EARNINGS OR ECONOMICS?

Over the last week, earnings have trumped economics as earnings reports have been outstanding and economic reports have been anemic to poor.  Europe continues to boil over as Spain is nearing where Greece found itself several months ago.  Apple, Amazon and a host of other companies have posted blow out earnings that have provided enough fuel for the markets to withstand the onslaught of negative economic news.  We will continue to see a flurry of earnings over the next couple of weeks and hopefully they will continue to impress and lead this market higher.  QE3 also lurks in the background and there is talk again that "bad news" is "good news" in that continuing bad economic news will force the Fed to launch another round of liquidity.   The latest Fed easing is scheduled to come to a close at the end of June so we may see something sooner rather than later if the economic news continues to falter as we head into the summer season.  Sell in May?  We'll see but for now the market is weathering the storm and continues to be bound by the highs of April 2nd and the lows of April 10th.   The S&P currently trades in the middle of this range and a break in either direction will likely set the stage for the next month or two.  

Market Vulnerable?

For the first time in a few months, the markets are showing signs of vulnerability.  Over the last few days, market volatility has picked up with larger than usual moves in both directions.  This indicates a struggle between the bulls and the bears.  Key levels we are watching are the S&P highs of April 2, 2012 (1,419) and the lows of Monday April 10, 2012 (1,358).  A break to the upside would lend credence to a resumption of the bull market trend, while a break below would indicate a more significant correction is at hand.  That correction could stretch 3-7% from the levels of yesterday's close.  Earnings will drive this market over the next 2-3 weeks and surprises either way will push the market one way or another.  The return of European market weakness is a harbinger of potential troubles ahead.  There will be lots to look at and evaluate over the coming days.

MAKE OR BREAK

The markets have trended up with low volatility since mid-December.  With little to no correction or pause, the markets are getting a bit extended at these levels.  A healthy market would do a little backing and filling at these levels to digest the gains and prepare for the next surge upward.   In contrast, a continuation of this pattern would be deemed unhealthy and would set the stage for an unpleasant and potentially steep sell-off down the road.  In principle, the farther an instrument advances without a pause or rest, the more pronounced the inevitable pause/rest/selloff will be.

With the recent lack of volatility, is the market trying to tell us something or just ignoring reality?  Some would argue the latter but the market is usually right and the decreased volatility is more likely the market's response to what it deems likely outcomes in the US and abroad.  The low volatility uptrend will not continue indefinitely and is getting a little long in the tooth.  The next correction, whenever it comes, will tell us much about where this market is headed over the foreseeable future.  The major indices are at or nearing their 2011 highs and thus approaching significant resistance.  Pushing through these levels would be a huge jolt in the arm for markets that seem to want to go up.  There is still much that could derail the weak economic recovery.  The most obvious source of potential problems is Europe.  It is hard to envision a scenario in which Europe overcomes their current sovereign debt problems without major economic upheaval, but if they were able to figure out how to accomplish just that, this huge negative for the global economy would become a powerful positive force.

The Federal Open Market Committee (FOMC) meets today and tomorrow so market action may be muted until the meeting is concluded.  There will not be any change to the two key interest rates that the Fed controls directly but there could be changes in the statement language that hints of future Fed policy.  Several voting members have changed since the last meeting and the new makeup of the FOMC is considered to be more dovish on inflation and therefore more apt to consider another round of quantitative easing (QE3).  Any hint of QE3 would likely be positive for stocks in the short-term.  If QE3 is a valid Fed alternative, they are likely to act soon so as to avoid any perception that they are trying to influence the election process.  Additionally, if there is another round of easing it will almost certainly be aimed at the mortgage market to attempt to restart a lagging housing market.  This will be an area to watch closely as things develop over the coming weeks.  Lots to look at and digest.  It is always interesting...

Sam and Bo

ALL THAT FOR WHAT?

