A Clear Downtrend Has Formed

Friday, May 27, 2011
Stock Market Commentary:

Stocks and a host of commodities ended mixed this week after bouncing from oversold levels. So far, the old adage, “Sell in May and Go Away,” appears to be working brilliantly.  From our vantage point, the market rally remains under pressure due to the lackluster action in the major averages and several leading stocks.

Monday-Wednesday’s Action- Stocks Fall

Over the weekend, Standard & Poor’s rating agency cut Italy’s credit rating to negative which sent the euro and a slew of commodities plunging. Italy, one of the “PIIGS” is the latest shoe to drop in the euro zone. In other news, economic data from China was weaker-than-expected which led many to question the ongoing global recovery. China has been a primary catalyst for the 2.5 year global recovery. Therefore, any slow-down in China may derail the ongoing recovery which will adversely affect demand for so-called risk assets.
Before Tuesday’s open, business confidence in Germany was unchanged in May which topped expectations for a negative reading. Germany is Europe’s largest and strongest economy and is largely the binding force for the entire Euro. Therefore, any stronger than expected economic data is typically well received as investors across the globe are keeping a close eye on the entire continent. In other news, investment giants Goldman Sachs (GS) and Morgan Stanley (MS) both raised their 2011 price targets for a slew of commodities. This came a few short weeks after lowering their expectations for the same basket of commodities. In the U.S., the Commerce Department said new home sales rose +7.3% to a seasonally adjusted 323,000 annual rate. This was the highest reading since December 2010 and the second straight increase. However, compared to the same period last year, sales tanked –23.1%.
Before Wednesday’s open, the Organisation for Economic Cooperation and Development (OECD) lowered their 2011 Economic Outlook and said risks to the global recovery remain significant. The organization said that both the US and Japan “have yet to produce credible medium-term plans” to stabilize their debt which could flare up and curtail the global recovery at any moment. Other risks include: periphery debt in Europe and an economic slowdown in China/Asia. The report recommends that the Federal Reserve should raise rates while the European Central Bank should hold rates steady until the periphery debt issues are resolved. Angel Gurria, the secretary general of the OECD, said, “A key message of this economic outlook is that there is no room for complacency. The crisis is not over yet. It has just changed its skin.” The report believes that the global economy will expand by +4.5% in 2011 and 2012. In the U.S., durable goods orders missed estimates and plunged last month which bodes poorly for the ongoing economic recovery. In other news, the FHFA’s home price index fell another -0.3%in March. This was the fifth consecutive monthly decline and ominous news for the ailing housing market.

Thursday & Friday’s Action: GDP, Jobless Claims, & Pending Home Sales Disappoint:

Before Thursday’s open, the Commerce Department said Q1 GDP was unrevised at +1.8% which fell short of the Street’s +2.1% estimate and much lower than Q4′s +3.1% rate. The report showed that demand contracted while inventory advanced which is not a healthy equation. In other news, the Labor Department said weekly jobless claims rose +10,000 to 424,000 last week. The report topped estimates by 20,000 and bodes poorly for the fragile jobs market. Before Friday’s open, Fitch rating agency lowered Japan’s rating to negative. Economic data in the U.S. was mixed: personal income and spending rose +0.4% which matched estimates, consumer sentiment briefly topped estimates, and pending home sales plunged -11 points to 81.9. Pending home sales fell -11.6% from March’s downwardly revised reading and is much lower than the same period last year.

Market Outlook- Market In A Correction

From our point of view, the market is in a correction as a new downtrend has formed and the 50 DMA line is broken for many of the major averages.  Since the beginning of May, we have urged caution as the major averages and a host of commodities began selling off. Distribution remains elevated (heavy selling from the institutional community) and leading stocks continue to lag. Looking forward, the next level of support is the 9-month upward trendline and the next level of resistance is the 50 DMA line and then the 2011 highs. If you are looking for specific help navigating this market, please contact us for more information.

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