Market Outlook and Ideas | August 3, 2009

Weekly Results:
S&P 500 987.48 +.84% , DJIA 9,171.61 +.86% , NASDAQ 1,978.50 +.64% , Russell 2000 556.71 +1.50% and MSCI Emerging Markets 35.95 +2.37%

“Whenever you find yourself on the side of the majority, it is time to pause and reflect.” (Mark Twain)

Phase One: (March – July 2009)

Since March 2009, global markets witnessed the first recovery stage from dislocated conditions. A bullish period that witnessed a 48% rally in the S&P 500 .(56% for Nasdaq). At this junction, few mysteries remain unsolved despite euphoric market responses. Spring and summer months showcased consecutive up days, cheerleading from some policymakers and moderate media hype. In fact, few banks and headline generators recently declared “an end” to this recession. At the same time, improvement in credit conditions and other economic indicators are not fully convincing. However, at this stage optimism remains the key market subject.

What’s next? As autumn approaches, participants will digest this momentum that was led by risky assets. At some point, a much needed breather combined with sell-offs should provide clues to new themes and sustainable sectors. Of course, performance chasing can prolong this rally. Perhaps, overall perception is a powerful force that can downplay any weak labor and housing data.Similarly, volatility remains tame which suggests the uniform buying in global assets. Basically, increasing risk-appetite and higher expectations are playing into investor mindset.

Phase 2 - Next 106 days:

As August begins, there are 106 trading days left in 2009. One can assume a strong possibility that the macro, economic and regulatory conditions can remain unclear by year-end. In other words, waiting for dramatic shifts might not pay off. Perhaps, critical hints come from market behaviors rather than spins from politically involved or economic pundits. In terms of performance, July was a strong month that ended last Friday with S&P and Nasdaq up over 7%.

Actionable Ideas based on Macro Views:

Finding attractive entry points is challenging especially in the short-term given overbought conditions. One can expect minor weakness in Energy and Gold. Importantly, evidence of pullbacks in risky assets can create opportunity to buy select themes. At this point, shorter-term trading can offer more opportunities than longer-term bets. In addition, this Friday’s economic data can shape or confirm overall sentiment.

Pause in risky assets: For those expecting a pause in risky assets, one should monitor Gold and select areas in Basic Materials. Simply, investors will notice slower demand for commodities. This sets up disappointment in the already built-in higher expectations. Importantly, Gold has failed to surpass 1000 level four times in the past 2 years. On the other hand, dollar sentiment is extremely bearish. Therefore, this opens the door for an upside surprise in US dollar. Finally, Energy lagged last week despite a positive week for equities. (Weekly Returns: Oil Service -3.64% and Energy -1.30%)

Profit taking / Short Ideas:

o GG (Gold Corp): Expect declines in quarter ahead given higher expectations of new projects. Heavy resistance around $38-40 as daily momentum begins to peak.

o SCHN (Schnitzer Steel): Recent earnings showcased weakness in fundamentals based on lower revenues and slowing demand for steel. A 58% decline in revenue combined with declining technical does suggest pending pullbacks towards $45.

o X (US Steel): Facing selling pressure around $40 following two quarter of losses. Interestingly, a trading at levels reached in September 2008. Eroding fundamentals should prevail over optimistic turnaround story.

· Adding on weakness: Innovation themes such as semiconductors, communication and new media offer longer-term bargains. That said, weakness in upcoming weeks offer buying opportunities. Overall, these themes present a longer-term upside potential given multi-year relative weakness.

Long Ideas: CWT (California Water) MATK (Martek Biosciences) and RFMD (RF Micro)CREE (Cree Inc), LLTC (Linear Technology) and ONXX (Onxx Pharmaceutical).

Article quotes:

"Concentrated, in fact, among a mere handful of financial-services giants. About 80% of the derivative assets and liabilities carried on the balance sheets of 100 companies reviewed by Fitch were held by five banks: JP Morgan Chase, Bank of America, Goldman Sachs, Citigroup and Morgan Stanley. Those five banks also account for more than 96% of the companies' exposure to credit derivatives. (CFO Magazine - July 24, 2009)

"We recently broke the S&P 500 into 10 deciles (10 groups of 50 stocks) based on the amount of a stock's shares that are held by institutions. We then calculated the average performance of the stocks in each decile since the rally ramped up again on July 10. As shown below, the two deciles of stocks with the most institutional ownership are up the most, while the decile of stocks with the lowest institutional ownership is up the least. Based on this analysis, institutional investors do believe in the rally, and maybe even more than individuals. (Bespoke July 29, 2009)

Levels:

S&P 500 [987.48] Trading around its annual highs and 13% higher from 200 day moving average. Importantly, a breakout above 950 confirms an early buying strength. Although, extended in the near-term, it seems like a macro catalyst needed for major pullbacks.

Crude [$69.45] Uptrend is well defined as the commodity holds above $60. In upcoming weeks, the strength of recent rally will be tested in a narrow range between $60-70.

Gold [$939.00] In the past two years, Gold has not held above $950 for a sustainable period. Again, much of the sideways action combined with failing to surpass a psychological level around 1000 suggests pending bearish bias.

DXY – US Dollar [78.31] Holding above its lows established in March of 2008. On the other hand, since March 2009, the decline in the Dollar is inversely correlated with equity markets. The odds of a minor rally appear favorable at these oversold levels.

US 10 Year Treasury Yields [3.47%] Continues to trade in a recovery range that started in late 2008. At this point, the market is accepting yields around 3.50%.

Please note: Next posting is scheduled for August 17th since I will be out of the country.

Dear Readers:
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