The markets closed 2011 with a whimper today as the S&P closed the books with a small loss that brought the index to within a point of where it opened the year.  It was a tumultuous year to be sure with lots of wild swings and a treacherous environment for active investors and those buy and holders that could not withstand the 10% plus drops that happened.  2012 promises to be another challenging year with European problems still on the horizon and not behind us yet.  That said, we believe that 2012 will be a good year in the end.  Our focus the last few months has been much more on capital preservation.  That will continue as we enter the New Year. 

The lackluster end to 2011 will likely lead the way for an fast moving January as traders make bets on the winners for the coming year.  Volume will pick up significantly and we will soon get a sense of whether the modest December rally has enough legs to carry the market further for a little while.  With a short first week of January, it may end up being the second week before we get a true sense.  We are watching things closely as the next few weeks will be key to the 2012 year.  Sam and I wish you all a prosperous, healthy and wonderful 2012! 

More of the Same or Is This Time Different

Stock futures are up sharply this morning on news that the US Federal Reserve, the European Central Bank, the Bank of England, and the central banks of Canada, Japan, and Switzerland announced a coordinated plan to increase availability to dollar liquidity for financial institutions.  The action takes the immediate pressure off of European banks just as they were showing signs of an increasing liquidity crises.  While the short-term impact is certainly positive, the longer term effects are unknown.  The current market is dependent upon government intervention for any positive movement.  That is not to say that this rally can't last for some time.  After the windfall decline over the last few weeks, we will have to wait and see whether or not the US indices can get through the levels of resistance laying before them.  The S&P will open above its 50 day moving average and the next level of resistance rests at the 200 day moving average.  That level is at 1233 just a few points above where the S&P will open. 

The December 9th meeting of European leaders lies on the horizon.  That meeting could yield a longer term solution or could bode ill for the markets if it leads to no unified action.  The markets continue to be driven by political maneuvering which makes it extremely difficult to trade this market.  It becomes a coin flip on whether or not the market is going higher or lower on any given day as technical and fundamental analysis takes a back seat to the whims of politicians.  Our portfolios are currently market neutral - waiting on some direction.  We are watching closely.

Volatility and More Volatility

Market weakness continued today with no specific catalyst.  U.S. economic news has generally been good and improving over the last several days.  However, headlines in Europe regarding their credit crisis and the growing yields on specific country bonds have created an environment of continued unease and uncertainty.  That could change at any time as the European situation is very fluid and positive headlines could move the market sharply higher.  Similarly, more negative news could quickly turn this market very ugly.  As we have discussed a number of times, basing investment decisions on the whims and conversations of politicians is a virtual coin flip.  On the U.S. front, recent news that the Congressional super committee tasked with reducing our country's deficit may have trouble (surprise) reaching a consensus provided additional nervousness over the last few days.  One of our equity positions was stopped out today, so we have liquidated it and moved to a little more defensive posture until the current weakness plays out.  Technically, the S&P broke a key level of support today so the bulls will have to make a stand soon.  We continue to believe that the market will rally into year end but it may start from lower levels than the market close today.  Time will tell and we are watching things closely.

Italy Woes

The US markets sold off hard this morning as fears about the stability of Italy reemerged.  European markets were down 2-3% as the 10 year Italian bond yields reached historic levels.  The resignation of Italian prime minister Berlusconi was shrugged off yesterday but reconsidered today.   As the 8th largest economy in the world, Italy's economic stability is much more important than Greece's.  The debacle that accompanied all things Greece will pale in comparison if Italy follows the same path.  It is a very fluid situation and one we are obviously watching very closely. 

US markets are off their lows and it will be important to see how the market closes this afternoon.  A vast majority of mutual funds and advisors have underperformed this year and will be anxious to buy any dips in the market.  This buying pressure could keep the end of the year rally intact.  1220 on the S&P is a key number to watch as a breach of this on the downside would indicate further weakness and would call into question the rally that began in early October.