Posted At : July 2, 2009 10:06 AM
What’s up today – More not terrible news: Manufacturing and pending home sales rise: This morning we saw more stabilization in manufacturing activity in the United States and Europe. Not a sign that things are all better, but it continues to point that the worst is behind us. Investors also appeared pleased about a fourth straight monthly rise in pending home sales in May. On the less positive side, the ADP June Employment Change report saw processed payrolls cut by -473,000. The latest figure was greater than expected. Although, ADP noted that in the second quarter monthly payroll cuts averaged -492,000, an improvement over the -691,000 monthly average in the 1st quarter. The ADP report is not as comprehensive as the official report of the Bureau of Labor Statistics, however it does give a reasonably broad indication of developments in the labors markets. One good piece of news I just heard was that Fannie and Freddie are now refinancing loans up to 125% loan to value up from 105%. That means you can have a 25% negative equity in your home. This is definitely good news for homeowners. Well, good news as they don’t squander the opportunity, considering that mortgages modified to help struggling borrowers stay in their homes fail within nine months more than half the time, and 53 percent of mortgages modified in the first quarter of 2008 were 30 or more days delinquent after six months; 63 percent were in default after a year.
Market update – Light as a feather
The market continues to be as light as a feather and rising as it climbs that wall of worry. The stock market is still trying to determine whether the US economy is definitely headed for recovery, how sustained any new growth will be, and what all of this implies for corporate profitability in the second half of 2009. Although I continue to be convinced that we will revisit the harrowing days of last fall, I am smart enough to not to fight the trend. When the trend does break it will break hard. Of course no one knows the exact time, but my best guess is by summer’s end.
The overall quality of the rally from the March low has been weak, which I have mentioned in past reports. A contraction in Volume has continued to be a concern with our 30-Day Moving Average of Up + Down Volume making a new reaction low again on Monday from its peak seen in early April. Buying Power has been drastically eroding since May and did not confirm the June high. The lack of participation with the % of Stocks Above their 30-Day Moving Averages also failed to confirm the June highs and subsequently showed a sharp drop. As I mentioned last week, drops in this metric preceded an eventual move to levels near zero in both the declines that ended this past November and March. This indicator dropped to near 20% in the early part of June and bounced back to a modest reading near 50% in the recent rally from the June low, showing a lack of widespread participation in the rally. Basically, even as the indexes are near their highs, fewer and fewer stocks are participating in the rally. Not good news for a sustained rally or the beginning of a new bull market.
This stock rally continues to show the characteristics of a bear market rally, with only minor corrections and without the staircase-like advance and retrench pattern or the rising demand and falling supply pressures of a new bull market. The major bear market rally in late 2001 to early 2002 followed a similar pattern, which suggests that an additional weaker advance could follow in the next month or two before a peak. In late 1929 the market crashed 50% and then experienced a bear market rally much like the current rally, which lasted nearly 5 months. The market rose 50% before further banking problems and decline set in sending the stock market down 83%. However, unlike today, in the 1929 situation the U.S. government did not apply a massive stimulus early on in the cycle, so I do not expect as a severe reaction…but possibly close so investors must be prepared.
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Economic Update – Morphine brings a smile, until the drip runs dry
The economic stimulus, acting as morphine to our injured economy, is definitely having a positive effect on both the economic news and the reason for the stock market advance. This is no “normal” recession. Many of the job losses in recessions were from manufacturing. Businesses were quick to lay off and quick to rehire. We now have fewer manufacturing jobs, so the rehiring process has been much slower in recent recessions. This indicates that the level of labor market slack would be higher by the end of 2009 than experienced at any other time in the post-World War II period, implying a longer and slower recovery path for the unemployment rate. Therefore, more than in previous recessions, when the economy rebounds, employers will tap into their existing workforces rather than hire new workers. This could substantially slow the recovery of the outflow rate and put upward pressure on future unemployment rates.
I have discussed in past issues how the subprime crisis is just the beginning of a massive deleveraging process in the banking system, with prime loan foreclosures catching up to subprime—and with issues in commercial real estate, business loans and credit cards to follow. Just yesterday, I was alarmed by a Bloomberg article that seemed to just skate by without much attention. Delinquencies Double on Least-Risky Loans, U.S. Says. By Margaret Chadbourn. This articled discussed how delinquency rates on the least-risky mortgages more than doubled in the first quarter from a year earlier and that first-time foreclosure filings on the loans rose 22 percent from the fourth quarter. Serious delinquencies on prime loans, which account for two-thirds of all U.S. mortgages, rose to 661,914 in the first quarter from 250,986 a year earlier, according to the report. Overall, mortgages 60 days or more past due rose 88 percent from last year, the report said. That’s serious stuff.
Loan failures are rising in different categories, with real estate defaults continuing to rise and credit cards following. Failures in these areas already are exceeding those of past recessions. Such failures will persist and accelerate due to the extremes in consumer debt in this final bubble cycle. Business loan defaults have not yet hit the levels of past recessions. This type of loan will be the last “shoe to fall” as the morphine drip runs dry, much as it did in the Great Depression. The strong stimulus is creating a recovery, but only until the recovery is thwarted by the next banking and/or geopolitical crisis. As the banking system and economy continue to melt down and deflation sets in near term, becomes very unlikely.