The Tycoon Report

Is the Market Run-up Real, a Covering or a Cover-up?

Monday, April 20, 2009 | Barbara Cohen

Economists tell us that the stock market is a leading indicator to the economic market. That is, the stock market will run up first and the economy, lagging behind, will eventually catch up.  Financial, energy, construction and industrial stocks must lead the way before consumer-based stocks can take hold. 

The $64 million question, therefore, is whether this is the truth, a half-truth or if there's no truth to it at all.

Let's take a look at last week's economic data and see what the truth really is. 

On Tuesday, the Retail Sales report was released.  I told you in my last article to expect this to be a bad report, and it lived up to those low expectations.  Analysts had forecast a 0.3% increase in retail sales, but sales ended up being down 1.1%.   Autos, electronics, apparel and restaurants led the decline. I could have told them not to forecast so outlandishly when I saw the same-store sales reports from the chains the week earlier!

What does this report really show us? That the consumer has not been part of the market recovery at all.  Moreover, this is probably not the best time to buy retail stocks.  (For the year, retail stocks are down 21.3% overall.)

That wasn't the only economic landmine on the field last week.

Springing Forward, Falling Behind

This past Wednesday, we saw what the market considers to be an inconsequential report, released at at time (9:15 a.m. Eastern) when traders are probably drinking coffee.  CNBC ran an ad during the release, showing us what they thought of the news.

What was this report?  None other than the Federal Reserve's Industrial Production and Capacity Utilization report. In March, industrial production fell 1.5% following a similar decrease in February. For Q1, output dropped at an annual rate of 20%.

Get this ... industrial production has not been this low since World War II.  Franklin D. Roosevelt and "The New Deal's" Works Progress Administration (WPA), where are you? 

On Thursday, the weekly initial claims were released.  Employment numbers are one week behind, and the previous week was shortened by Good Friday.  Even given the shortened workweek, the following states reported an increase in layoffs across many sectors over the previous week.  Imagine if it had not been an abbreviated workweek: 

• Minnesota
• Tennessee (manufacturing)
• Washington (manufacturing)
• Colorado
• Arizona
• Illinois (construction and manufacturing)
• Louisiana (auto)
• Arizona (manufacturing)
• Georgia (manufacturing)
• North Carolina (textiles, transportation, electronics)
• Pennsylvania (construction)
• New Jersey (construction, manufacturing)
• Missouri (manufacturing)
• Michigan (auto)
• Texas also reported significant layoffs in the finance, information, trade, service and manufacturing industries and, this week, that state announced that it wants to secede from the Union. (Of course, only after it receives its share of the federal government's stimulus money!)

So much for the industrial sector being a leading indicator.

Is Oil Worth Our Investing Energy?

Take a look at the energy sector.  Shouldn't this be a leading indicator as well?  Well, here's a chart for the last month of trading for the AMEX Oil Index (XOI). 

While the index had come off February's lows, since then it has been treading water, very much trading-range-bound.

                 

Being range-bound has been true for the price of gasoline as well.  In the last month, prices have fluctuated less than 20 cents, up or down. 

And while no one is talking about this, the oil industry has been quietly laying off its labor force.  The Houston Chronicle reported a 5% cut in North American jobs due to reductions in the level of activity within the oil field sector.

Housing: Due for a Run-up, or is it Better to Run Away?

What about the housing industry?  Surely that sector is enjoying some part of the stock market run-up, right? 

On Thursday, along with the unemployment news, The U.S. Census Bureau's Building Permits and Housing Starts reports were released.  Again, outlandish forecasts were made, as 560,000 housing starts were projected and only 510,000 were realized.  There were 545,000 building permits forecast with only 513,000 actual.  This is an 11% drop, along with a revised downward estimate for February. 

Construction firms are consolidating. Those that still have cash are consuming the smaller firms (i.e., Pulte Homes bought Centex). 

This week, RealtyTrac announced that foreclosure filings (default notices, auction sale notices and bank repossessions) for U.S. properties reached 341,180 in March, a 17% increase over February.   It would appear that construction is not a leading indicator.

The Treasury Report Tells All

Which brings us to the financials.  Last week, I told you we would walk line-by-line through the report that I consider to be the most important that's issued each month. 

This report is so critical that the Feds only release it two months in the rears, fearing what economists would say if it were current information.  (Most other reports are just one month behind.) 

This is the Treasury International Capital (TIC) report that came out last Wednesday.  It tells us how much money is flowing into the country and how much is flowing out. 

Hold on to your horses. ...

The report compares February '08 with February '09 (yearly difference) as well as showing January '09 for a one-month comparison.  There is a summary version as well as detail by international regions (Asia, Europe, Middle East, etc.).  We'll cover some of the more-important data points below.

This report is the truth.  If money is not flowing into the United States, there can be no recovery. 

