It is almost as if the news came from two different worlds. First, there is Europe. Colin Barr (one of our featured sources, now writing more fine articles than ever in an expanded role) explains why you should not "sweat Europe". His article cites several good sources explaining why there will be an eventual solution and contrasting this with the failure to recognize solid domestic news. Regular readers will recognize these themes from my work of the past month, but it is nice to have Colin and his sources in my camp. Please read the entire article.
By contrast, the focus of interest for policymakers and for the "attentive public" has already moved to new subjects. As an investment manager it goes with the territory to know what is going on. I want to know what is happening and what might happen next.
I have had a number of questions about what I read and how I decide what to follow. I attempted a summary for today's WWA piece, but I quickly realized that it is too complicated. I read too many different sources, each providing something valuable.
For the moment I am going to make a broad generalization about a duality:
- The "real world" has moved on from the European debate. You can look at any MSM source from this weekend to discover the top concerns. There is an understanding that the story is going to play out over a matter of many months.
- By contrast, the financial world has a complete fixation on Greece, Spain, and Portugal. There is a tick-by-tick following on CNBC, with special commentary from tea party hero Rick Santelli. Every trading floor is focused on comparing European countries with failed US investment banks.
Is Greece the next Bear Stearns? Is Spain the next Lehman? These are the questions emphasized in the financial media. One of the worst features of CNBC is the penchant for taking a stupid question and posing it to people who could not possibly know the answer.
The very posing of the question biases the entire enterprise and reduces the value of their information for the individual investor. The problem is that CNBC is catering to their (ever-declining) pool of current viewers and not offering help to the broader audience they desperately need.
This is the reality, and we must recognize it. I will do my regular analysis from this perspective. I will start with the "real world" in the analysis of the "good" and the "bad." We'll look at Europe in the weekly attention to the "Ugly." But first, a little background.
Background on "Weighing the Week Ahead"
There are many good services that do a complete list of every event for the upcoming week, so that is not my mission. Instead, I try to single out what will be most important in the coming week. If I am correct, my theme for the week is what we will be watching on TV and reading in the mainstream media. It is a focus on what I think is important for my trading and client portfolios.
Last Week's Data
The actual data from last week generally beat expectations . If you
had just
been reading the news flow from the US, you would never have predicted
the wild swings and negative bias. Let us take a closer look.
The Good
The economic news hit the right notes for the key indicators.
- Home prices moved higher and sales were much stronger. Check out Calculated Risk for a good summary. The general media spin attributed this to the expiration of the homeowner tax credit. In general I agree that the credit "pulled forward" some buying. Meanwhile, I know a few people who are buying right now. I asked why they "missed the credit." Their explanation was that they could get a good bargain right now -- that sellers were well aware of the credit. Interpreting these effects is pretty tricky. Critics of cash for clunkers (including me) were wrong, for example. Some of the programs are working better than originally expected.
- The sentiment data was pretty good -- at least in line with expectations, but still lower than I need to see for strong job growth.
- The stimulus program helped the economy in Q1. Only half has been spent so far. Most people do not realize either of these points, so this contributes to the overall negativity.
- Truck tonnage was up in April.
- Mortgage rates declined yet again. The rates are close to all-time lows. This is a complete refutation of the predictions of many that rates would spike in the absence of Fed buying. I understand that there has been a flight to quality in bonds and the dollar, but let us be fair about this. There were many highly-publicized pundits who have been wrong about this one. When do they expect the prediction to come true?
The Bad
Some of the economic data were a little soft.
- Initial jobless claims remain elevated at 460,000. This was down a bit from the prior week, but nowhere close to the level needed for solid net job growth.
- Personal consumption was unchanged. While levels are much higher than the collapse predicted by many, there is a need for growth.
- The ECRI growth index has declined again. The ECRI leading indicators are still at a level showing solid growth. There has been a decline from the post-recession spike. The ECRI does not see another recession on the horizon, but others are predictably putting a more bearish spin on their data. We shall see.
The Ugly
The daily trading was ugly, although the net change for the week was not dramatic. It was all about Europe.
