Daily Insight

U.S. stocks declined yesterday as a pull-back was bound to occur after another strong rally last week, which marked the fourth weekly gain.

As mentioned yesterday, stocks may have a rough patch to get through as we’re heading into what will be the worst ex-financial earnings season we’ve seen during this contraction. Bank profits should help overall S&P 500 earnings as interest spreads (borrow near zero and lend at 5-6%) could help this segment post an actual profit increase, which would be the first since Q3 2007 for the group.

But ex-financial S&P 500 profits, which posted their first quarterly decline (since this mess began in September) during Q4 earnings season, will likely fall 30%. This will be difficult for the market to deal with following the strong upswing that took place off of the wicked 666 low of March 9 – up 25% prior to the past two sessions. Since we’re range bound, it will be important to make the necessary pull back short and sweet. If we keep it to a 10-12% decline, our guess is we’ll re-rally in quick order. (This view is somewhat supported by activity during the equally nasty bear market of 1974.) If it’s more than that, it may invoke enough fear to make a quick resurgence difficult.

In terms of economic data, the market will be focused on Thursday’s jobless claims figure and next week’s retail sales number for March. We’ll probably need to see some improvement in jobless claims – at least some sign we’ll trend back to the 500K handle – and it will be imperative for March retail sales to post a gain – too many people are riding on the assumption that consumer activity can rebound in a sustained way so if this number disappoints it may be a rather tough blow for market psychology to absorb.

In terms of the sector trade, the cyclicals took the beating yesterday– industrials, telecom, basic materials, consumer discretionary. The relative winners were the typical safe-havens – utilities, health-care and to a lesser degree, staples.

Financials held up relatively well for the vast majority of the session, but plunged 2% in the final 20 minutes of trading – possibly on news that the Manhattan DA uncovered an Iranian/Chinese money laundering scheme in which they used fake companies to facilitate the purchase of banned materials to make missile systems and nuclear weapons.


Market Activity for April 7, 2009


Crude

Crude oil moved below $50 per barrel yesterday, falling 3.2%, (and off by 10% over the past four sessions) as traders anticipate this morning’s Energy Department report will show stockpiles remain at a 15-year high, or 13% above the five-year average – this is something that has occurred very quickly as stockpiles were in line with the five-year average just three weeks back. Daily fuel demand appeared to be on the rise as the prior four-weeks showed demand increased 1.2% from the year-ago period. However, last week’s report showed demand fell a pretty substantial 4.4% for the latest four week based on year-ago levels.
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Until global demand picks up oil will continue to trade on the dollar and stocks (that is when doubt begins to rise regarding a global economic rebound, the dollar – the crisis/safe-haven currency – value rises and stocks sell off, in which case oil comes under some pressure, and vice versa).

Some traders hopped onto the oil train as a way to hedge against the inflationary event that is likely to come as the Fed and Treasury (along with other governments) are pumping trillions into the system. This is what made it look like we were headed for $60. However, between pessimism over earnings season and recent predictions that the rally won’t last, that hedge has come off a bit. (Last night’s earnings results out of Alcoa won’t help the commodity trade over the short term either.)


The Old Washington 180

In a dramatic, but typical, political reversal (“Who me, I never advocated that?”) House Financial Services Committee Chairman Barney Frank has proposed legislation prohibiting lenders from extending mortgage loans to those who can’t afford them – one assumes Mr. Frank determines the parameters, which is scary enough. What’s amazing about this is that Mr. Frank was one of the most vocal members of Congress over the past decade demanding that banks offer credit to low-income households – some of you may recall he is also the person quoted as saying, “I want to roll the dice” with Fannie and Freddie. What we’re going through today is yet another serious consequence of government’s social engineering plans –specifically the 1995 modification of the Community Reinvestment Act. (And we shouldn’t let the Fed off the hook by blaming only the members of Congress, for it is their massive monetary policy mistakes that made the whole leverage issue and housing bubble possible.)

As is typical, Congress is behind the curve as the market is already well into this process --- those with low credit scores have largely been shut out of the credit markets for the past six months. The shift in credit standards (and the lack of private sector financing as a result of default rates) has been so dramatic in fact that the Fed has rolled out a series of facilities to address this issue.

Second Thoughts?

In other news involving the government and their attempts to ameliorate credit conditions, Treasury Secretary Geithner seems to be running into some difficulty finding participation in the Public-Private Investment Program (PPIP). The fact that Geithner hasn’t been able to officially announce the participants (which was only five based on the restrictions they place on participation) spells trouble. Now they have come out and extended the time with which to apply, stating the reason for the extension is to allow smaller and minority-led firms into the PPIP.

Call me skeptical, but this looks like a way to disguise a lack of alacrity to participate – gee, the populist wave Congress is fomenting can’t be a cause of this possible hesitation could it? On the current political trajectory, firms can’t be sure they’ll be able to keep the potential profits – especially when the press starts reporting on the degree of profits made and the very attractive terms with which the government extended them loans.

Same is true for the Federal Reserve’s TALF program (a program that is largely focused at reducing consumer-lending costs). The goal of TALF is $1 trillion in activity, yet in its first week investors applied for only $4 billion in loans and the Fed received applications for just $1.4 billion in last week’s round – at this rate the $1 trillion goal will be reached by the year 2200. It’s not difficult to understand why investors have become wary of dealing with the government.

Consumer Credit

The Federal Reserve reported that consumer credit fell $7.4 billion in February, or 3.5% at a seasonally-adjusted annual rate, to $2.56 trillion. The decline marks the fourth decline of the past five months. The January reading was revised higher to show a $8.14 billion increase.

This report on consumer credit involves both revolving (such as credit cards) and non-revolving (fixed payment loans such as auto and student loans) – mortgage loans are not included in this data. Revolving credit continues to retrench (down 9.7% at an annual rate), while non-revolving credit was virtually unchanged.

The plunge in the stock market, the continued decline in home prices (for most regions) and rising unemployment have sent a clear signal to consumers to reduce credit card balances, or at least reduce transactions. This is an event that simply needs to run its course. Over the next several months, it means a sustained rebound in consumer spending is unlikely.


Have a great day!


Brent Vondera, Senior Analyst