Last week, we witnessed the creation of an entirely new definition for the concept of "slippage."

If we look at Wikipedia, its definition for "slippage" is the difference between estimated transaction costs and the amount actually paid. How amateurish and naive can Wikipedia be?

No, these days the new definition for "slippage" seems to be defined -- at least by Goldman Sachs -- as "let's trade in front of everyone. We'll get filled and what's left to fill is what anyone else gets. Why? Because we, at Goldman Sachs, are 'risk-averse.'"

Now, I'm not picking on GS for the fun of it. But last week, supposedly GS was very quietly told that it could no longer do computerized quant trades at the New York Stock Exchange.

What exactly is "quant trading"?  Quantitative (or quant, for short) trading encompasses investing techniques employed by sophisticated, technically advanced hedge funds or brokerages.

Quant shops use ultra-fast computers to predict trading patterns inside financial data.  A "quant," also known as a "geek,"  now refers to programmers who code quantitative-analysis algorithms for insider computer trading.

Is quant trading illegal?  Ordinarily, no, but the way Goldman Sachs coded the program seems suspicious. And, by the way, it is reported that GS represents 60% of program trading.

In order to trade from your desktop, your computer program sends your offer to buy or sell to the exchange.  The computer program that is behind the scenes of your desktop-trading platform uses what is known as a "FIX" protocol.  FIX is now generally considered the industry standard. 

Seems what the GS program can do is intercept the FIX messages being sent to the exchange from the large institutions, interpret what was is being bought or sold, and then put their trade in ahead of those trades for the same buys or sells.  Then the trades coming in afterward may or may not get filled, depending upon how large GS's trades were. 

How would this work in the marketplace? Say an institution wanted to sell 10,000 shares of IBM.  GS would intercept the message, and sell 10,000 ahead of the institution.  Say only 12,000 shares were available to sell.  GS would sell its 10,000 and the institution could only sell 2,000. 

A new definition for "slippage," right?

What is being investigated is whether GS illegally used security-access codes to acquire the messages prior to "transaction_commit" timepoints at the NYSE.  This may have only resulted in a nanosecond trading advantage but, with ultra-high-speed computers, a nanosecond is a lifetime.  

How was GS found out?  Because quant trading recently hit an all-time high of 48.6% of all NYSE trading.  And since GS represents 60% of all program trades ... hmmm, well, you do the math.  The NYSE keeps close tabs on program trading and was startled that nearly half of all trades suddenly came from program trading.

Wasn't it Goldman Sachs that received $12 billion in bailout money to help it overcome complete disaster?  One might opine that GS makes money the old-fashioned way ... by stealing it.

Who leaked the story? Matt Goldstein at Reuters.

We'll keep an eye on this to see how it unfolds and whether we're looking at a scandal or just another day on Wall Street. But since truth tends to turn out far stranger than fiction, it all makes you wonder why anyone would want to buy stocks. 

Thanks, but for my money, I'll just stay on the Chicago Mercantile Exchange (CME) side, where I trade futures -- away from the NYSE!





Barbara Cohen
Chief Investment Officer
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TUESDAY, JULY 14

8:30 a.m. Producer Price Index

    * Importance (A-F): This release merits a B-.
    * Source: Bureau of Labor statistics, U.S. Department of Labor.
    * Release Time: Around the 11th of each month at 8:30 a.m. Eastern for the prior month.
    * Raw Data Available At: http://stats.bls.gov/news.release/ppi.toc.htm

The Producer Price Index measures prices of goods at the wholesale level. There are three broad subcategories within PPI: crude, intermediate and finished. The market tracks the finished goods index most closely, as it represents prices for goods that are ready for sale to the end user. Goods prices at the crude and intermediate stages of production often provide an indication of coming (dis)inflationary pressures, but the closer you get to crude goods, the more that these prices track commodity prices which are already available in traded indexes such as the CRB (Commodity Research Bureau).

