Stock Market & Economy

If this be but a nasty variant of an ordinary business cycle, I would
say the environment is an easy call from here. Specifically, my
indicators point to a steep further economic downturn through
mid-2009, followed by a moderate economic expansion that could
continue for several years. In this world, the stock market would
most likely bottom Mar. - Apr. of '09, followed by an upturn in
corporate profits by Sep. '09 and the first hike in the Fed Funds rate
at some point in half 1 '10. Commodities would turn up over half 2
'09 and inflation would re-accelerate from a very low level by late
'09. Piece of cake.

But, my range of indicators also suggests to me that the US is
flirting with economic disaster. The key word here is "flirting". It is
far from clear to me that consumers are going to behave as
positively and predictably as they have in prior downturns and
readily jump in and lead the charge to recovery. Consumer
hesitation to spend in the months ahead can lead to further
downcycling and subsequent considerable difficulty in turning
things around. Real incomes have been punished too long for most
and wealth has fallen rapidly, especially for the upscale folks. Debt
levels continue on a high plane and take up substantial income. So,
I think it is reasonable to wonder whether they are going to be so
eager to spend and borrow in 2009. Moreover, if they remain
reticent, I doubt monetary and fiscal policy will prove so
enticing to them. Realistically, and looking at the household sector
on an individual basis, it would be kind of dumb for folks to jump
into heavy spend and borrow mode.

It is easy enough to envisage recovery where consumers exhibit
much greater balance between spending and saving. On the
surface, that's one way to finesse the issue and maybe that's how
it will work out. But, it will need to happen soon, lest a weak
economy and job picture leads to further forbearance.

Production, trade and employment all seem primed to contract
in the months ahead, but the stock market can endure that if
consumers show some signs of putting spending on a more even
keel and if prospective homebuyers show more interest this
coming spring.

For now, I'll probably go along with the framework outlined in the
first paragraph of the post, but I will not stay with it long if we
continue to see folks shunning the shops as we have been.

Economy & Liquidity

During periods of recession, it is right as rain for consumers, banks
and businesses to rebuild cash and cash equivalent liquidity. Since a
serious downturn can add more uncertainty to the outlook, the
rebuilding of liquidity can intensify during such times.

Real personal wages have rapidly turned positive in this quarter
as inflation has subsided quickly and dramatically. Normally, when
the real wage improves, spending quickly follows, and the desire to
build liquidity slowly wanes. So far, that has not happened, as
spending has remained weak and liquidity balances are rising. This
is partly attributable to the shock of a rapid decline in the economy
since late summer, but it may also reflect a desire by householders to
add to savings to offset sinking 401k and home values. If the latter is
so, then we might expect the period of liquidity enhancement to be
stronger and last longer than in prior recession periods, despite low
available rates on savings. The test of liquidity preference is
underway now, since the real wage has recovered quickly, with the
normal expectation of higher spending to follow now in the spotlight.
I would also say if consumers as a group plan to alter budgets to
accomodate more cash on hand to offset losses in asset values, that
stimulative monetary and fiscal programs may not be very
effective for a while until liquidity cushions are fattened further. I
would also point out since 2005, 2 million boomers cross the age 60
threshold annually, when liquidity preference naturally increases.

Banks are not liquid, and the natural process of improvement is to
allow loans to run off and liquid investments to rise. This process
has actually been slow to get underway. Banks are also taking
massive loan writedowns each quarter. This restains capital growth
and it is likely that the bulk of the rest of the TARP program will have
to be released to banks and other credit intermediaries to rebuild
capital. A big test for both consumers and the banks will come this
spring when more nearly affordable homes are prospected by
folks looking to buy (Improved affordabiltiy reflects both lower
prices and mortgage rates).

Business sector liquidity was well repaired after the 2001-02
downturn. However, my profits indicators have fallen dramatically,
and non-financials may want to further shore up liquidity if cash
flows sink as now expected.

As a recession winds down, the capital markets can rally nicely even
as sectors rebuild liquidity, as investors see such a process as normal
and healthy. The hitch comes in if consumers, banks and business
are seen as too zealous in propping liquidity, for that would mean
that recovery may be further afield then expected.

I take the dramatic weakness in the capital markets over the past 15
months as a sign that fundamental changes may be in store and that
one should treat the tried and true assumptions with more reserve.

