Tuesday, February 22, 2011

The Weekly Update is back after a one week break as I successfully fought off a serious sinus infection. My wife, Virginia, reminded me that I did not get a flu shot this year against her advice, and I admit that I have paid the price for being a "typical guy."

Financial news has taken a back seat recently to the political news coming in from the Middle East and here in the United States. The Egyptian protests have garnered nearly 24/7 coverage on the cable news networks as we watched the unrest continue and now spread throughout the broader Middle East. Oil is the blood of international commerce, and most of it is produced in the Middle East making what happens there critical to our economic health. Here in the United States the political protesting occurring in Wisconsin is bringing the battle over fiscal philosophies to a boiling point. I fully expect this type of discourse to spread to other states over the year, and this does not even begin to speak to the battles beginning to take shape in the US Congress over our federal budget deficits. Looking at these major stories, I believe that if the Middle East devolves into chaos and disrupts the flow of oil, this will have a significant impact on markets. As our internal debates rage here, I would not expect major impacts on our markets in the near-term. If budget deficits continue to grow at current rates, however, the economy will begin to suffer and the first signal of this will likely come from a significant rise in interest rates.

The markets have continued their very steady increases here in the US. Seven weeks into the trading year, the Dow Jones Industrial Average (DJIA) has been up six of the weeks, and the S&P 500 has been up five of the seven. Last week, the DJIA added 118 points (+0.96%) and the S&P 500 added 14 points (+1.04%). The Russell 2000 was the best performer of the big three adding 12 points (+1.47%). For the year the DJIA is up 7.03%, the S&P 500 is up 6.79%, and the Russell 2000 is up 6.45%.

The top three broad economic sectors last week were Energy, Health Care and Materials while Telecom, Consumer Staples, and Utilities were the bottom three. For the year, Energy is now up double digits followed by Industrials, and Information Technology. Every sector is positive for the year.

The MSCI (EAFE) World Index gained 2.04% for the week and is now up 6.07% for the year. International performance has been disparate and uneven so far in 2011. Spain, Italy, and France are the top three countries that I follow posting double digit gains. Recall that last year these countries were significant underperformers due to the uncertainties surrounding the European debt crisis. At the bottom of my list of countries are Egypt, India, Chile, and South Africa, all countries that had performed exceptionally well or above the broader indexes last year. In general, Developed Markets have out-performed Emerging Markets, and the Middle East appears to remain under greater stress than most other areas of the world.

There has been some news coming in late last week regarding Portugal's debt situation. The interest rates on their 5 and 10-year government bonds have pushed above 7%. This is considered an unsustainable level and prompting calls for the Portuguese to accept a bailout from the European Union (EU). The EU will spend the next month or so trying to formalize the terms of the permanent bailout fund. The sticking points center on just how much power the EU will be given over individual member countries that do not adhere to the rules. The European debt crisis ebbs and flows and it must be watched carefully.

Chinese markets are slightly positive this year, but news on Friday that the Peoples Bank of China is increasing the banking reserve requirement for the second time this year (6 times in 2010), to 20% will certainly impact Chinese markets when they open on Monday. Additionally, just gaining coverage by the media is growing unrest as Chinese activists seek to piggy-back off the unrest in the Middle East. So far, Chinese authorities have aggressively moved to squelch the "Jasmine Revolution."

The Euro gained just over 1% against the US dollar last week closing Friday at $1.3698 up from the previous week's close of $1.3540. The Euro has remained relatively stable against the dollar so far in 2011 posting a 2.5% increase for the year. Most of this gain in the Euro (and other currencies) against the US dollar reflect the view that long-term interest rates of US Treasuries will remain below those of other countries. A broader index, the NYCE U.S. Dollar Index (DX/Y), has also fallen about 1.8% for the year (the higher the index, the stronger the US dollar). Federal Reserve Chairman Ben Bernanke defended his quantitative easing policy in a speech last Friday in Paris to the finance leaders of the G-20 (top 20 world economies), reinforcing the belief by investors that the Federal Reserve will continue to keep interest rates as low as possible for the foreseeable future.

