WHICH WAY THIS MARKET IS HEADED
As you can see the
S&P 500 bounced higher on Friday but there that movement is likely just
a rebound higher inside a down-trending channel. Until proven otherwise
this index is pointed south and for the most part we should play it that
way. The SP-500 is full of financial stocks and they continue to drag
the index lower—and with billions more in write-downs coming they will
probably continue to.
The leader of the
stock market right now is the techs represented above by the Nasdaq.
Friday's +50 point spike held with the index closing at the high of the
day. Support both days was just below 2400--exactly where it should be.
An interesting
development that could signal a continued turn higher in the techs is
AMG Data reporting that fund flows out of techs ended in May with
positive inflows beginning this month . Over the past five months the
amount of money flowing out of tech funds has dwindled---Jan -$788
million, Feb -$339, Mar -$437, April -$168, May -$27 and so far for June
they have seen inflows of +$3 million. This suggests that the worst is
over and we are seeing a reversal of fortunes for tech stocks.
In another bullish
development all funds inflows have averaged $1.67 billion over the last
four weeks, up from $800 million the week of April 23rd. Last week's
reading was the largest inflow of new money since March 2007.
Market sentiment is
going to be greatly affected by the major financials reporting this
coming week—Lehman Bros (LEH) kicks off on Monday followed by Merrill
Lynch (MER) and Goldman (GS) later in the week. These earnings are
likely to have a huge affect on investor sentiment because traders are
going to want to know whether the worst is behind us with the credit
meltdown or whether we are just getting started—my guess is that we are
just getting started.
One of the big
factors affecting the financials and the economy in general is interest
rates—which will have to go up if inflation continues spiraling higher.
The economic reports on Friday told us that inflation is under control
but that just refers to the core rate and excludes food and energy. If
you don't use those items your cost of goods rose only 0.2% for the
month of May. That core inflation rate is up only 2.3% over the last 12
months--unfortunately for those of us who do eat and drive inflation
rose by +0.6%--the fast rate of increase in the last six months. The
Consumer Price Index showed us that top line inflation rose by 4.2% for
the last twelve months—way too high for the Fed to leave rates alone.
It's finally dawning on the Federal Reserve and on many other
global central bankers from Canada to Asia to Europe that inflation is
spiraling out of control and now they are doing everything they can to
let it be known that monetary policy is tightening.
For example European Central Bank President
Jean-Claude Trichet warned that the ECB is prepared to raise its main
policy rate, currently 4%, in July. The ECB never followed the Fed's
rate cutting path over the past several months and now ECB officials
have been among the most hawkish of all those on the global stage—but
they are not alone…
Brazil raised its benchmark interest rate by half a
percentage point to 12.25% earlier this month. Russia just raised its
benchmark rate by another 25 basis points to 6.75% — the third increase
in 2008. And this week, the Reserve Bank of India boosted its repurchase
rate to 8% from 7.75%. The Bank of Canada also halted its series of
recent interest rate cuts, opting instead to keep rates unchanged.
Meanwhile one of the easiest central banks around —
our own Fed — has now changed its tune. In a crucial policy speech in
Boston earlier this week, Fed Chairman Ben Bernanke warned that,
"Inflation has remained high, largely reflecting sharp increases in the
prices of globally traded commodities .. Moreover, the latest round of
increases in energy prices has added to the upside risks to inflation
and inflation expectations. The Federal Open Market Committee will
strongly resist an erosion of longer-term inflation expectations, as an
un-anchoring of those expectations would be destabilizing for growth as
well as for inflation."
Translation: Prepare yourself for higher interest
rates coming sometime this year.
Plus Bernanke wasn’t the only one sounding the
alarm--Fed Vice Chairman Donald Kohn also noted that it's "very
important to ensure that policy actions anchor inflation expectations."
In addition Philadelphia
Federal Reserve President Charles Plosser called Thursday for a quick
rate hike to combat inflation pressures that have moved beyond commodity
prices. "We need to take steps to insure that inflation does not get out
of control," Plosser said in an interview on the CNBC television
network. "We need to act preemptively."
The Fed is finally stating the obvious--ignoring
the dollar decline, the surge in commodities, and the hazards of
negative real interest rates is dangerous to long term economic
stability. Sooner or later they're going to be forced to
confront those inflationary threats head on, even if it means the U.S.
economy—and the stock market--declines in the near term.
The federal funds futures market is now pricing in
the possibility of at least one interest rate hike before the end of
2008. That's a dramatic shift from several weeks ago, when additional
rate CUTS were on the table. I wouldn't be surprised to see those rate
increase expectations firm up even more if we continue to get hot
inflation data. This week we’ll get the
Producer Price Index (PPI) on Tuesday and the Philly Fed Survey on
Thursday.
One of the biggest
contributors to higher costs is the price of a barrel of oil--
crude-oil prices
have spiked 41% since the start of the year, with Friday's close at
$134.86. Earlier this month, crude futures hit a record high above $139
a barrel. Oil traded in a tight
range this last week but that is likely to change--crude options
expiration is this Wednesday and crude futures expiration is on Friday
which will likely create extreme volatility this week. The Saudi Arabia
global oil meeting on June 22nd could also be a factor since most
traders expect the meeting to result in additional oil on the market
even if it is just a token amount for a short time. The prospect of
adding another million barrels to the mix could create a temporary
downturn but we should view it as a buying opportunity.
The real influence
behind oil this week should be short covering. Oil options expire on
Wednesday and oil futures expire on Friday. There will be pressure to
cover those shorts ahead of expiration potentially creating a big spike
higher by the end of the week.
On the consumer
front the first reading of Consumer Sentiment for June fell to another
28 year low at 56.7. That was a sharp drop of -3.1 points over May. The
current conditions component fell from 73.3 to 68.7 and the expectations
component fell from 51.1 to 49.0. The impact of the tax rebate checks
was absent as most of the money was projected to go for higher gas and
food prices.
The headline
reading on sentiment is not only indicating a recession but a severe
recession when compared to similar readings in the past. It is already
-4 points below the recession in 1990. Unlike the CPI the Michigan
Sentiment index is directly impacted by food and energy prices. The
reduced availability of consumer credit is also putting stress on
sentiment.
We’ll get another
look at how that sentiment is affecting the homebuilding industry this
coming week but the real influence will be availability of credit for
homebuyers—and if rates go up expect housing to continue south.
In spite of
Friday’s spike higher we’ve got a tough row here—inflation is heading
higher and Central Bankers all over the world are raising rates—and by
the looks of things so will our own Fed. Consumer sentiment is still
making new lows, unemployment is inching higher and the price of crude
will likely rise as well—the question is…
HOW
DO WE MAKE MONEY ON IT?
We’ve got two high
potential plays lined up this week—the first is bullish and the second
is bearish.
Our first play is
related to the price of oil and this week should prove to be plenty
volatile enough to show a nice profit by this time next week—especially
using our automatic targeted entry points. We’ve got a great game plan
and once you see the chart you’ll agree—this one should be a fast and
furious money maker!
Our next play is
bearish and it is related to real estate and the home builders. It’s
tough for this sector to get a break but if the Fed raises rates it’s
going to be lights out for quite a while—fortunately we’ve got a
fabulous way to make money on this seemingly unstoppable trend.
We’ve got two great
plays lined up and a market ready to move so let’s get going…
For more
information on everything you receive with your Pearly Gates
subscription click on
http://www.cashflowheaven.com/products.asp.