Don’s Outlook 6/19/09
Economic data was mixed last week with improvements in housing, retail sales and jobless claims, while the unemployment rate continued to tick higher and interest rates threatened to stall any housing recovery. Foreclosure activity declined 6 percent in May; retail sales increased 0.5 percent on higher gas prices and bargain hunting in the auto market. Initial claims for jobless benefits fell to the lowest level in six months, although unemployment continues to grow as a percentage of the labor force. 10-year Treasury yields hit 4 percent and 30-year mortgage rates passed 5.5 percent.
This week consumers were happy to see that inflation fell 1.3 percent in May versus the year earlier period, even though energy prices have run up recently. Housing starts and building permits came in higher than expected, but industrial production numbers were slightly lower than anticipated. The U.S. current account deficit, which measures trade and services, is at the lowest point since 2001. With stimulus spending set to flow through to economic data later this year, the balance should tilt in favor of the bulls.
In addition to this week’s economic news, the financial overhaul proposed by the Obama administration was the most significant event. As with most things the government does, it is a mix of good ideas, with some overreach in places and a bit of rear-view mirror driving. Nevertheless, from an investment standpoint, the reforms make it clear that the financial sector will not return to business-as-usual. As a result, the industry will find it hard to boost its earnings to prior levels. Just as a retailer or manufacturer increases their earnings through increased sales, banks increase their profit through increased sales, or more loans. Regulations will make it tougher to loan money, both by restricting bank capital and limiting the ways consumers can be offered credit. But just as we experienced following the technology bust earlier this decade, other sectors, such as energy now, can lead the market higher.
In technical terms, the S&P 500 is sitting right at a major point of support, the 200-day moving average. The index is 72 days into a rally, but the moving average continues to drop because the 200-day currently stretches back to the beginning of September. That means the market can fall and still retain a bullish technical bias. In July and August, however, the crash months will fall out of the calculation and the 200-day average may bottom. If the market were to tread around current levels, the average would be around the 860-870 level for the S&P 500 Index. For the summer, the trend in the moving average favors the bulls, and gains from here would push the index well above the moving average. Although many are fearful of a market reversal here, a correction may be the worst of it.