At all stages of production, the market places more emphasis on the index excluding food and energy, referred to as the core rate. Food and energy prices tend to be quite volatile and obscure trends in the underlying inflation rate. Though the market reaction is determined by the month/month changes, year/year changes are also noted by analysts. The index is not revised on a monthly basis, but annual revisions to seasonal adjustment factors can produce small adjustments to past releases.

Highlights

    * The core rate for May PPI was -0.1%.  The total PPI was up 0.2%.  Both were less inflationary than expected.

    * The core rate fell 0.1% after rising 0.1% in April and being unchanged in March.  It is thus net zero over the past three months.  The core rate is now up 3.0% over the past year.

    * The total increase of 0.2% in PPI was less than an expected 0.5% gain as energy was up a bit less than expected at 2.9% and food was a weak -1.6%.  Energy prices could well rise the next few months, but weak demand should keep the core rate up at only a modest pace at worse.

Key Factors

    * The core rate has only been rising a bit, but with the extreme weakness in demand in the industrial sector, it was only a matter of time for a decline to be posted.  Core PPI reflects weak demand but is not so weak as to raise deflationary concerns.

    * Overall, the PPI data aren't really surprising, but are a bit better than expected.

Big Picture

    * PPI trends were highly volatile in 2008, mirroring the trends in global oil prices.  Falling global commodity prices and weak economic demand will keep inflation in check at the producer level.  If global economies remain weak in 2009, as is widely expected, inflation at the producer level will be insignificant.  There may even be concerns about global deflation.


8:30 a.m. Retail Sales

    * Importance (A-F): This release merits an A-.
    * Source: The Census Bureau of the Department of Commerce.
    * Release Time: 8:30 a.m. Eastern around the 13th of the month (data for one month prior).
    * Raw Data Available At: http://www.census.gov/svsd/www/advtable.html

The retail sales report is a measure of the total receipts of retail stores. The changes in retail sales are widely followed as the most timely indicator of broad consumer spending patterns. Retail sales are often viewed ex-autos, as auto sales can move sharply from month-to-month. It is also important to keep an eye on the gas and food components, where changes in sales are often a result of price changes rather than shifting consumer demand.

Retail sales can be quite volatile and the advance reports are subject to rather large revisions. Retail sales do not include spending on services, which makes up over half of total consumption. Total personal consumption is not available until the personal income and consumption reports are released, typically two weeks after retail sales.

Highlights

    * The May retail sales numbers were about as expected, posting a moderate increase of 0.5% for both total sales and excluding autos.

    * Gasoline sales, which rose 3.6%, helped boost the numbers.  It is somewhat surprising that auto sales did not add more to the increase as unit auto sales were up solidly in the month.

    * Excluding the gasoline sales component, retail sales were up 0.2%.

Key Factors

    * The 0.5% May gain follows a 0.2% drop in April, reflecting a stabilization in the trend in consumer spending.  It would be very premature, however, to expect an uptrend in retail sales over the months ahead given declining payrolls and weakening wage gains.

    * The data overall present few major surprises relative to what is built into market expectations for the economy.

Big Picture

    * Retail sales fell off dramatically starting in September.  That was when the financial markets fell apart and the news became apocalyptic.  Auto sales also collapsed as the news of potential auto company bankruptcies dominated headlines.  Retail sales are likely to remain weak for quite a while given the current trends in employment, and the negative wealth impact for depressed prices for homes and stocks.


WEDNESDAY, JULY 15

8:30 a.m. Consumer Price Index

    * Importance (A-F): This release merits a B .
    * Source: Bureau of Labor statistics, U.S. Department of Labor.
    * Release Time: 8:30 a.m. Eastern, about the 13th of each month for the prior month.
    * Raw Data Available At: http://stats.bls.gov/news.release/cpi.toc.htm

The Consumer Price Index is a measure of the price level of a fixed market basket of goods and services purchased by consumers. CPI is the most widely cited inflation indicator, and it is used to calculate cost-of-living adjustments for government programs and it is the basis of COLAs for many private labor agreements as well. It has been criticized for overstating inflation, because it does not adjust for substitution effects and because the fixed basket does not reflect price changes in new technology goods which are often declining in price. Despite these criticisms, it remains the benchmark inflation index.