A first stop for me vis a vis the economy is to watch consumer
spending now that the real wage has recovered sharply.

Stock Market -- Short Term Technical

The rally resembles a duck in flight which has evaded a full load
of buckshot, but which was clipped by a BB or two. There is another
load of buckshot en route, and the duck needs to gain altitude rather
quickly to avoid a nasty hit. Less prosaically, the market has
worked off a sizable short term overbought, and needs to move
ahead quickly to keep long side trader interest. Confirmation of
a rally of substance remains elusive, and the trajectory has flagged
to a critical level. Last Wed. it was mentioned that it was ok to
allow for the work -off of the heavy overbought but now we need
to see if this bird can gain some altitude before impatience brings it
down.

Financial System Liquidity

As prior discussed, the steep downturn in the global economy since
Sept. '08 shredded Federal Reserve efforts to resuscitate broad
liquidity in the financial system. The commercial paper market
resumed a steep drop, and banks lost large institutional deposits as
players moved to the safety of Treasuries. My broad measure of
credit driven liquidity is now down about $120 bil. below this past
summer and stands only +1.5% measured yr/yr. The Fed has been
buying top quality financial commercial paper to prop up the system,
but large deposits continue to roll off, curtailing the Fed's latest
efforts. 90 day a2/p2 commercial paper trades infrequently and at
a horrendous 6.25%+.

Monetary liquidity has been soaring -- +11.5% yr/yr -- as the Fed
primes the pump. The data is biased up as smaller banks leave
some excess reserves in sweep accounts, but the basic money supply
is moving in the right direction. From a cyclical perspective, the
narrow money supply typically leads the broader credit driven
aggregates in time, and when the economy is rather weak the
recovery of private credit can lag. This is particularly the case when
the residential market is in distress. We know we have the most
depressed residential market we have seen in many years.

In the residential area, there is also the likelihood that deflationary
psychology is growing -- why buy now when house prices are headed
lower and job security is a factor?

The new Obama admin. may well review how to increase already
improving housing affordability further.

At least the Fed is on the case with allowing money to grow in the
system. that's where you have to start to repair the tatters. It is
genuinely too bad that Bernanke was so slow to turn to growing
monetary liquidity.

Even though the broad measure of liquidity is up but 1.5% yr/yr,
there is excess liquidity in the economy overall. The $ value of
production is down 4.5% yr/yr through Nov. That leaves my
excess economic liquidity index at +6.0. Such a reading is normally
very positive for stocks, but I now keep this as a secondary
indicator since it failed badly during the bear market period of
2001 - 2002. However, it has been a good support measure over
the long run so we need to keep it very much in mind.

Stock Market -- Short Term Technical

The short term uptrend is gaining firmer footing now as the
25 day m/a is set to join a rising 10 day m/a. However, the
SP 500 is strongly overbought in the very short run following
yesterday's ZIRP rally, courtesy of the Fed. Note also on the
chart link below that the "500" has not taken out two previous
interim peaks of recent weeks at 910-911, indicating resistance
and hesitancy. It is tempting to say that a healthier rally would
have easily blown through that level, but first we need to
see how well the market handles the short run overbought.

The ADX indicator is set to turn positive (+D1 to go through -D1),
but note the weakening momentum line in black. That is not a
confidence builder either. Chart.

Policy & The Economy

"Outlier" economic data have policymakers in "all hands on deck "
mode. A collapse in residential construction, weakening home
values, tumbling retail sales and an outright 3.5% decline in the
CPI in recent months are alarming because they are slipping
outside the boundaries of weakness seen in business downturns
over the past 50 years. This is risky business for a US economy
operating with record high debt leverage across most sectors.
Similar situations are playing out to varying degrees across the
globe. A sudden turn to thrift to offset a weak home value, a down
401k and worries over job security make great sense to most on
an individual basis, but policy makers fear the consequences should
the majority of folks get in on the act.

I think the hard reality is that as this massive 80 million strong "baby
boomer" generation matures, the momentum of consumer spending
growth in real terms has slowed and has been boosted by debt
accumulation. As the boomer generation greys, it is going to be
tougher to drive discretionary spending in the US. Were it not for
the current difficult circumstances, I think it would be true to say
that the task of promoting strong consumer spending will only get
tougher over the next decade. Heck, Gen X ,which is following the
boomers into prime spending years is only half its size.

