Don’s Outlook 12/12/08
The stock markets struggled to retain their momentum this week, but the broader indices once again did move above their 30-day moving averages, a small feat that most bourses had not achieved since early September. Even after a slight decline on Thursday, stock indices were steadily 15 percent higher since their November lows.
The strength comes even in the face of weaker economic data and deteriorating financial news. Overall, the market has shrugged off recent bad news and finally started the post-election rally that historically follows a presidential election. This is typical within the context of a bear market: short-term rallies can ensue in spite of downbeat headlines, even if the market needs more time to heal itself. We still need additional buyers to enter on the demand side, which will improve volume and breadth indicators, two elements that generally accompany a sustainable bull-market run.
But the headlines were not all bad this week. The biggest stimulus, in fact, stemmed from last weekend when President-elect Obama announced his plan to spend hundreds of billions of dollars on infrastructure development, spurring widespread optimism. Government will spend directly on roads, bridges, schools and the internet, among other projects. There is no doubt that is deficit spending, but it will boost the overall economy depending on the final substance of these projects. Although the final payoff for citizens will take years to assess, the more aggressive that world governments become to stave off further crises and corporate downturns, the more confident market participants will become.
I continue to assess other news and economic results that will likely indicate we have reached the bottom of this economic cycle. One such indicator is the Institute for Supply Management’s manufacturing index, which often has signaled market turning points. It’s most recent reading of 36.2 represents a sharp fall—one that was exceeded only four other times— to the lowest reading since the early 1980s. Such lows have often coincided with stock market bottoms, but the drop off in consumer and business demand in recent months may very well push this index lower. Nevertheless, readings below 40 improve the prospects for stock prices over the next six months because shares tend to gain even as corporate earnings deteriorate.
Given the severity of the current crisis, however, other indicators such as improving credit conditions, reduced stock volatility, stabilizing house prices, and additional fiscal stimulus will be just as important to put a firm floor under equity prices. I was encouraged this week by news that a well-known hedge fund manager was closing his short-only fund in operation since 1996, stating that opportunities to bet on falling prices have been reduced considerably in recent months.