CPI can be greatly influenced in any given month by a movement in volatile food and energy prices. Therefore, it is important to look at CPI excluding food and energy, commonly called the "core rate" of inflation. Within the core rate, some of the more volatile and closely watched components are apparel, tobacco, airfares and new cars. In addition to tracking the month-to-month changes in core CPI, the year-over-year change in core CPI is seen by most economists as the best measure of the underlying inflation rate.

Highlights

    * The May CPI report didn't bring any major surprises.  Total CPI was up 0.1% and core CPI was up 0.1%.  Consensus estimates called for increases of 0.3% and 0.1%, respectively.

    * The softer-than-forecast number for total CPI wasn't regarded as much of a surprise because the softer-than-expected PPI number primed the market to think it could see a "soft" CPI number.

    * A 0.8% gain in the transportation index, a 0.3% gain in the medical care index, and a 0.2% increase in the energy index were the drivers behind the CPI increase, which was tempered by a -0.2% decline in the food and beverages index, a -0.2% decline in the apparel index, and a -0.1% decline in the housing index.

Key Factors

    * On a year-over-year basis, total CPI is now down -1.3% while core CPI is up 1.8%.  In this regard, the report can be thought of as being mixed.

    * The year-over-year core number should be pleasing to the Fed as it is within the Fed's inflation comfort zone and also doesn't provide fuel for the deflation argument.

Big Picture

    * Inflation trends have weakened.  The decline in energy prices after the summer spike has taken CPI down to -1.3% on a year-over-year basis as of May 2009 data.  Energy prices have again increased, yet the core rate should ease from due to weak demand.  Low inflation rates are likely to continue through 2009 although deflation is not likely.


9:15 a.m. Industrial Production

    * Importance (A-F): This release merits a B-.
    * Source: Federal Reserve.
    * Release Time: 9:15 a.m. Eastern around the 15th of the month (data for month prior).
    * Raw Data Available At: http://www.federalreserve.gov/releases/G17/Current/g17.txt

The index of Industrial Production is a fixed-weight measure of the physical output of the nation's factories, mines, and utilities. Manufacturing production, the largest component of the total, can be accurately predicted using total manufacturing hours worked from the employment report. One of the bigger wildcards in this report is utility production, which can be quite volatile due to swings in the weather. Severe hot or cold spells can boost production as increased heating/cooling needs drive up utility production.

Highlights

    * The market wasn't looking for much out of the May Industrial Production report and it got what it wasn't looking for.  Industrial production declined 1.1% in May after a downwardly revised -0.7% decline for April while capacity utilization dropped to 68.3% from 69.0%, which is the lowest level since records began in 1967.

    * Manufacturing output was the biggest drag, declining 1.0% in May after a -0.6% decline in April.  In turn, the factory operating rate hit a historical low of 65% in May, which is the lowest since records began in 1948.

    * The output of mines dropped -2.1% while the output of utilities fell 1.4%.

Key Factors

    * Production of consumer goods dropped 0.8% in May, with declines in both consumer durables and nondurables.  Business equipment output was down 1.4% and is more than 16% below the year-ago period, underscoring the broad-based and deep nature of the economic slowdown.

    * Overall, industrial production is down 13.4% year-over-year.  This report, quite simply, isn't good economic news and shows the roots of the green shoots recovery don't run that deep at this point.

Big Picture

    * The outlook for industrial production has worsened.  Production held up surprisingly well through most of 2008 due in part to strong exports.  Exports grew at a 7.0% annual rate in 2005, 9.1% in 2006, 8.4% in 2007, and at an annual average rate of 7.8% through the first three quarters of 2008.  A major factor in this boom was a continually weakening dollar.  Now, the dollar has strengthened and global economies are in recession.  This will undermine export growth and take away a major support for US industrial production.  U.S. companies will also be impacted by the weak economic outlook.  Production is therefore likely to trend lower.