So today the Fed went to ZIRP -- cutting the FFR% to between
0.0 - 0.25%, and promising to inject money into the system more
directly, as the banks have tighter credit policies, inadequate capital
and more substantial loan losses to book. The aim is to force people
to give up their liquidity and step up their spending. Savers are to
suffer and thrift is to be thwarted. On top of this the incoming Obama
admin. is planning massive fiscal stimulus to stabilize a deteriorating
economy. Again, these policy actions are being played out globally.

The fear policymakers share is that failure to act dramatically could
produce an uncontrolled, deflationary economic tailspin with the
end result being substantial economic damage and possible social and
political turmoil. Maybe so, maybe not.

Since consumers have endured very substantial and broadscale
shocks. I think it will be tougher to turn them around this time and
that people with newly revised budgets will resume a higher level
of spending as and when those budgets permit. It is going to take a
little time to rebuild confidence and even a modicum of trust.
Moreover, I am concerned about how well recovery / expansion can
be sustained. Freewheeling commodities markets could surge as
economies recover and again jeopardize confidence and real incomes.
Relatedly, The Fed and the Gov. will face a heavy challenge to manage
policy once inflation pressures resurface.

The message : Tougher to turn the economy...More modest results
whence it turns...Tougher to mange an orderly and durable expansion.

Stock Market -- Quick Comment

Well, the bears did come in on Tues. after the sharp rally to
overbought at Mon.'s close. But they really did not do enough
damage this week to upend the rally. Just a little back and fill.
So we carry the drama into next week with an eye to whether
the market could morph into a plus Santa finish for the year.
Uptrend not confirmed yet for the shorter run in my book.

Inflation Hedge Trade

What I call the inflation hedge trade goes as follows: Be short the
US dollar and be long oil and perhaps a PM like gold or silver.
This has been a popular trade from time to time over the past
35 years, and was a dominant one in this decade so far. It is a
tricky business, more like a 3 cushion billiard shot than a straight
pop of the 8 ball into the corner pocket.

There is evidence over time that a weakening of the dollar goes
with a rise in the oil price, while a sronger dollar pairs up with a
weaker oil price. The US tends to be a cyclical leader and when it
cuts short rates to bolster growth, the trade deficit may widen
relatively, leading to a weaker US$. In turn, US oil import demand
picks up, and the price is shaded to the upside as a way to hedge
a weaker dollar. Timing is far from exact and markets psychology
plays a major role. This trade was a powerhouse over most of
the decade and was spectacular once it became evident that the
Fed would cut rates to ease a gathering financial crisis in 2007. It
came acropper this year when spreading global financial market
turmoil triggered a flight to the dollar and when oil subsequently
crashed on lower demand and a powerful US dollar rally.

One other fact, the pools of money in this game -- hedge funds,
pension funds with "alternative" investment authority and a
bevy of mutual funds and ETFs devoted to these sectors -- is
huge and far larger than anything seen in modern times. It's not
just primary dealers and old line speculators anymore.

The $USD has weakened so far in December (seasonally typical)
and sure enough oil is rebounding and gold and silver have come on
board. Importantly, oil refineries have run their heating oil and
are set to shut down for maintenance in Jan. to get ready to run
gasoline for the spring. So early in the year can be seasonally
strong for oil. Thus, the guyz have the trade going -- short the
dollar, long oil and maybe gold for good measure. Traders know
oil could rally to $60 + in Jan. without challenging the downtrend.
Moreover the $USD is at trend support and a break here during
the month will whip up the oil pit. This can be crazy stuff, since
there can be little change in bedrock fundamentals in the interim.

From a macro economic perspective, this inflation hedge trade is
harmless as long as it runs for a month or two more. But
development of another sustained strong run up in oil will not be
harmless and will eventually punish a weakened global economy
further.

Stock Market -- Technical

Short Term
Well, here we are again. Another potent rebound from severely
distressed levels, although not quite a rocket. At 910, the SP 500
is overbought short term for just the second day in nearly 2
months at 3.8% above the 25 day m/a. Not only have such
overboughts been rare over the past 3 months, but have been
quickly crushed as well. Good rally durability test straight ahead.