Gold posted its largest increase so far this year gaining $28.20 (2.07%) as gold closed Friday at $1388.10 per ounce. After being down over 6% earlier in 2011, gold is now down 2.23% for the year. Oil (WTI) added $0.42 (+0.49%) to close the week at $86.00. For the year, however, oil remains off 5.72% even as the energy sector in general continues to rally. A broader look at commodities shows they remain in a general up trend, but trailing the broader US stock indexes. I will reiterate my belief that all commodity prices will be impacted should political unrest spread and impact global commodity producers.

Bonds rallied last week with the Barclays Aggregate Bond Index gaining 0.46% and is now down 0.5% for the year. The 10-year Treasury yield closed Friday at 3.5850% down from the previous week's close of 3.6380%. For the year, high yield and preferred bonds have been the best performers while long-term Treasuries and corporates have been the worst performers.

THE NEW YORK STOCK EXCHANGE BULLISH PERCENT (NYSEBP)

The NYSEBP is my most important general barometer of the market's "mood." By mood I mean is the market generally supporting higher prices or lower prices? I discussed the general tenants of the NYSEBP in my Weekly Update of January 23, 2011, but I want to add to that discussion.

As of Friday, the NYSEBP reading is 80.29. Moving over 80 is a very significant event as this marks only the fourth time a reading this high has occurred in the past 10 years. This means that the markets are considered extremely overbought and demand for stocks is clearly in control.

All of economics is based upon the concept of SUPPLY and DEMAND. In other words, when people in general want (demand) more of something than is available, prices will rise; and when people do not desire (supply) something, prices will fall. To see this concept at work today I have to look no further than the Elton John concert in Norfolk, Virginia, this coming March. Tickets were clearly in demand as all available supply was sold within 90 minutes after they went on sale. Since then, a variety of ticket brokers have listed a limited number of tickets for sale at prices as much as 100 times face value. Demand is clearly in control of these tickets.

The NYSEBP measures the intensity of this demand (or supply) across a very broad spectrum of stocks, and as the NYSEBP rises above 80, demand is strongly in control. The question everyone wants to know is how long this intensity will remain, but unfortunately there is no way to answer that question. In the previous three times over the past 10 years that the NYSEBP has risen above 80 and reversed down (supply in control), the average time from peak to reversal has been 39 days (10, 41, and 67 days). The current NYSEBP peak occurred on January 18th at 80.33, but until the NYSEBP reverses, it will not be possible to determine if that peak will in fact be the peak for this current period. It will take a move of the NYSEBP down to 74.32 before a reversal will occur with the current peak. As of today, February 20th, it has been 33 days since the NYSEBP peaked. If you take nothing else away from this discussion, recognize that the level of risk is high in this market and entry positions of new equity securities should be taken with careful consideration.

Looking Ahead

For now it appears that the political news both here and abroad will continue to dominate the headlines. I will be watching to see how the news of China's tightening and political unrest in the Middle East will impact the markets this coming week.

Small and mid-capitalization stocks continue to perform strongly and the Russell 2000 is closing in on the DJIA's performance this year. I continue to recommend small and mid capitalization stocks. I prefer equal weighted indexes over capitalization weighted indexes. I continue to like the Consumer Discretionary, Materials, Energy, Real Estate, and Technology sectors.

The international sector is performing admirably. Developed and Emerging Markets both exceeded the US markets last week and are carrying some near-term momentum. I believe that the risk here is high right now given the unrest developing abroad.

Most bonds are showing steady performance. I continue to believe that bonds will perform like bonds, not like equities as they have over the past two years. I am avoiding any longer-dated maturities and focusing on intermediate-term corporates and high-income, floating rates, and preferred bonds.

