Business and Financial Baird

Weekly Market Notes
December 10, 2012
Dow 13155 – S&P 500 1418

The equity markets were mixed last week with the Dow Industrials managing a gain while the S&P 500 showed little change and the NASDAQ was down for the period. Concerns surrounding the economy for 2013 and typical December cross currents are weighing on the market. The lack of follow-through in either direction is typical for the final month of the year, with the upcoming week historically marking the peak in tax related selling. The Federal Reserve Open Policy Committee meets on Tuesday/Wednesday with the likelihood that Bernanke will introduce additional quantitative easing. 

The Fed is expected to replace Operation Twist, which expires at the end of the month with a program that focuses on buying extended longer dated Treasury bonds. Considering the economy is still struggling, the Fed’s accompanying policy statement is not expected to offer any change leaving the Fed in a friendly mode toward the financial markets. The underlying technical condition of the stock market improved modestly in recent weeks. While the mid-November rally has stalled, the 10-day advance/decline ratio for the NSYE climbed to the best levels since 2009. 

From here, seasonal patterns will play a large role for stocks into January. December has a well-established reputation of being one of the best months of the year for stocks with the odds for a sustained rally improving as we move closer to Christmas. Small cap stocks are expected to outperform large-caps into the first six weeks of the New Year.  Looking further out, it will be important that market breadth expand significantly to allow any rally that develops to expand past the first quarter of 2013. The strongest sectors include the financials, consumer discretionary, health care and industrials.

Investors are growing increasingly optimistic as seen in several of the sentiment indicators. Historically, investors turn more optimistic in December as the New Year represents a new beginning. The shift in psychology the past three weeks is considered mildly bullish for stocks into early January. Should confidence become excessive and reach extreme levels it would argue that investors are fully committed which often occurs at a market peak.

• Ten Day Put/Call Ratio fell for the third week in a row to 89% from 91% the previous week. This indicator is considered neutral (80% is bearish and 95% bullish). The Three Day CBOE Equity Put/Call Ratio fell slightly to 64% from 65% the previous week, a neutral reading (64% is considered bearish and 72% bullish). 
• The CBOE Volatility Index (VIX), which is considered a reliable gauge of the level of fear in the market, was virtually unchanged last week, finishing the period at 15.90. The latest VIX readings suggest investors are complacent as opposed to fearful (16 is considered bearish and 23 bullish).
• American Association of Individual Investors (AAII): The latest survey shows a rise in the bullish camp for the fourth week in a row to 43.6% from 41% the previous week and 36% two weeks ago. The outright bears fell to 29% from 34% the previous week and 41% two weeks ago. This indicator is currently rated neutral. We would need to see twice as many bulls than bears to trigger a sell signal.
• Investors Intelligence (II) tracks the recommendations of Wall Street letter writers. The bullish camp rose to 43.6% from 39.3% the previous week and 37.7% two weeks ago.  The outright bears among the advisors fell to 25.5% from 27.7% (less than 20% bears or more than 50% bulls would place this valuable indicator in the get ready to sell mode. Currently this indicator is rated neutral.
• National Association of Active Investment Managers (NAAIM): Exposure to equities by aggressive money managers soared to 76% last week from 55% the previous week. The level of exposure by this group of aggressive managers is identical to what was seen with the S&P 500 Index at 1460 in early October This indicator is rated bearish (30% exposure to stocks is considered bullish and 70% bearish).
• Ned Davis Research Crowd Sentiment Poll upticked for the second week in a row and is now rated neutral.

The latest economic data, including the November Jobs Report, suggest the U.S. economy remains in a slow growth mode with GDP locked near 2.0%. The Labor Department reported that the economy produced 146,000 new jobs in November. This was above expectations although the previous two months were revised downward, bringing the net gain to less than 100,000 jobs. The unemployment rate fell to 7.7% as a result of 350,000 leaving the workforce.