I would like to see the market and its 10 day m/a above the 25 m/a
and see the 25 m/a turn up as well. I would also like to see the +D1
on the Wilder ADX rise above the -D1 as well. Chart here.

Intermediate Term
The NYSE breadth flame index -- runs back 12 weeks -- hit a deep
oversold at -154 on 10/24 and is now just a tad oversold at -20. The
14 week stochastic will need a strong close this week to turn positive.
It has been on a "sell" trend since 5/16/ 08. The smoothed 40 week
price oscillator has been on a "sell" since 7/4/08 and is now just
slightly below the last cyclical bear market low registered in late
2002. That's interesting in itself. When the market turns truly
bullish, the NYSE breadth flame mentioned above can run on
overbought for weeks -- a healthy sign indeed. We have not seen
that since late 2006.

Sentiment
Most contrarian measures I follow show bearish sentiment. It is
curious that Market Vane 's advisory sentiment is still at 40%
bulls compared to readings in the low to mid 20's during 2002
and early 2003. Market Vane's Treasury bond bullish sentiment
hit a rare 89% bullish last week. You see that only at market
tops. A sell-off in Treasuries might help the stock market as it
would suggest a flight from quality back toward riskier assets.

Psychology
Bernanke, Paulson, W. and Obama have all been furiously
"painting" the tape green over the past two weeks. they have the
sheep and the dogies a' runnin' with a continuous stream of
supportive comments. I don't blame them and, as mentioned
last Friday, it would be nice for all players to take a time out to
think on whether the economy is truly headed off the cliff.

Stock Market Comment

Americans love irony and I am no exception. And so with the all
the seriously bad economic news of recent weeks, the stock
market is trying to steady if not rally. It is a discounting
mechanism and the crash that started over two months ago
has correctly foretold the bad news emanating forth. So, I have
been amused this week by the thought that since the economy
has moved to the cusp of peril (See comments in earlier post),
wouldn't it be something if the market decided to hold off on a
rapid pursuit lower to see if the US and the rest of the major
economies are actually going to go over the cliff into the abyss
or whether we have a deep but managble recession to contend
with. Look, it would be unusual if such a serious economic
situation did not start with a bear market that lasted a good
16 -17 months and which carried into 2009. Moreover, after all
the carnage, now might be a good time for investors to pause to
decide whether all economic hell is about to break loose or not.
This is especially so with a new president coming on board, a
strong congressional majority in hand and a thumbs up from
voters to try and forcibly stimulate the economy and perhaps
massively so. And of course there is the issue, prevalent in
recessions since WW2, that the system has its own self correcting
mechanisms. So why not spend the holidays mulling whether
the wolf is really at the door?

I have had many more good hunches than bad over the years.
But I have had enough bad ones not to trust them but to tend to
the trading and investing disciplines instead and save the hunches
for conversation over drinks. At any rate, I thought I would
pass this little piece of irony along...

Economic Indicators

Weekly Leading Indicators
Both data sets for the economy have been in free fall since June. The
declines -- measured peak to trough so far -- are the steepest since
the Great Depression days. Yes, the stock market influences the
declines, but weakness is broad based, with a collapse in sensitive
materials prices and a surge in initial unemployment claims very
notable. Global indicators are also now falling steeply.

My weekly and monthly inflation pressure gauges remain in free fall
as well and are now consistent with the development of modest
deflation measured yr. on yr.

Monthly Leading Indicators
Manufacturing and commercial new orders measures have simply
tanked since Aug. '08, including US export orders. The total index,
a diffusion measure, has fallen from a strong 142.0 in Jan. '04 to
the current paltry 63.3.

Economic Power Index
This measure is improving. The yr/yr real wage has turned positive
as wage growth has so far held up and inflation pressure is abating
rapidly. The change in yr/yr employment has accelerated to the
downside, however at -1.7%. The combined index is a -0.5% yr/yr
and is up from the cycle low to date of -2.5% set in Jul. '08. The
sharp deterioration of this index from the business cycle peak of
+3.9% set in Jan. '07 correctly foreshadowed the sharp pullback in
consumer spending we have seen. Now, spending and production
levels for the consumer market are very weak as householders
strive to build liquidity and control borrowing. A sharp rise in the
unemployment rate is underway, and that could undermine wage
growth going forward. But, if the damage remains slight, then
purchasing power will mend further. I would also note that
with mortgage rates lower and housing prices still trending down
that affordability is rising very quickly.

