bln for the quarter, handily besting analysts’ estimates and yet, the technology sector fell almost 2% on Thursday and Friday. Cisco’s CEO is so confident in the longevity of the recovery that his firm is expecting to hire an additional 2k-3k people this year.
Cisco is not alone in its plight, as 70% of companies are beating earnings estimates and another 10.5% are raising guidance for the year, according to Bespoke Investment Group. As astutely pointed out, this may represent the “earnings season that wasn’t.” With so many other headaches to alleviate, how can investors concentrate on earnings?Go Good, Bad or Indifferent?od, bad or indifferent?
Last week’s highly anticipated employment report showed nonfarm payrolls shedding another 20k jobs in January, below consensus expectations for a gain of 15k, but positively, the unemployment rate fell to 9.7% from 10.0% in December. Without a doubt, the 8.4mln jobs lost since the start of the recession are far more severe than previous recessions. The last two “jobless” recoveries may offer an indication as to the future course of employment growth.
The following graph shows that this recession easily surpasses each of the prior 10 postwar recessions in terms of the percentage of jobs lost. What is lost in the graph is the recovery. The Federal Reserve Bank of Minneapolis estimates that the recession officially came to an end in July 2009, and since that point nonfarm payrolls have fallen by 0.6%. Compare that to the 2001 recovery which showed a 0.4% drop after 6 months of recovery and the 1990 recession that witnessed a 0.2% drop. By no means is this a reason to celebrate, but it does point to a job market entering the healing phase.
Source: Federal Reserve Bank of Minneapolis
Unfortunately, last week’s employment report proved that the outlook is spotty. Manufacturing showed a positive 11k gain in employment, consistent with the ISM Manufacturing Index jumping to its highest level in more than 5 years. Construction, however, lost 75k jobs in January, equally consistent with the November and December declines in construction spending. Finally, temporary hiring, historically a leading indicator of future job growth, posted a gain of 52k, the fourth consecutive monthly gain for that series.
The frustrating state of employment is forcing many individuals to reconsider their dependence on credit and when we account for December’s $1.7bln drop in consumer credit, individuals trimmed outstanding credit by $102.3bln over the course of 2009, easily the largest annual drop on record.
Reasons for the curtailment are twofold: tighter lending standards and a shift in sentiment towards credit. Earlier in the week, the Federal Senior Loan Officer Survey showed that while banks are more willing to offer consumer loans, a large majority are not yet at the point of easing standards.
In short, the outlook for employment is improving, but a record 6.3mln people have been unemployed for longer than 26 weeks, a fact that will surely limit the ability of the economy to continue generating outsized gains akin to the fourth quarter’s 5.7% GDP print. The Week Ahead Economic news is relatively light this week and earnings season is entering the home stretch. Key companies reporting this week include Coca Cola, PepsiCo, UBS, Credit Suisse, Rio Tinto, Sprint Nextel, Alcatel Lucent, Diageo and Philip Morris.
The NFIB Small Business Optimism survey for January will be released on Tuesday. Fed Chairman Ben Bernanke will testify before the House Financial Services Committee Wednesday. He will discuss the Fed’s efforts to unwind various liquidity programs implemented since the financial crisis began.
The Treasury Department is returning to the market this week, auctioning off $81bln worth of bonds and notes. Tuesday brings the 3-year note ($40bln), Wednesday is the 10-year ($25bln) and finally 30-year bonds ($16bln) will be auctioned on Thursday.
Timothy Geithner will also meet with officials from the House of Representatives on Wednesday to talk about budget expectations for fiscal year 2011.
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