• Domestic Securities Purchased (in billions)
  Feb 08 -- 937.3   Feb 09 -- 280.8
• Foreign Securities Purchased (by U.S. residents)
  Feb 08 -- -233.5  Feb 09 -- 113.8
• Net Foreign Acquisition of Long-Term Securities
  Feb 08 -- 472.1   Feb 09 -- 199.2
• U.S. Treasury Bills Foreign Holdings
  Feb 08 -- 210.9  Feb 09 -- 262.3
• Private Net Tic Flows
  Feb 08 -- 182.0  Feb 09 -- 190.5
• Foreign Government Net Tic Flows
  Feb 08 -- 304.4  Feb 09 -- 124.2

What can we tell by this?  Foreign governments (Europe, Japan, China, Arab Nations) have cut their purchasing of U.S. stocks and bonds by two-thirds. 

Let's look at whose buying U.S. Treasury bonds in the report by continent (in millions):

Europe --  Only Poland (536) and Turkey (585) bought U.S. Treasuries
Canada -- Bought (1,259)
Latin America -- Mexico (483)
Caribbean -- 334
Asia -- South Korea (2,072) Japan (25,855) Hong Kong (3,348) Philippines (650)

Want to know who really owns this country?  Look at how many bonds Japan bought!!!

After adjustments for repayments of debt, the total was -1,952 (that's right, minus). 

If we combine all instruments -- Treasuries, corporate bonds, etc. -- we come up with -9,407 for all foreign official institution holdings for February.

Houston, We Have a Problem ...

More money is flowing out of America than in.  New Treasuries are created and are bought monthly, but the revenue from the sales just goes to repay existing debt.   It's no different than if you or I had thousands in credit card debt.  All our monthly payments would go toward paying the interest, and we could never get out from under.

So while the PPT (look at the end of last week's article for who they are) has kept the market propped up for the last few weeks above 8,000, is it a truth that the market is a leading indicator in advance of a recovering economy, a half-truth or no truth at all?

In other words, is it a Cover-ING or a Cover-UP?

You make the call.

This Week's Economic Calendar

This week is relatively light on economic data.  The market (as represented by the Dow Industrials) will probably remain propped up above 8,000, so stay long.  Be careful shorting against a market that is being propped up. 

On Monday, we have Leading Indicators.  Another outlandish prediction has been made for these, so anything that comes close will be considered a good report.

On Wednesday, the existing home sales report comes out.  I love this report. It has a margin of error of about 30%.  That's right, 30%.  Think that might be a good report? 

The key to this particular report is not the current data, but instead last month's revision number (if you really want to know the truth).  But the market only trades the current number; it really don't look at the revision.  The other important element of this report is to determine what percent of the existing homes that were sold were foreclosures or short sales.  For the last several months, foreclosures have been upward of 50% of all sales.

On Friday, we'll see Durable Goods orders.  I can almost guarantee you that this will be a positive report.  The outlandish expectations are -1.2% when last month was 3.9%.  Come on, who are they kidding?  If the report comes in flat at 0, the market will go up.

The last report for the week is the New Home Sales report.  Watch Wednesday's existing home sales report for a clue on what will happen with this report on Friday ... generally, they are both either positive or negative.  Rarely is one a good report and the other a bad report.  And, again, this report has a margin of error of 30% as well. 

Makes you wonder why they bother to release these reports in the first place, but we'll keep reviewing them here so that you know what to expect, what to believe and how (or how not) to play them in the markets!





Barbara Cohen
Contributing Editor
The Tycoon Report


Economic Calendar for the Week of April 20-24

THURSDAY, APRIL 23

8:30 a.m. Initial Unemployment Claims

    * Importance (A-F):  This release merits a C .
    * Source: The Employment and Training Administration of the Department of Labor.
    * Release Time: 8:30 a.m. Eastern each Thursday (data for week ended prior Saturday).
    * Raw Data Available At: http://www.dol.gov/opa/media/press/eta/main.htm

Initial jobless claims measure the number of filings for state jobless benefits. This report provides a timely, but often misleading, indicator of the direction of the economy, with increases (decreases) in claims potential signaling slowing (accelerating) job growth. On a week-to-week basis, claims are quite volatile, and many analysts therefore track a four-week moving average to get a better sense of the underlying trend. It typically takes a sustained move of at least 30,000 in claims to signal a meaningful change in job growth.

Highlights

    * The latest weekly initial claims report carried a mixed message, as initial claims declined 53,000 to 610,000 (consensus 660,000) while continuing claims rose 172,000 to a record 6.02 million.

    * What these disparate readings indicate is that the pace of layoffs is slowing, but that it isn't getting any easier to find a new job.

    * The 4-week moving average for initial claims fell to 651,000 from 659,500.  The 4-week moving average for continuing claims moved up to 5.8 million from 5.65 million.

Key Factors

    * The stock market's initial impression of the report was positive, since a slowdown in the pace of layoffs is the first step in restoring the view that job security for existing workers is improving.

    * This report isn't great news (there were still 610,000 jobless claims), but it was helpful news from a psychological standpoint that is feeding the idea that the economy may be in a bottoming process.