Capital Slack
A fast rising unemployment rate and falling operating rates in the
business sector reflect sharply growing slack. The low level
of short term rates overstates the case for slack in the financial
sector as bank business loan exposure is still high relative to
bank liquid investment levels. But liquidity will improve as the
downturn wears on.

Financial Stress
There is more to come here. Troubled home loans are still rising.
Commercial real estate loan losses and C&I loan write offs are
both to rise. On a global level, the bust in commodities prices is
going to add more pressure for countries and companies
dependent on resources, materials and cash crops. Governments
can be expected to inject more funds into the system.

Summary
We are on the cusp of danger here. The then neophyte Fed kept
the monetary base flat for a dozen years leading up to the 1929
crash and subsequent depression. It went after the inflation from
WW 1 with a vengeance. The current Fed kept the monetary
base flat in real terms for most of the 2004 - 2008 period to
correct the Greenspan profligacy. The collapse of credit driven
liquidity growth over the past 15 months and the belated turn
to adding monetary liquidity by the Fed leaves us vulnerable.

Maybe we can afford a few more months of deep economic
weakness, but those short term leading indicators for growth
and for inflation do need to begin improving well before winter
is out or else we could slide into a deeper, more pervasive
decline. We are now presuming heavily on the size, stability,
diversity and resiliency of the US economy. Do not underestimate
that power, but watch those short term indicators like hawks.

US Treasury Bond

Currently trading at 3.2%, the yield on the 30 yr. Treasury has
dropped at the fastest rate in history in recent weeks. This
decline reflects weakening global production and a collapse of
industrial commodity prices. More broadly, it bespeaks a fast
flight to quality across the Treasury yield spectrum as investors
and traders, concerned over fast gathering economic weakness
in a world of high debt leverage, scramble to safety and liquidity.

The Treasury market is now dramatically overbought. Moreover,
bullish sentiment on the market has reached dangerous levels,
registering 82% bullish on Marketvane. This is not just a short
term overbought, but a longer term overbought as well based on
my 12 month oscillator. Looking back over the past twenty odd
years, the yield on the 30 yr. could fall a bit further to the 2.8 -
3.0% area before it would signal a typical and major cyclical low.

Now, the recent action in the Treasury market has been no more
crazy than what other markets have exhibited. As well, the 30 yr.
carries a 300 -320 basis point premium to the 91 day bill in
yield, and at 3.2%, provides a suitable premium to inflation,
which is sinking fast. Even so, the market has become very
risky in that a turn of investor confidence in the prospect
of eventual economic recovery could badly punish long
Treasury holders should players move out of Treasuries to
more typically risky assets.

The measures I use to gauge confidence in the economy and in
the financial system are drawn from the actions within the
capital markets themselves. So there is no way except by a
guess that I could tell whether confidence is returning before
the markets move in the right direction (More on guesses and
hunches in the next post).

For a chart of the 30 yr. Treasury yield, click.

Stock Market

Over the past week, the market has staged a furious rally off the
11/20 lows, with the SP 500 having risen 19.1%. It was a good
week for very short term traders looking for upside action. The
action remains to0 violent for me, and I look toward next week
to see if a more sustainable pattern may develop or whether this
surge up is just another ill fated rocket in an ongoing deep bear
market. I learned the hard way long ago to be very wary of
spike bottoms, period.

Short term, the market is graded neutral, having quickly overcome
a deep oversold. Upmoves of substance do get overbought rather
quickly, but the higher ground is not given up easily. So, it remains
to be seen whether this latest surge may have some meaningful
staying power. It would be helpful as well to see stronger upside
volume. Looking out 10 - 13 weeks, the market remains heavily
oversold.

The last deep downdraft, which took the SP 500 to a low point of
752 on 11/20 carried the market down over 50% from the 10/07
closing all time high of 1565. It galvanized the Fed into further
supportive action, and brought the Obama team out in a hurry to
promise a decisive, positive fiscal policy response come inauguration.
That the Christmas shopping season kicks off this week is, of
course, purely coincidental.

