Sunday, May 24, 2009

When Optimism Trumps Bearish Momentum

Policymakers have been spreading optimism around like manure in a farm field. And apparently it is
gaining considerable traction amongst consumers whose expectations about job prospects 6 months from
now have improved dramatically.

Moody’s. Economy.com

Come October 2009 Obama’s fiscal stimulus kicks in and should spur aggressively hiring. This is indeed
a bullish input. Still, job losses in the real economy are expected to more than offset any job creation the
govt does under the Obama program. As put by Moody’s Economy.com: “Assessments of labor market
conditions are firming, but they are likely sending false signals… The labor market details point toward
a decline in the unemployment rate—a stark contradiction of the data on initial and continuing claims
for unemployment insurance benefits.”

Still, as market participants, we can’t argue with the tape, i.e. - we can’t argue with forward looking
perceptions and with what is. “We are confident we are in a bull market,” as Birinyi said last week.
Confidence and optimistic forward expectations may trump some very active bearish momentum in the
short and intermediate run that will likely run through the Q2 financial earnings season and into 1H
2010 when consumers’ job prospects and y-o-y earnings comps amongst financials take a nosedive. The
bearish momentum we will detail towards the end of this report.

The daily E-mini SP500 “monthly consumer confidence” chart below shows rising consumer confidence
lows since Feb 24 2009 consumer confidence report. Market participants should be aware that a rising
stock market is a bullish input for the Michigan Consumer Sentiment Survey but not for the monthly
consumer confidence report. For the Michigan sentiment survey this is a self-reinforcing mechanism that
feeds on itself. The fact that the stock market has rallied nearly 40% since March has been a bullish
input for the Michigan sentiment survey in May. The next Michigan consumer sentiment is this week
Friday May 29.

Between now and next Friday’s NFP report, the bias should be bullish with all trade above today’s
consumer confidence low at 877. The June NFP report out at the end of next week will be bearish
particularly with big revisions to the April jobs report that added in way too many new jobs based on the
birth/death model and seasonal adjustments. A June swoon following the June NFP report would
presumably be brief however, as consumers are expecting the job front to improve by Oct. The pullback
will also be brief too because by end of month their will be a two-day FOMC meeting which the stock
market will most likely go bid into. After the June FOMC meeting, the stock market will likely falter
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briefly again into the July NFP report, before staging another rally into the manipulated financial earning
season. The govt has already given the bad banks a wink and nod to manufacture earnings over the next
two quarters so as to not have to raise as much capital as the govt is requiring banks do based on the stress
test results. They are giving bad banks a way to “earn” their way out of meeting the capital requirements
of roughly $70 billion. In fact, today’s most intriguingly headline from Bloomberg today was JPMorgan
$29 Billion WaMu Windfall Turned Bad Loans Into Income:
Wells Fargo & Co., Bank of America Corp. and PNC Financial Services Group Inc. are also poised
to benefit from taking over home lenders Wachovia Corp., Countrywide Financial Corp. and
National City Corp., regulatory filings show. The deals provide a combined $56 billion in so-called
accretable yield, the difference between the value of the loans on the banks’ balance sheets and the
cash flow they’re expected to produce. “The banks will wring revenue from the wreckage,” said
former Lehman exec Robert Willens,
The purchase-accounting rule, known as Statement of Position 03-3, provides banks with an
incentive to mark down loans they acquire as aggressively as possible, said Gerard Cassidy, an
analyst at RBC Capital Markets in Portland, Maine. “One of the beauties of purchase accounting
is after you mark down your assets, you accrete them back in,” Cassidy said.
Daily E-mini SP500 “Consumer Confidence Chart

In short, market participants are being coaxed back into the stock market through self-reinforcing
Michigan sentiment and consumer confidence reports, manipulated earnings reports from the financials,
upwardly biased jobs reports from the BLS, not to mention the bank stress-test results and TARP buyback
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applications. All of these inputs can push the stock market considerably higher going into the peak
financial earnings season in mid-July with all trade above today’s low at 877 and trump much of the
bearish momentum from 2008-09.
The stock market climbed the wall of worry surrounding the bank stress-tests and set a short term high on
May 7. The pullback off the May 7 high ended with the announced TARP buyback applications on May
18. The TARP buyback rally ended on May 20 and sold off into Consumer Confidence Tuesday, May 26.
The stock market, we have repeatedly noted, tends to set short term lows on Consumer Confidence
Tuesdays. Bullish responses from investors to a consumer confidence report are a short term bullish
indicator.
The consumer confidence rally this week may mimic the TARP buyback rally last week. If that is the case,
the short term price targets are 914-917 and 925. Support above the CC Tuesday low should be 894-898.
The week and month will taper to a close with a bullish input from the Michigan Consumer Sentiment.
The month will end contra-seasonally on a high note. After yet another bullish input from the ISM index
on Monday June 1st, the first week of June could be sideways to lower ahead of the bearish June NFP
report.

Since the March 2000 high to the May 2009 high, the price action of the SP500 has been fairly well
defined by the nine month 39 and 78 week moving averages. These are nine and eighteen month moving
averages. The price action is negative when these averages are bearishly sloped and positive when
bullishly sloped. As of May 2009, the stock market is now facing its second challenge of the shorter
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term 9 month moving average. Not surprisingly, the stock market has hesitated to breach this moving
average. If it is breached, confidence can be said to be trumping this bearish moving average, and over
time, we would expect the SP500 to be able to challenge the more formidable eighteen month bearishly
sloped moving average.
Bearish Momentum

If the “green shooters” are the squeaky wheel that gets the grease, the SP500 should rebound by mid to
late June as marginal buyers are encouraged back into the market. If the May 26 consumer confidence
low at 877 fails, this more bullish scenario is temporarily on hold.