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Sector Detector: New “Grecian Formula” Is Making Us All Gray

 May 25, 2012 12:35 PM

(By Scott Martindale) Despite the fact that U.S. equities are well-positioned and well-supported to go up, once again it is the headlines out of Europe—especially Greece—that are scaring off investors. Some are saying that it is now likely (and even desirable) that Greece will default on all its sovereign debt, withdraw from the euro, and severely devalue its domestic currency (Drachma?). This will allow them to operate a balanced budget while pumping cash into growth initiatives, rather than suffer the ravages of Germany-mandated austerity.

Some say, so what? Greece makes up only about 2% of the Eurozone's overall economy. Nevertheless, you might say that this new "Grecian Formula" is creating the opposite effect to the men's hair product, i.e.., rather than losing the gray we are all getting grayer from the stress of it all—especially the banks holding all that Greek debt. The new Greek elections are set for June 17, which will tell us much about how this all resolves.

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On Wednesday, Germany sold about $5.8 billion worth of 2-year zero coupon bonds with an effective yield of virtually zero. In other words, investors are buying them simply to preserve capital, i.e., a return of their principal rather than trying to seek any kind of return on their principal (and risk losing it). While Spain and Italy have to pay increasingly higher yields on their bonds, Germany's stability allows them to receive free money from the investment community. And Greece, you might ask? Its 1-year bond is yielding over 1,100%.

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As the euro continues to fall against the U.S. dollar, U.S. equities suffer, even though recent U.S. economic data continues to improve. Even housing is getting in on the upswing. And of course, although the latest stimulus program, Operation Twist, is set to end in June, the Fed has promised to stand ready to provide all liquidity required to keep the U.S. economy functioning. Nothing beats free money. But still, investor worry about global economic dominoes falling prevails.

Let me make a brief comment on the latest Wall Street boondoggle—also known as Facebook (FB). Of course, we all know that it is a terrific destination with a huge and rapidly growing following of loyal users. Surely there will be a way to continue growing revenues without chasing away their legions of fans. But the fact is that nobody using Facebook is there to buy anything. They are there to socialize. Slipping in ads and trying to generate revenues for businesses is a balancing act that can backfire if done wrong or too aggressively.

Contrast their business model with the profit juggernaut of the 21st Century—also known as Apple (AAPL). Apple also has a huge following of loyal fans, but unlike Facebook, Apple's clients are dying to buy their products. The appetite is insatiable to buy the next big thing they release. People line up to be the first to own the latest model, even when their previous model is still perfectly good. What a phenomenal business. In other words, selling stuff attracts people to Apple but repels people from Facebook.

This makes revenue growth at Facebook tricky and its ridiculously high valuation problematic. I know in which company I'd rather own shares. Now Wall Street once again looks like they have screwed the little guy. After all, Morgan Stanley earned $100 million for adding very little value to the process. Now Congress feels they must get involved. Wonderful.

SPY closed Wednesday at 132.27 after making an impressive late-day recovery from what seemed like a resumption of last week's weakness. The day finished with a handsome—and potentially bullish—hammer formation on the daily candle. Volume was quite strong during last Thursday and Friday's market weakness. But round-number support at 130, and the prospect of strong support at the 200-day simple moving average, led to an oversold bounce on Monday. Now the market is waiting to see if bulls can hold their ground at this level.

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