Red Alert?

The S&P500 dropped 4% last week.  More disturbingly, many signs point to the possibility that the equity markets could be in for more declines.  One sign was volume.  Volume rose on the four down days; it fell on the one day when prices rose.  This suggests that there’s more force on the sell side.  Also, VIX (or the fear index) went ballistic, especially on the fifth and most violent selling day.  This suggests that the owners of stocks are willing to pay a lot for insurance (in the form of options) against potential losses.  What are stockholders so afraid of?

The macro data was mixed to weak.  Consumer confidence fell sharply, when it was expected to rise.  Durable goods orders rose, but far less than predicted.  New home sales fell; they were expected to rise, specifically because of the $8,000 federal tax credit for new home buyers.  GDP for the third quarter came in at 3.5%–better than expected, but perhaps not as good as it looks.  Initial claims, at 530,000 were worse than expected.  Personal income was unchanged; personal spending fell 0.5%.  Chicago PMI was better than expected.

Technically, the daily charts are bearish; numerous indicators are flashing caution signs and warning of further selling potential.  The weekly charts are still overbought and showing signs of turning down; despite the last two weeks of declines, the weekly uptrend has not been decisively broken.  The monthly charts are still preserving the two-year bear market–the down trendline that began in October 2007 has not been violated.

Why was the 3.5% rise in the Q3 GDP report not quite as strong as it looked?

A slew of analysts jumped all over the slightly better than forecast results, which did manage to push equity prices up on the day of the release.  David Rosenberg points out that Cash for Clunkers provided 1.7% of the 3.5% rise.  And the government’s other stimulus spending (including the housing tax credit) provided for most of the rest. 

The result?

Real organic GDP did not grow at all in the third quarter according to Rosenberg.

In other words, the Green Shoots propaganda campaign has essentially been a lie.  The U.S. economy is not growing on its own.  And without 4% (or so) growth, most economists can confidently conclude that unemployment will keep on rising. 

So what happens if the government’s attempts to prime the pump don’t work?  What happens if the economy resumes falling when government life support gets withdrawn?

Exactly–it’s not looking very good. 

Perhaps this was one of the reasons that the markets sold off again on Friday.  Perhaps this will mark the time when the markets regain a healthy dose of skepticism. 

Perhaps this is the time to sound the alarm.


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