Looking back over the past few weeks of trading, the market has made some effort on the downside. The strong day on Wednesday feels like a culminating countertrend rally. With all of the downside we saw last week, this rally so far has not generated much momentum. The late afternoon move was news based so it doesn’t have as much potential as it would if it had been uninitiated.
The news in the afternoon that put the power thrusters on under stocks was the Fed’s beige book. The beige book indicated that the economy had some moderate growth in the April May period with virtually no upward pressure on inflation. With this news, there was quite a bit of interest in buying stocks. Do the players really think the market is interested in the April May period? We would say, yes, if the year was 2008 but it wasn’t.
The bond market did manage a little bounce on Wednesday but the stock market has forgotten some of the reasons it sold off as close as Tuesday??? The rate on mortgages will push the housing market down even more but the world doesn’t seem to think this matters. The financial sector has not recognized that many mortgage backed securities have not been properly repriced. One article we read today indicated that a group of hedge funds had requested that the SEC not allow price manipulation of bond prices backed by subprime mortgages. (Bloomberg reference)
That article says that “Bondholders stand to lose as much as $75 billion on securities made of mortgages to people with poor or limited credit histories because of a rise in defaults”. And, according to Credit Suisse Group in Zurich, there are ”More than $800 billion of bonds are backed by subprime mortgages”. Does that sound like a lot of money to you? That doesn’t even count the next level up which is also in danger.
Announced on Wednesday morning, the retail sales for May were up 1.4%. We are not sure how this number can be correct except that gas prices were a bit higher in May (gas purchases are considered retail sales). Many retailers reported slowing sales after Easter so we’re a little skeptical of this number. The market didn’t really pay much attention to this number.
Thursday the PPI will be released and expectations are for an increase of 0.6%, with CPI coming on Friday on expectations for 0.2%. The PPI is a cost item to producers (name is Producer Price Index) so can they pass any increases on or not? Still the Fed doesn’t see any upward pressure on inflation.
As you know, we don’t see any upward pressure on inflation either. In fact, we still think the Fed will lower the Fed funds rate this year (We agree with Bill Gross of Pimco on this.) The inflation pressures are definitely not upward. Take a look at the price of Gold and also the dollar. Gold has dropped while the dollar has rallied. These two items suggest inflation is not much of a problem.
The stock market showed some significant power on Wednesday afternoon but we are not impressed with the volume about the same as Tuesday. The advance/decline numbers were nearly identical in the opposite direction so the two days cancel each other out, mostly.
Normally, we would look at Wednesday’s trading and automatically suggest it is a little c wave which means that it is a culminating move and with power. Many people call this a “fill”. That means that there was a first leg (a wave) and then a deep selloff (b wave) and now we are seeing a completed move or a fill of all of the buy orders.
We are reading others who say that Wednesday was more powerful than just a c wave would indicate. Well, our opinion is that this really felt like a c wave, strong and confident with nowhere else to go. The market will tell us what it thinks in due time. The next move could be stronger than we think but we still have a finishing c wave corrective up move on our minds. This move should be over some time tomorrow with the next leg down starting directly after that.
If our interpretation is correct, we would be looking for a Dow around 13,525 for a top. This would be the 0.618 retracement of the drop from last week’s high to this week’s low. We should see that tomorrow. If the Dow gets much above that, we may have to concede in another answer. (seems to be our destiny)