Commodities are volatile. I continue to believe that oil prices are clearly sensitive to the uncertainty in the Middle East and any threats to supplies in any of the oil producing countries can cause a sharp increase in prices. A falling US dollar will also contribute to an increase in commodity prices in general. Gold is trying to get even for the year. I believe that if you own gold, keep it. Gold remains a hedge against the global uncertainties. I see no reason at this time to sell any commodities in portfolios.

The NYCE US Dollar Index is a measure that calculates the value of the US dollar through a basket of six currencies, the Euro, the Japanese Yen, the British Pound, the Canadian Dollar, the Swedish Krona, and the Swiss franc. The Euro is the predominant currency making up about 57% of the basket.

Corporate bonds contain elements of both interest rate risk and credit risk. Treasury bills are guaranteed by the U.S. government as to the timely payment of principal and interest, and if held to maturity, offer a fixed rate of return and fixed principal value. U.S. Treasury bills do not eliminate market risk. The purchase of bonds is subject to availability and market conditions. There is an inverse relationship between the price of bonds and the yield: when price goes up, yield goes down, and vice versa. Market risk is a consideration if sold or redeemed prior to maturity. Some bonds have call features that may affect income.

Emerging market investments involve higher risks than investments from developed countries and also involve increased risks due to differences in accounting methods, foreign taxation, political instability, and currency fluctuation. The main risks of international investing are currency fluctuations, differences in accounting methods, foreign taxation, economic, political or financial instability, and lack of timely or reliable information or unfavorable political or legal developments.

The commodities industries can be significantly affected by commodity prices, world events, import controls, worldwide competition, government regulations, and economic conditions. Past performance is no guarantee of future results. These investments may not be suitable for all investors, and there is no guarantee that any investment will be able to sell for a profit in the future.

As always, if you have any specific questions on your portfolio or wish to talk to me, please do not hesitate to call.

P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.

Sincerely,

Paul Merritt, MBA, AIF(R). CRPC(R) Principal NTrust Wealth Management

Past performance is not indicative of future results and there is no assurance that any forecasts mentioned in this report will be obtained. Technical analysis is just one form of analysis. You may also want to consider quantitative and fundamental analysis before making any investment decisions.

Information in this update has been obtained from and is based upon sources that NTrust Wealth Management (NTWM) believes to be reliable, however NTWM does not guarantee its accuracy. All opinions and estimates constitute NTWM's judgment as of the date the update was created and are subject to change without notice. This update is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. Any decision to purchase securities must take into account existing public information on such security or any registered prospectus.

The bullish percent indicator (BPI) is a market breath indicator. The indicator is calculated by taking the total number of issues in an index or industry that are generating point and figure buy signals and dividing it by the total number of stocks in that group. The basic rule for using the bullish percent index is that when the BPI is above 70%, the market is overbought, and conversely when the indicator is below 30%, the market is oversold. The most popular BPI is the NYSE Bullish Percent Index, which is the tool of choice for famed point and figure analyst, Thomas Dorsey.

All indices are unmanaged and are not available for direct investment by the public. Past performance is not indicative of future results. The S&P 500 is based on the average performance of the 500 industrial stocks monitored by Standard & Poors, this is a market capitalization weighted index, meaning the largest companies in the S&P 500 have a greater weighting than smaller companies. The S&P 500 Equal Weighted Index is determined by giving each of the 500 stocks in the index the same weighting in the index. The Dow Jones Industrial Average is based on the average performance of 30 large U.S. companies monitored by Dow Jones & Company. The Dow Jones Corporate Bond Index is comprised of 96 investment grade issues that are divided into the industrial, financial, and utility/telecom sectors. They are further divided by maturity with each of the sectors represented by 2, 5, 10 and 30-year maturities. The Morgan Stanley Capital International (MSCI) Europe, Australia and Far East (EAFE) Index is a broad-based index composed of non U.S. stocks traded on the major exchanges around the globe. The Russell 2000 Index is comprised of the 2000 smallest companies within the Russell 3000 Index, which is made up of the 3000 biggest companies in the US.

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