When it comes to the stock market, or any market for that matter, I
am by disposition not a nibbler when it comes to investing. It's easy
enough to nibble on the long side in top quality companies in a deeply
discounted market. Not my style. Either you like the market or you
don't. In that regard, I continue to watch credit quality spreads and
the trend of lesser light fixed incomes carefully.

Corporate Profits

Over the past 15 months, corporate profits, as measured by the
SP 500's earnings have fallen by about 1/3. There are now indications
that peak to trough earnings for this cycle could be down by more
than 50%.

Most of the decline in profits so far reflects the loan and securities
losses sustained by the financial services sector. The financial
component of the SP 500 will likely wind up moderately in the red
for 2008. Commercial banks / thrifts were only nominally profitable
in Q3 '08. When common dividends are deducted, retained earnings
from operations declined. So, prior to the TARP program to inject
capital directly into the banks, they would have had to cap off the
loan book. Now, continuing loan losses are keeping financials from
generating capital internally. Moreover, with broader economic
weakness in evidence, loan loss provisions for C&I loanswill rise as
may losses on CDS swaps.

Profit indicators for the large nonfinancial group started to tumble
in earnest in Sept. '08. Peak quarterly profits for the entire SP 500
hit an index value of 24.06 in Q2 '07. The index was about 16.35
for the recent quarter, and with nonfinancial profits now in decline,
the index could fall to the 10. - 12. area over the next 6 months,
barring an earlier than expected economic turnaround. If this
deeper weakness develops, my SP 500 Market Tracker will
likely begin to recede again in the interim.

My longer term economic indicators continue to point to the
development of economic recovery starting around mid - 2009.
With the extra earnings leverage of falling loan loss provisions
that would accompany an economic rebound, the quarterly net per
share index for the entire SP 500 could easily rebound to the 20.
level by late next year or early 2010.

Stock Market -- Short Term

The market has edged out of vertical crash mode, but with
the week long mini-crash through yesterday, remains in a
downtrend that is about 50% faster than a more "normal" bear
market. In the early stages of this bear, you could count on a
rally when the SP 500 fell about 5% below its 25 day m/a. Since
the bottom fell out in Sept., rallies, such as today's sharp advance,
tend to start after the "500" falls more than 15% below the 25 day
m/a. The few short term overboughts we've seen recently have
been atacked within a day or two. So, conditions remain treacherous
and dangerous even for folks looking for exposure of only a few
days.

Comments : Oil Price & Stock Market

Oil Price
Oil closed a little below $50 bl. today. My analysis of cost
factors (supply) and purchasing power (demand) indicates oil is
reasonably priced at $50 bl. So, be it a day or longer, oil under
$50 brings back cheap energy. I have added it to my list of
items to trade long or short. How low can it go? Who the hell knows?
The clowns that brought us $147 bl. can bring it lower, I guess. I
did receive an e-mail from a seasoned and successful markets
player last week who opined that oil would go to $10 bl. Be that as
it may, I am back in the energy game after a hiatus to give the
crazies their shot. Oil is now so deeply oversold, I am leaning toward
a long position, but as with any commodity, I am strictly a trend
follower.

In a similar vein (no pun intended), I have added silver back
to my list of tradables. Gold humpers are sleazy, sanctimonius and
very snooty. Silver hawkers are merely sleazy and are much easier
to take. Besides the silver price is also now reasonable.


Stock Market
As feared, yesterday's sharp fall in the market heralded another
breakaway to the downside. There is a broad consensus jelling
in the community around the idea that a deep, prolonged downturn
in the economy is underway. The failure of the SP 500 to hold
the 830 -840 support zone has dashed hopes and left the market
in a steep short term downtrend. I'll return to this issue tomorrow.

Stock Market

Fundamentals
Of all things, my SP 500 Market Tracker has moved up from the
1000 level to the 1050 - 1075 range. This is because the p/e ratio
is allowed to expand as inflation pressures abate. Market players
are having none of it. Today the "500" closed around 807, which
is nearly 25% below the mid-point of the Tracker's current range.

