US Market Report – week ending 7th December 2007
President Bush steps in with a plan to alleviate further risks to the Mortgage lending industry, helping the markets to rally for the 2nd week in a row. Investors, however, are wary ahead of Tuesday’s FOMC policy statement on Interest Rates.
It was a positive week for investors, who saw renewed buyer interest entering the markets midway through the week. This caused a rally that has helped the major averages maintain a support level, and defined a new medium-term sideways trend.
Since 2 market tops had formed in July and October, there were grave fears that a Bear market would be confirmed. Two slightly lower low points have followed and almost triggered panic selling, however, as we have presented in the above weekly chart, a Sideways (Consolidation) trend is now established.
Using the Russell2000 index as our benchmark, we have identified a Consolidation pattern at the top of a long-term Bull market. This suggests we should expect further short-term upward activity, however, the probability of the markets continuing in a strong upwards movement through resistance (850 points on the Russell2000), is extremely low.
Helping to confirm this activity is the S&P500 index, which is heavily weighted with Financial stocks – the cause of the recent market negativity. It too has held its support level and is now trading in a sideways trading range.
The CBOE Volatility Index (VIX) has fallen in relation to the easing of “investor fears”. The VIX is considered a gauge of investor sentiment, and as it falls it suggests investors are more optimistic for the markets. Since early November, the VIX has retraced from long-term highs and is now trading mid-range between recent highs and lows. Despite the easing of this index, investors should still remain cautious as it is not yet trading at levels that would suggest Bullish markets are likely.
Bears are out of hibernation for what looks to be a hot winter …
Many analysts and economists are talking of 2008 as being a Bearish year. There is much to support this outlook, even despite the recent Subprime Credit lending problems:
1) FOMC have been lowering rates to ward off a Recession
2) Housing market has been negative for almost 2 years
3) USD continues to struggle against international currencies
4) Energy prices are trading at all time highs, and (of course)
5) A collapse of the Subprime lending industry.
Inflation has been the greatest concern over the last 12 to 24 months, and for this reason, the Federal Reserve has been carefully monitoring economic data. In more recent times, this has led to a lowering of Interest Rates in an effort to help prop up the economy.
The Federal Open Market Committee (FOMC) will again be meeting this coming week (the final time this year), to discuss Interest Rates. The consensus is that there will be a quarter percent decrease in Interest Rates.
FMR Analysts agree with the general outlook and expect a lowering of rates on Tuesday. Should the FOMC keep rates steady, look for a disappointed market to drive stocks lower.
Christmas shoppers are not coming in from the cold …
Thanksgiving Day marks the start of the Christmas shopping period. From all accounts, this years’ Christmas shopping is shaping up to be quite poor. It was the same activity last year (and the year before), where a strong buyer drive just before Christmas day lifted figures. However, Retail stocks were only saved by a strong post-Christmas sales period.
Could this year be shaping up much the same?
Shoppers are likely to have been hurt by higher Interest Rates through 2006/07, sky-rocketing fuel prices, and increased Credit risks with housing and personal debt. These are strong arguments for a weak Retail season – which is the first sign of a Bear market.
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In support of the cyclical “invest in retail” theory, we have seen some strong bullish activity in the last few weeks on the Merrill Lynch Retail Holders ETF (Exchange Traded Fund).
This ETF (code: RTH) has rallied from a long-term low, and is attempting to break the downwards trend that began in July earlier this year. Should Christmas shoppers find the extra money to spend on presents, there is potential that Retail stocks will again be bought up in the annual cyclical rally.
FMR Analysts believes that this year is probably not the year to put “all your presents in the one stocking”, however. Despite the reasonable potential for a short-term rally in this industry, results of Christmas spending is not likely to be available until later in January, and there are just too many negative factors that are likely to influence spending.
Focus on Economic data …
It is a huge week ahead for investors, with numerous key pieces of economic data scheduled for release. Last week, investors had turned their focus to the Unemployment data scheduled for release pre-market Friday.
The annual Unemployment rate has held steady at 4.7%, with a 0.8% annual rate of increase in payrolls. This indicates that the labor market remains quite steady. With many economists and analysts talking of a Bearish year ahead, possibly even a Recession, the Unemployment data was a shining light for investors.
But next week we will see more key economic indicators, and the FOMC releasing their Monetary Policy statement. This latter announcement will be made on Tuesday at 2.15pm EST, and is likely to see the markets somewhat Neutral on Monday.
To start the week, we have the Pending Home Sales figures at 10am on Monday.
- Export/Import Prices and Trade Balance figures will be released before market open Wednesday at 8.30am EST, followed by the Treasury Budget later in the day at 2pm.
- On Thursday, Retail Sales and PPI (Producers Price Index) data will be released at 8.30am.
- And, on Friday CPI (Consumer Price Index) data will be released, also at 8.30am.
This last piece of economic data is one of the key reports that defines the state of the economy. If CPI is rising, then this means Inflation is increasing. The FOMC needs to see that their recent interest rate drops have had an affect on the economy, slowing Inflation or at least having it hold steady.
FMR Analysts Outlook …
Due to the FOMC meeting on Tuesday, we are expecting Monday to be a relatively quiet day of trading. This was the reason for last Friday’s “non-activity”, and is likely to flow through to Monday as there has been very little news over the weekend.
There is a high probability the FOMC will lower rates again on Tuesday, which the markets would find positive. Should the FOMC keep rates steady, this might panic investors into selling stocks.
In the case of rates remaining steady, this would set the tone heading into the rest of the week. Investors would then be looking towards Friday’s CPI data for any relief.
The markets have the potential to swing in either direction this week. There is a higher probability that it will be a Bullish week for investors, but only if Interest Rates are lowered on Tuesday and that the accompanying statement does not incite investor fears.
FMR Strategy Analysis …
Traders: Bears failed to trigger reversal patterns through the last week, and we now have a short-term rally breaking the previous trend. With a reasonable probability that buyers will be present again this week, now would be the time to enter into short-term Bullish trades.
Investors: The markets have a defined Consolidation pattern at the top of a long-term Bullish trend. If your outlook for 2008 is inline with economists, and you think there is a reasonable potential for a Bear market next year, this rally could present the opportunity to exit stock positions. At the very least, this will help lower the general prices of Put options, and so investors should be looking at this rally as an opportunity to instigate protection strategies.
Due to the low probability that these markets will break through resistance on the medium-term Sideways trends, we would not suggest investing into new stock positions at this stage.
Option Writers: Only 2 weeks until expiration of December contracts. ITM, or Deep ITM Covered Call positions for January might be considered, however, there is still high risk that a Bear market could occur. OTM Covered Call positions are relatively high risk, while Naked Put positions are high risk. Only experienced writers should consider Naked Puts at this stage.
