Final Trading Week of 2011!

Friday, December 30, 2011
Stock Market Commentary:

Stocks ended the final trading week of the year lower as 2011 finally came to an end. Hopefully, 2012 will be a better year for U.S. equities and risk assets. From our point of view, Friday marked Day 8 of the current rally attempt which means the window is now open for a new follow-through day to emerge [as long as Tuesday’s (12/20/11) lows are not breached]. The benchmark S&P 500 index ended virtually unchanged for the year and near its 200 DMA line which has served as stubborn resistance in recent months.

Monday-Wednesday’s Action: Euro, Gold & Stocks Fall

On Monday, all markets in the U.S. were closed in observance of Christmas. Stocks opened higher on Tuesday which marked the beginning of one of the strongest week’s of any year. Historically, the U.S. stock market tends to rally during the last week of the year (between Christmas and New Years) but ended lower in 2011. Stocks were quiet on Tuesday after investors digested the latest round of mixed economic data. The Case-Shiller Home Price index fell for the second straight month in October across much of the nation. Elsewhere, the Conference Board said its consumer confidence index rose to 64.5 in December from a downwardly revised 55.2 in November. This easily topped the Street”s estimate of 58.3 and since the consumer makes up approximately 2/3 of the U.S. economy, stronger consumer confidence bodes well for the economy.

On Wednesday, stocks and a slew of other risk assets fell after Euro-zone banks deposited record amounts of cash at the ECB. The news came one week after the ECB provided unprecedented levels of liquidity to help alleviate a credit crunch. Last week, the ECB lent 520 EU banks a record 489B euros for three years to help reduce tension in the financial system. The report showed that EU banks deposited a record 412B euros ($539bn) over the Christmas holiday to take advantage of the attractive spread (For those that are interested, the previous record was 384B euros deposited in June 2010). An easy way for banks in the current central bank friendly environment to profit is to make money from the spread between how much they pay for the loan and how much the collect when they deposit the money with their central bank. Normally, a central bank lowers its lending rate to help stimulate the economy. The idea is that banks will lend more money to the public because they are paying less for it. However, in recent years the banks have not really been lending the money to the public and instead deposited the money back with the central bank to capitalize on the spread, due to excessively low lending rates at the ECB and U.S. Fed. Currently, the ECB deposit facility offers an attractive0.25% interest rate which is much lower than the 1% offered for the three year loans. Another reason why banks are reticent to lend is because they do not have “faith” in the economy/the public at this juncture.

Thursday & Friday’s Action: Italian Bond Auction, Jobless Claims, & Pending Home Sales

On Thursday, stocks opened higher as investors digested a host of economic data. Italy managed to sell 7.02 billion euros ($9 billion) of bonds which missed their target but borrowing costs fell which helped allay concerns regarding the health of the Italian government to finance the world’s fourth largest debt-load. In the U.S., the labor department said weekly jobless claims rose by 15,000 to a seasonally adjusted 381,000 but remained under the closely followed 400,000 level for the fourth straight week. The report was a little worse than the Street’s expectations for 375,000. Elsewhere, pending home sales rose by +7.5% in November which easily topped the Street’s estimate and is the highest level in 19 months. Stocks ended lower on Friday but ended mixed to flat for the year.

Market Outlook- In A Correction

Risk assets remain under pressure as gold continues trading below its 200 DMA line and other capital markets continue to fall. Gold’s short term 50 DMA line has undercut its longer term 200 DMA line which is also known as a death cross (quoted here) We find it very disconcerting to see other (leading) risk assets close near their 2011 lows. China’s Shanghai Composite (normally a leading risk on/off indicator) has fallen below its October low and hit a new 2.5 year low. The euro, which is strongly correlated to U.S. stocks and other risk assets also took out its October low on Tuesday (12/13) which is not ideal. Other risk assets such as Oil, Silver, Copper, etc are also under pressure which suggests the global risk off trade is getting stronger.  As an easy reference point, if the benchmark S&P 500 would simply fall to its Oct low, that would be 1074! Sometimes, caution is king.

What we have seen from the October 4, 2011 low was simply an over sold bounce into a logical area of resistance (200 DMA line). Now that the 200 DMA line was taken out it will be important to see how long the market can stay above this important level. If you are looking for specific help navigating this market, feel free to contact us for more information. That’s what we are here for!