Winter Still With Us
by Paul J. Nolte, CFA
March 22, 2010
Is the economy coming up roses or is the winter of our discontent still with us? Judging by the weekend snow here and the comments from the Fed last week as they decided to leave rates unchanged at essentially zero – winter is still very much hanging around. However, if you listen to the market mavens discussing how strong the economy is getting and therefore justifying the market strength, it does seem somebody in this argument is going to be wrong. Neither the market mavens nor the Fed has the corner on prescient calls (review the last two years!), but given the seemingly opposite views either we wind up with much higher inflation and stock prices or much lower interest rates stock prices. The middle ground to the argument is similar to the past six months – a trading range around roughly 1100 on the SP500. The economic data for the coming week will do little to feed either the bullish or bearish campy, however the issues surrounding Greece seem to be simmering again and the unknowns in 2300+ pages of legislation known as ObamaCare could move the markets this week, but expect continued low volume as investors await key economic and earnings data due in early to mid April.
While we were waiting for the market to correct, it continued to go higher before Friday’s mild decline. This week made it six in a row (at least with more stocks rising than falling) of higher markets. Like a rubber band pulled to breaking point, the markets are demonstrating the need to pull back a bit before embarking upon even higher levels. Given the huge participation in the rally from the February bottom, we are expecting the markets to have a modest 5-7% correction and then another jump to maybe the 1200 level (which marks the area of prior lows in July & Sept of ’08). If we are drawing up what is to happen, the rally back toward 1200 on the SP500 should involve less participation and better performance from the weaker sectors (like telecom and utilities). At that point we should be able to see divergences that would point to a more significant correction taking the markets down by more than 10% during the summer months. Since we don’t have complete control of the markets, we’ll be watching the various signposts to help determine whether the markets are following our outline or one of their own.
The rally in the utility averages and modest decline in commodity prices has put the bond model on a buy signal for the first time six weeks. While too early to say this will last more than a week or two, a couple of items should be noted for bond investors. First, short-term rates as measured by the 13-week Treasury bills, have increased from well below 0.10% to their highest levels since last August (0.17%, whoppie!). However, long-term rates have also increased, keeping the spread between short and long-term rates above 4% for over 40 weeks. The very steep yield curve is supposed to help bank earnings, which we will see in a few weeks. For now, look at a potential decline in overall yields.
© 2010 Paul J. Nolte, CFA
The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.