Big Picture

    * New claims for unemployment are at recessionary levels, as the financial crisis on Wall Street spilled over to Main Street in noticeable fashion with the seizing up of the credit markets in late summer/early fall 2008.


FRIDAY, APRIL 24

8:30 a.m. Durable Goods Orders

    * Importance (A-F):  This release merits a B.
    * Source: The Census Bureau of the Department of Commerce.
    * Release Time: 8:30 a.m. Eastern around the 26th of the month (data for month prior).
    * Raw Data Available At: http://www.census.gov/ftp/pub/indicator/www/m3/index.htm

The durable orders release measures the dollar volume of orders, shipments and unfilled orders of durable goods (defined as goods whose intended lifespan is three years or more). Orders are considered a leading indicator of manufacturing activity, and the market often moves on this report despite the volatility and large revisions that make it a less-than-perfect indicator. These problems can be minimized by looking at the breakdown of orders. The total number is often skewed by huge increases in aircraft and defense orders. An increase based solely on strength in one sector tends to be discounted, while the market is more impressed with broad-based increases in orders.

Highlights

    * Orders for durable goods increased 3.4% in February (consensus -2.5%), breaking a six-month streak of declines.  Excluding transportation, orders rose 3.9% (consensus -2.0%).

    * The January numbers, however, were both revised noticeably lower with total orders down 7.3% (prior -5.2%), and orders, excluding transportation, down 5.9% (prior -2.5%).  Taking these revisions into account, the February data ends up being much closer to expectations.

    * The latter point notwithstanding, the February data still don't look as dour as the prior month when declines in orders and shipments were seen for just about every industry grouping.  Notably, new orders for machinery increased 13.5% in February.  Computers and electronic products orders were up 10.1% and defense aircraft and parts orders were up 32.4%.

    * Non-defense capital goods orders, excluding aircraft, jumped 6.6%, which is a hopeful sign for business investment.  However, it is too early to read too much into this one-month increase, which could be more of a temporary bounce after a 11.3% drop in January and a 5.9% decline in December.

    * Unfilled orders declined 1.3% and inventories dropped 0.9%.

Key Factors

    * Total shipments fell 0.5% in February, following a 5.2% decline in January, so the business investment component of GDP can still be deemed to be on the poor side of things.

Big Picture

    * Durable goods orders are trending sharply lower.  Durable goods orders, and total factory orders (which include nondurables orders), had shown surprising strength given overall economic conditions.  Now, however, the widespread broadcast of an economic crisis has manufacturing firms pulling back.  In addition, the weak dollar has turned stronger.  The weak dollar has been a huge boost to U.S. exports and durable goods orders.  This impact will fade over early 2009.  The manufacturing sector, which had been extremely resilient, will now probably head into a sectoral recession.


10 a.m. New Home Sales

    *  Importance (A-F):  This release merits a C .
    * Source: The Census Bureau of the Department of Commerce.
    * Release Time: 10:00 ET around the last business day of the month (data for month prior).
    * Raw Data Available At: http://www.census.gov/const/newressales.pdf

The report indicates the level of new, privately owned one-family houses sold and for sale. New home sales usually have a lagged reaction to changing mortgage rates. They also tend to be stronger early in the business cycle when pent-up demand is strong, and they fade later in the cycle as the demand for housing is sated. In addition to home sales, the market monitors the number of homes for sale relative to the current sales pace. As this inventory measure falls (rises), housing starts tend to rise (fall). Finally, the median home price provides an indication of inflation in the housing sector, though only year-over-year changes provide any meaningful information.

Highlights

    * New home sales in February increased 4.7% to a seasonally adjusted annual rate of 337,000 units.  That was well-above the consensus estimate of 300,000, but was still 41.1% below the year-ago level.

    * For home sales, however, the sequential comparisons are more meaningful than the year-over-year comparisons, as the market is desperately looking for evidence that suggests a bottom is forming.  In this respect, then, the February report will be taken at face value as an encouraging sign.

    * It is too early, though, to make a definitive bottoming statement, considering that the February sales level was still 9% below the level seen in December and given that the supply of unsold new homes stands at 12.2 months.  The latter is an improvement from 12.9 months in January but is above the December reading of 11.6 months.

    * Median prices continue to decline, slipping 2.9% in February to $200,900.

    * By geographic region, new home sales were down 3.3% in the Northeast in February, down 9.1% in the Midwest, up 9.7% in the South, and up 6.6% in the West.

Key Factors

    * The drop in mortgage rates should be a helpful demand driver, but excess inventory of existing homes for sale and their lower median prices will continue to pose a challenge as the new home sales market attempts to find a convincing bottom.

Big Picture

    * New home sales are in worse shape than existing home sales.  New homes suffer from a large surfeit of unsold homes and the fact that new homes are frequently bought by first-time buyers.  That market is in difficult shape due to credit issues.  Existing home sales are often purchased by more-creditworthy borrowers and can be more broadly in areas where demand is more steady.  The outlook for new home sales will remain poor for some time.