The market started the week with a bang as the Dow Jones Industrial Average jumped 73 points on Monday only to lose 134 points on Tuesday as concerns over interest rates overcame stronger than expected earnings reports. The remainder of the week saw the averages in a tug of war as traders assessed the high probability that the four year down trend in interest rates has seen its day. For the week, the Dow gained 99 points (0.95%) and closed at 10451.
Things weren’t as stable over at the NASDAQ which saw increased selling in the technology stocks drive the index down over 4% since April 5th. The NASDAQ fell below the 2000 mark several times during the week and finally closed below this psychological mark on Friday. For the week the NASDAQ, which closed down on four of the five sessions, lost 57 points (-2.78%) and closed at 1995.
Sentiment, momentum and strength indicators all continue to be neutral to bearish, reflective of the market action of the past two weeks. The markets have witnessed a frenetic series of good news/bad news events that have left institutional investors searching for the key to future price moves. Paramount among these events are last week’s stunning inflation data, robust corporate earnings data and continued questions surrounding the health of the U.S. consumer.
THE COMPASS PORTFOLIOS
We continue to favor a neutral investment posture given the current state of the U.S. economic recovery. On the one hand, corporate earnings have been strong (as expected) supporting the bulls’ position that the economy is far more robust than had been believed and that stock prices don’t take into account a continuation of the recovery. On the other hand, the pickup in inflation reported last week (see The Economy below) leads the bears’ to ascertain that higher interest rates are right around the corner and that a bubble in treasuries and real estate may be ready to burst. We believe both of these positions are viable outcomes, will certainly impact stock prices going forward, and warrant a cautious investment posture at this time. Given institutional rotation out of interest rate sensitive segments (i.e. utilities, financials) we have reduced our exposure to these areas and maintain a model 45% equities-55% cash-0% fixed income allocation at the present time.
This “pulling and pushing” of market forces is fascinating to observe! Balancing growth with decay, strength and weakness, excessive buying and selling create an environment which is “choppy.” Once one of these diametrically opposed forces wins out, a clear trend is likely to emerge (either a continuation of the bull market of 2003 or a new bear market). Once more clearly identified, we will be able to either add to equity positions in the case of a bull market extension or reduce positions should a bear market take hold. Always possible is an extended trading range where no real progress is made. Until the trading range is broken, I believe our neutral stance offers our clients the best balance of risk and reward given the current environment.
Just as the payroll data from April 9th was a watershed report for the bulls, the CPI data released last week strengthened the bear’s negative outlook. The consumer price index, a broad measure of prices, rose 0.5% in March compared with February prices. Analysts surveyed by Briefing.com forecast a 0.3% rise, the same rise posted in February. The so-called “core CPI,” which excludes often volatile food and energy prices, rose 0.4% in the month, the largest increase in that closely-watched inflation measure since November 2001. Briefing’s forecast was for a 0.2% gain. Energy, led by gas prices, rose 1.9% in March, the sharpest increase of any sector measured by the Bureau of Labor Statistics. But the overall increase was broad based, with no sector showing a decline. Other leaders included transportation prices, up 1.1%, and apparel prices, up 0.9%. Higher interest rates will follow as the Federal Reserve is likely to tighten money supply to fend off an unwelcome inflationary cycle.
Strengthening the bear’s outlook, the number of Americans filing for unemployment insurance jumped by 30,000. This figure came in well above economists’ expectations of a rise of 335,000 new claims. Initial claims for unemployment insurance rose to 360,000 in the week ended April 10 from a revised 330,000 the previous week. The increase in initial claims was the largest weekly rise since December 2002.
Lastly, the first readings on manufacturing in April showed sharp improvements that were better than forecasts, according to reports released by two Federal Reserve banks Thursday. The Empire State Manufacturing Survey from the New York Fed came in with an April reading of 36.05, up sharply from 25.3 in March. Analysts surveyed by Briefing.com were only looking for an increase to 29.0. Likewise, the Philadelphia Fed’s manufacturing index jumped to 32.5 from 24.2 in March. The consensus forecast of analysts was for a gain to only 26.0.