The European story continues to dominate financial markets, even though most have moved on. Here is the challenge for traders.
The Truth about Europe
A reasonable projection of impact for the US is not that significant, which is why most people have moved on to other challenges in the wake of the responses of the European Union and the IMF. The New York Times emphasizes this point, which you could also have read on "A Dash" in this article.
Another good approach is to follow actual data. The TED spread (treasury over eurodollar) was a good indicator of stress in 2008. While it is slightly above normal levels (38 bps or so) and shows an increase over the month, it is nowhere close to the 350 to 460 bp's of 2008. This provides little support for those using the domino analogy.
The Rumor Mill
During Wednesday's trading a rally was turned into a major loss because of an article in the FT. The story was interpreted as an indication that China was going to dump Euro's from their reserve holdings It was a "scoop" and the impact was dramatic.
Any knowledgeable observer would be skeptical of such a report. The Chinese have embarked upon a tilt toward more European exposure. A change in policy, as improbable as that might be, would be likely to affect future buying, not current holdings. Most importantly, as net exporters the Chinese are likely to be stocking up on all currencies until and unless they adjust exchange rates. This is what you should know before trading on this rumor.
The market reacts to headline news, so the rumor-based selling was dramatic. If you were a trader, you had a chance to pounce on the headline, but you needed to cover before the expected overnight denial. It all took only a few hours, spread over two trading days. If you were an individual investor you had to avoid a major blunder.
As expected, the revised FT story came out here.
The conclusion they reached is that "investors were left guessing" about China policy. Another interpretation would be that their scoop-oriented reporting introduced the uncertainty. When a story is implausible, why not really nail it down before doing something that generates a big market swing? The original story had plenty of qualifications and nuance, but no one reads that.
It is like crying "fire" in the theater. The FT is one of my featured sources, but this needless roller coaster was not good for most investors -- only for very sharp traders.
And finally, Friday's trading saw steep selling from a Fitch downgrade of Spain's credit. Fitch joined S&P. Both are concerned about growth prospects given planned austerity. Presumably they would also have been concerned in the absence of austerity. Despite the inevitability and predictability of these ratings, they do have an impact for some holders of debt.
Dealing with the European News
The European situation is going to take many months -- perhaps even years -- to unfold. The best thing investors can do is to understand that this is not a replay of 2008. This article by James Altucher is a good place to start. You could also review my WWA articles from the last several weeks, all of which covered this theme.
At some point the continued playing of the same song will no longer influence trading, but apparently we are not there yet. Meanwhile, it is a difficult trading market, featuring both risk and opportunity.
Our Trading Forecast
Our own indicators turned neutral two weeks ago and remain so this week. That was our vote in the weekly Ticker Sense Blogger Sentiment Poll. As you can see from the data, the call could easily be a bearish tilt. It is only the general volatility that suggests a neutral posture. Here is what we see:
- Only 9% ( 33% last week) of our ETF's have positive ratings. This is very weak.
- The median strength is only -35 (down dramatically from -5 last week). This is a major negative.
- 100% (same as last week) of the sectors are in the "penalty box," showing an extremely high level of uncertainty and risk.
- Our Index Package now has a very strong negative rating.
[For more on the penalty box see this article. For more on the system ratings, you can write to etf at newarc dot com for our free report package or to be added to the (free) weekly email list. You can also write personally to me with questions or comments, and I'll do my best to answer.]
For short-term accounts we were neutral. We currently have no positions.
The Week Ahead
The most important data by far will be the employment situation report on Friday. Most observers are looking for a big number, but I have my doubts. I will look to Tuesday's ISM report as the last input for my model and do my regular forecast at mid-week.
Investment Implications
For short-term trading, our three-week time horizon, the models indicate that the uncertainty is just too great. We have no positions. This position is a matter of daily review.
For long-term accounts, there are still many attractive stocks. This is especially true in technology where the upgrade story is intact, and the stocks have declined in the general panic.
I still expect a decline in volatility. At some point the Europe story will be played out, and it will be back to the interpretation of economic data. We are still two months away from the next earnings reports.
