1. Since the recent market bottom in the middle of July, the divergence in action between a handful of sectors says there’s optimism from equity traders. Optimism, we’ve learned, is dangerous.
The Homebuilders ETF (XHB) is up 35%, the Financial ETF (XLF) is up 25%, and the Retail ETF (RTH) is up 15%. But as Bespoke shows, the only things really pushing close to new highs are the countercyclicals – healthcare and staples. Utilities, oddly enough, aren’t included in that mix – perhaps high commodity prices have them down? Anyways, the few indicators of momentum I do watch have begun to roll over, suggesting that further buying is going to meet much more selling pressure in the coming weeks. What really bothers me is how low the indicators were when they started turning; the last time I looked at these I suggested the prudent thing to do was to be quick to lighten up long trading positions, and I’m worried now how far the next down wave could go. Can anyone say S&P 500 at or below 1150?
I don’t really like exercises like market forecasting, but from a conceptual standpoint I find it useful to ask what theme(s) will dominate the market over the next few quarters, and the impact those will have. Right now, I think there’s too much hopefulness on the equity side coupled with more forecasts that need to be cut to end the year materially higher from this point. Just a guess, though, because it all depends on just how sweeping the GSE rescue plan is.
2. If it’s structured correctly, a Fannie/Freddie bear hug by the government could do enough good in the near-term to offset the price (real and indirect) that citizens will be forced to pay.
Making the government take control of the GSEs is monumental – this is truly an extraordinary time to be following the markets. Lots of people will raise noise about moral hazard, the effect on the dollar of billions more in government liabilities, and similar, but the bottom line (this coming from someone whose generation will pay for the current recklessness and clean up, you’re welcome) is that if this sends a signal to financial players that mortgage paper backing is good, liquidity is present, and Fannie/Freddie spreads come down to the point where the companies have earnings potential, it will be worth it. Whatever the plan is, hopefully it will involve a complete wipe out of the common equity; the market is already pricing it as crap (Caa3 for Fannie, Ca for Freddie) according to Moody’s market implied ratings. Holding common now is pure speculation that shouldn’t be rewarded.
