Got some rock-n-roll movement in Oil, up big and then back down. Also some intra-day volatility across the board. The indices were mixed with and selected sectors driving the market in one direction or another. Lehman seemed to get the “nod” as “the worst is behind them”, again. And Blackstone’s investment helped. However, it still seems there is some fundamental weakness to be found. I saw an interesting interview with one of the principals from Blackstone, I thought it was Déjà-Vu, because he continues to say the same thing, “It looks like we have seen the worst. They have a promising business model.” – I hope he is right and if he keeps saying that he will be, because eventually the “worst is behind us”, the question is when.
In my humble opinion, I think we may see a little more shake out before the bottom is actually found. At the end of the day it is the consumer that works and consumes in this nation. They feed 2/3rds of the GDP. They need to find a bottom before we can ever expect the economy, the market, or anything else to find the bottom. Their credit lines are tapped and so far mortgage rates have not come down (still in the 6% range on avg.) and lending is VERY tight. Unless the consumer can get access to capital to spend and at the same time see food and energy inflation come back into check – it will be hard to really find a bottom.
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Goldman – the darling of the financial investment banks
No doubt they have an edge, probably one of the biggest that no one talks about is having their ex-CEO the Treasury Sec. So I am sure a few beans are spilled at the weekly cocktail party. Additionally – they beat to their own drum, meaning they pulled the rip-cord on the housing market mid-2007 and curtailed their losses.The did see a considerable shrink in earnings however, but that was far less-than estimated – giving the stock a good boost in the pre-market. Their exposure in the illiquid mortgage related paper was still a drag, but nowhere near the kind of suck-out we are seeing in Citi, BofA, Lehman, Bear, and others – who have massive exposure. Additionally – Goldman is well known for absolute hedging and not succumbing to “credit ratings” alone – which we all know have totally failed. Thanks to hedging and reducing their positions (in some cases dumping those illiquid positions to their brethren back in 2007 – I am sure they did so with a little smirk).
However, they shrinking profits is still not something to pat yourself on the back (even when you did beat estimates). The problem is the continual exposure and some of their funds not being able to move illiquid positions, without suffering serious absolute losses (instead of the typical mark-to-market write downs). Additionally – they are still exposed to massive counter-party risk. Meaning that they have to make sure their brethrens don’t fail – that is a little alarming after seeing Bear and then more recently Lehman (on the brink of failing). Goldman has rather large positions that rely on them staying in business.The focus has shifted from profit generation to managing the risk. So far Goldman (seems) to be the best of the bunch and ahead of the curve. They are a leader, rather than a follower. Hopefully – other’s follow Goldman’s play book. The bigger problem is these banks are a spider-web of inter-relationships with all the trillions in counter-party trade. While the compete – they can NOT afford one of them failing. If that happens, what happens to those counter-party trade positions? That is still a very real risk.
Lastly – it would be interesting to get a clear picture how much the Discount Window, helped the investment banks. Remember – the Discount Window was NEVER intended to allow investment banks to borrow directly from the Fed. That was reserved for traditional banks that are members.
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Producer Price Index rose 1.4% in May
The headline inflation (including food and energy) has shot the Producer Prices through the roof. A larger gain that expected – clearly showing that food and energy are affecting the bottom line. However, the “Core” showed only a .2% rise. Clearly indicating that oil is impacting companies bottom lines. It is now only a matter of time before it trickles over to consumers.
Think about this. The CPI (Consumer Price Index) – the measurement of how much consumers are affected by inflation showed that Food and Energy (the Headline number) increased, but the “Core” (excluding food and energy) only went up a little. Many economist argued that the ONLY inflation we are seeing is because of food and energy, while typical products are NOT seeing a big increase in price. Ok – we all buy that.Now here is the rub, the PPI (Producer Price Index) – the measurement of how much businesses are affect by inflation showed that Food and Energy (the Headline number) increased, but the “Core” (excluding food and energy) only went up a little as well.
So – follow the logic train now. If the companies are being affect by prices (regardless if it is coming from oil or not) – they will pass on that increase in costs to their customers. So the next time the CPI is reported, expect the “Core” to also rise – since ALL goods will probably increase in value as the Producers are being affected and then may pass on the increase to keep margins in line.
Expect the Core in the CPI to trickle up. That is what I am reading from the PPI increase. It all comes down to margins.
So far the story has been food and energy, an additional question we should be asking – will “hard” commodities go up as well? (Steel, cement, copper, etc.) And will they see the kind of ramping that “soft” commodities prices are seeing?