THURSDAY, JULY 16

10 a.m. Philadelphia Fed Index

    * Importance (A-F): The Philadelphia Fed Index merits a B.
    * Source: The Philadelphia Federal Reserve bank.
    * Release Time: Third Thursday of the month.
    * Raw Data Available At: http://www.phil.frb.org

There are many regional manufacturing surveys, and they tend to be ranked in order of timeliness and the importance of the region. The Philadelphia Fed's survey is first each month, actually coming out during the third week of the month for which it is reporting. Several smaller surveys are then released before the Chicago purchasing managers' report on the last day of each month.

These surveys can be of some help in forecasting the national National Association of Purchasing Managers numbers, particularly the Philadelphia and Chicago surveys which are more closely watched due to their timeliness and the fact that these regions represent a reasonable cross section of national manufacturing activities.

Highlights

    * Apparently, manufacturing conditions aren't as bad in the Philly Fed region as they are in the Empire State region.  That is the quick takeaway from the Philadelphia Fed Index, which improved to -2.2 (consensus -17.0) from -22.6 in May. The Empire Manufacturing report for June showed some deterioration with a reading of -9.41 versus -4.55 in May.

    * Both reports, which have zero as a breakeven point, signal that there was a continued contraction in manufacturing conditions in June, only the pace of decline slowed in the Philly Fed region while it accelerated in the Empire State region.

    * In the Philly report, the new orders index went to -4.8 from -25.9 while shipments actually picked up to 2.1 from -19.0.

    * For other indexes: prices paid went to -13.0 from -22.8; inventories fell to -15.3 from -28.6; the number of employees went to -21.8 from -26.8; prices received went to -16.6 from -33.8; and unfilled orders jumped to -19.6 from -18.4.

    * Notably, there was a big pickup in the outlook for General Business Activity six months from now, as that gauge moved to 60.1 from 47.5.

    * Raw Data Available At: http://www.phil.frb.org

Key Factors

    * The better reading from the Philly Fed Index overshadowed the Empire number, no doubt because there were "improved" readings across most components that are part of the report.


FRIDAY, JULY 17

8:30 a.m. Housing Starts and Building Permits

    * 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 16th of the month (data for one month prior).
    * Raw Data Available At: http://www.census.gov/const/www/newresconstindex.html

Housing Starts are a measure of the number of residential units on which construction is begun each month. A start in construction is defined as the beginning of excavation of the foundation for the building and is comprised primarily of residential housing. Building permits are permits taken out in order to allow excavation. An increase in building permits and starts usually occurs a few months after a reduction in mortgage rates. Permits lead starts, but permits are not required in all regions of the country, and the level of permits therefore tends to be less than the level of starts over time.

Highlights

    * Housing starts increased 17.2% in May versus April to an annualized rate of 532,000 units.  Building permits, meanwhile, rose 4% to an annualized rate of 518,000.  Both numbers were better than expected, as the consensus estimates were pegged at 485,000 and 508,000, respectively.

    * The starts data for May was aided by a 77% increase in starts on multi-unit dwellings, which followed a 46% decline in April.

    * Single-family residence starts trailed multi-unit starts in a big way, although they were still up 7.5% from April.  By region, single-family residence starts were down 12.5% in the Northeast, up 9.4% in the Midwest, up 10.6% in the South, and up 8.6% in the West.

Key Factors

    * The May data springs both the starts and permits reports from record low levels and will play into the stabilization argument for the housing market; however, with the National Association of Home Builders reporting a drop in homebuilder confidence in June, the market didn't get worked up over the idea that a meaningful upturn in residential construction activity is right around the corner -- nor should it have.

Big Picture

    * Housing starts are at extremely low levels and the outlook is not likely to improve anytime soon due to high levels of inventories of unsold new homes.  An uptrend in consturction will require an improvement in employment and income, and then take some time as inventories need to be reduced.  Government action to boost mortgage lending may also help, and starts might stabilize in the second half of the year.