Players are tacking on a large business risk premium in looking
at market prospects. The fear is that a sharper downturn will
imperil earning power and dividends for the corporate sector.
Few are now waiting for the next round of estimate cuts. The
psychology through today is that the current downturn could
be severe enough to lead to much higher levels of unemployment,
sharply falling profits and possibly deflation, which if not quickly
contained, could wreak economic havoc. Even the Fed is now
looking for a minimum 12 month recession with a consequent
return to price stability. For seasoned Fed watchers, the
colloquial equivalent is having Bernanke yell: "Holy crap, the
damn may break. Head for the hills!".

What many fear is an era of frugal chic whereby consumers keep
spending very restrained and businesses start hoarding cash.

The recent downdraft in the economy has been sudden and steep.
There's no debating that. Whether the decline is more reflective
of a temporary shock or the beginning of a more difficult to control
downturn is too tough a call for me at this point. My long term
economic indicators suggest a recovery to develop by mid - 2009,
and the next step is to watch how the short term leading indicators
behave. These data sets are currently very weak and if they
remain so into Feb. ' 09, it will be tough not to turn more bearish
on the economy.

I remain a step away from turning positive on the market. I
continue to monitor credit quality yield spreads and the trend of
intermediate quality bond yields to see if confidence flickers back to
life.

Technical
The market broke to new lows today, flummoxing the hopes of those
who thought a bottom was forming. Let's see whether this is another
breakaway downleg in the days ahead. That "bottom" formation we
saw through yesterday was too neatly manicured (See 11/18 post).

Stock Market -- Technical

the market got close to rally mode during the middle of last week
but since has faded back. The bottom testing actions of recent
weeks are pat and off-putting as well. Even so, my 25 day
momentum oscillator continues to drift higher although in an
uncomfortably broad bracket. So, I think I will wait to see if
this oscillator trend is broken by a sharp retreat. If not, then
I will hang in there looking for a positive change of trend.

One Less Bag In The Cart...

Retail sales in Oct. fell nearly 3% from Sept., and, when viewed
yr/yr adjusted for inflation, were down about 9% from Oct. ' 07.
That's the worst yr/yr performance in over 40 years, but not by
much. There were comparable spikes down in the recessions of
1974-75 and 1980, with both following inflation shocks that
sent real take home pay down. Results of sales for the past month
follow that pattern of retrenchment that comes in the wake of
persistent inflation pressure on the wage.

The spike down in retail ratifies a deep downturn in the economy
as consumers recast budgets and defer spending on signs of
gathering job losses. Nothing unprecedented here, but you have
watch spending most carefully now to see whether the down spike
in spending is the beginning of a more intense but still temporary
retrenchment or the onset of a sea change in consumption. The
retail sales blows outs of 1974-75 and 1080 were equally stunning
and raised comparable questions.

The demographics are not nearly as good now as in those prior
periods, and debt service requirements are stiffer. So, even if
the US is working through a temporary shock, an eventual
bounceback in sales may be milder. For the short run, with inflation
pressure rapidly abating, it is best to focus on how serious a
likely ratcheting up in the jobless count will be.

This is ugly news as we head into the economically important
holiday season.

Stock Market

Technical
A weak mid-day market did not decisively break below low test
zones. This triggered a fierce rally to close it out. My reading and
my e-mails tell me there are far more folks interested in calling
an interim bottom and rally, so the quick express ride up from the
basement was no surprise.

I have no money in the market now, so I am not looking to sell a
rally. For my part, the market will have to carry higher and hold
higher ground to produce a tradable trend. Specifically, I would like
to see the SP 500 move up above its 25 day m/a and see the 25 go
higher as well . The market has not been able to hold above the 25
day m/a for more than a day at a time since August. Chart

Fundamental
My indicators are just shy of turning fully bullish. I am interested in
watching the trend of Baa bond yields plus my own list of less
secure Baa's to see if confidence is returning to the capital markets,
but since I do this over one month time intervals, I am not going
to get a signal until around November's end. Suffice it to say yields
are moving in the right direction now, particularly at the short end
(2-5 yrs). If stocks continue to rally with lesser quality corporates,
I will miss a bottom of some consequence by waiting. I have other
reservations as well, but let's wait until then.

In the meantime, let's see whether today's rally has some power to it
or whether it will be the 5th fizzle since 10/10.