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Housing Starts fall 3.3% - biggest in 17 years
Well the housing market has not seemed to bottom yet. The housing starts fell to 975k, down from the revised 1+ million in April – according to the Commerce Department. The report fell below forecasts and was the lowest in over 17 years.
Foreclosures continue to increase, however at some point they will stop – it’s finite. However, those homes will then quickly sit on the books of lenders (REOs). We could then start seeing a bottom as lenders now holding failed paper will likely start dumping the homes more aggressively since money is tight. My prediction is based only on money flow and rates. If money was not tight and the Fed had not cut rates and allowed massive borrowing at the Discount Window and we didn’t see Billions in write-downs – well banks could probably hang on and be less aggressive selling properties. The question is how badly do the banks need money? So far – as over 200 mortgage companies are out of business, Country-Wide was bailed out by BofA, and banks are hemorrhaging money and needing to visit the Discount Window regularly – I would say – they need money!
I can only speak for my county and hood – but prices are down on REO’s by 40-60%, that clearly indicates that banks are getting aggressive selling homes. Home builders are also suffering and getting the squeeze from all sides (from higher commodity prices, banks tighter lending, and consumers tapped out – with no more money). Expect more pressure in this sector.
However – once we see the foreclosures start to decline and more property is shifted to the REO market – we may find a bottom sooner as the banks eventually will be forced to unload to and get that money (what little there maybe) back on their books. They sure can NOT afford to wait – and those that do are just holding failed paper on an asset that is costing them money monthly.
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Futures Pre-Open
The futures saw some whip-saw action this morning – as the Inflation, Housing, Goldman, etc. continued to inject volatility. However they are settling to the upside going into the opening and ARE front running the cash. So we could get a bigger than expect boost (pop) on the opening, if the spread continues into the opening.
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Support / Resistance
A mixed market and we saw a couple of sectors get a good pop. It is still range bound some in the mid range and some getting towards resistance areas. However, nothing decisive. The news this morning is not good (inflation and homes) – but the market is interpreting that as more ammo for the Fed to start raising rates. As if that is a good thing for the market? Just ask Jack from CNBC – he is always making a case for the market going up – regardless of the news.
INDU 12000 / 12500 (We pulled back some - but are looking to regain that today according to the future in the pre-market. However between 12000 – 12500 it’s really anyone’s game. Be careful in the range.)
NDX 1950 / 2000 (We got some serious down/up movement in the overweight AAPL yesterday which drove the index down at the opening and then back up. We could see 2000 by week end – but at this point expect volatility.)
SPX 1325 / 1375 (Maybe testing 1375? I am not sure – still in “la-la” land – not willing to get long or short.)
RUT 720 / 740-750 (We are not getting back to the edge of resistance area. The RUT held 720 – which I had said would be good strength for the rest of the market. So far that is true! If we see RUT break up and close above 750 – it could be sign that money is flowing back in and pull the rest of the market with it. Keep an eye on the 750 area closely – this is a big “TELL”.)
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Conclusion
Up is Down and Down is Up. Bad news is good news and good news is bad news. Dr. Seuss could write a great book about this market – since nothing and everything makes sense.I was once told that the best strategy is the simplest strategy and to always try to take the “1000 foot view” approach and not get caught up in the minutia. I have heard it called the KISS strategy (Keep It Simple, Stupid!).
If we continue down that vein and not read too much into the daily whip-saw or news – the bigger picture doesn’t look that great (in the long run). There are some serious issues that economist cannot even agree on. Everything from the dollar to commodity prices.
However, the big picture is also the clear picture. I heard Rogers speak the other day and he always seems to keep it clear. China, India, etc are growing. Until they stop growing, commodities will continue to be in demand. Companies will continue to make goods and sell those goods to the billions of consumers in China. So far that story continues without waver.
Taking that to the next step, if Oil and other commodities are either finite or finite supply (for one reason or another) demand rate will eventually strip supply and send prices higher. So far pretty simple. However –if we get caught up in the news – every day they need to report something - we hear all kinds of crazy stuff from speculators alone are to blame for higher commodity prices, to secret stashes of oil in tankers, even crazier conspiracy theories have moved from obscure internet blogs to main stream media. It’s as if we don’t want to just admit the world population and global demand is growing and we are looking for excuses to try to explain the obvious.
Domestically – the consumer (our nation citizens) are something we need to consistently monitor. They make up 2/3rds of the GDP. They are the grease that keep the wheels turning. Without job or money, combined with inflation (regardless if it is headline or not) – the economic landscape spells BIG SLOW DOWN. Until the consumer bottom is realized and correctly forecast – we should continue to expect volatility.
I haven’t even mentioned that this is an election year – which will also add a jolt of volatility!
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