The average workweek was unchanged and hourly earnings rose slightly. On a year/year basis average hourly earnings are up just 1.7%, which is near a record low. The fact that wages have failed to match the inflation rate will keep consumption from expanding and is negatively impacting consumer confidence. The University of Michigan Consumer Survey Index fell far below estimates for December plunging to 74.5 from 82.7. This was the largest drop in confidence since March 2011. 

The ISM Manufacturing Index (PMI) fell to 49.5 last month from 51.7 in October (below 50 is an indication activity is contracting). The index is at its lowest level since July 2009 and the fourth time in six months that the 50 level has been breached. The fact that more than 70% of the world economies have readings below 50 argues that global trade will continue to slow. The good news is that the ISM Non-Manufacturing Index (NMI) rallied in November to 54.7, indicating acceleration in activity. The most encouraging areas included a rise in new orders to the best levels since March. The labor numbers within the ISM report, however, showed a weakening trend falling to a four month low. 

The bottom line is that despite some encouraging signs for economic growth the outlook remains mixed going into 2013. In a separate report, construction spending climbed for the seventh month in a row in October to the best level in three years. The gain was led by residential construction. Improving conditions in the housing market have led to a jump in consumer confidence. This is seen in the drop in the savings rate in recent months from 4.5% to 3.2% (the long-term savings rate norm is 8.5%). The yield on the benchmark 10-year Treasury note was unchanged last week at 1.62%. Expectations are that the yield on the 10-year note will remain in the vicinity of 1.50% to 1.80% well into 2013.

Sector Rankings and Recommendations

No. 1 Financials = Strong RS – Buy. Groups expected to outperform: Thrifts & Mortgage Finance, Asset Management & Custody Banks, Investment Bank & Brokerage and Multi-line Insurance

No. 2 Consumer Discretionary = Strongest sector – Buy. Groups expected to outperform: Automobile Manufacturers, Auto Parts & Equipment, Home Furnishings, Education Services, Apparel Retail and General Merchandise Stores

No. 3 Health Care = Strong RS – Buy. Groups expected to outperform: Managed Health Care, Biotechnology, Health Care Facilities

No. 4 Industrials = Gaining RS – Buy. Groups expected to outperform: Industrial Conglomerates, Construction & Farm Machinery, Employment Services, Environmental Services, Airlines and Electrical Components

No. 5 Consumer Staples = Improving RS – Buy. Groups expected to outperform: Agricultural Products, Personal Products, Drugs Retail, Food Retail and Food Distributors

No. 6 Telecom = RS deteriorating – Hold. Group expected to outperform: Wireless Telecom Services

No. 7 Energy = Deteriorating RS – Hold. Groups expected to outperform: Oil & Gas Refining & Marketing, Oil & Gas Storage & Transportation

No. 8 Information Technology = Poor RS – Hold. Groups expected to outperform: Application Software, Data Processing & Outsourced Services and Internet Software & Services

No. 9 Materials = Improving RS – wait for top 5 reading – Hold. Groups expected to outperform: Commodity Chemicals, Diversified Metals & Mining, Gold and Specialty Chemicals

No. 10 Utilities = Weakest sector – Hold. Groups expected to outperform: Gas Utilities

Market Overview

Short-Term Trading range with risk to 1375 and reward to 1425 on the S&P 500
Long-Term Major support is 1100 on the S&P 500 and the reward is to 1470

Article provided by Robert W. Baird & Co. with the authorization of its author for Evan Guido, Vice President, Financial Advisor at the Sarasota office of Robert W. Baird & Co., member SIPC. The opinions expressed are subject to change, are not a complete analysis of every material fact and the information is not guaranteed to be accurate. 

Evan R. Guido

Vice President of Private Wealth Management

One Sarasota Tower, Suite 806

Two North Tamiami Trail

Sarasota, FL  34236-4702

941-906-2829 Direct Line

888 366-6603 Toll Free

941 366-6193 Fax

www.EVANGUIDO.com