Wednesday, August 10, 2011

US and global stock markets saw a second consecutive week of sell-offs as investors digested the details of the debt ceiling compromise, poor economic data, and Europe's continued struggles to contain Greece's debt crisis. All major stock indexes are now trading in negative territory for the year. Additionally, there have been major changes to the technical indicators I follow.

After markets closed on Friday, Standard & Poor's downgraded the US's AAA rating to AA+. This may have serious consequences for investors in the coming weeks.

The Dow Jones Industrial Average (DJIA) lost 699 points (-5.75%), the S&P 500 shed 93 points (-7.19%), and the Russell 2000 lost 82 points (-10.34%). These losses surpassed last week's year-worst data and then some. Thursday's major sell-off was the worst one-day drop by the S&P 500 (-4.78%) since April 29, 2009's 4.32% drop. For the year, the DJIA is now down 1.15 %, the S&P 500 is down 4.63%, and the Russell 2000 is down 8.81%.

Every sector was down again last week. Consumer Staples was the best performing sector losing just under 3% followed by Utilities and Telecom. Real Estate, Energy and Materials were the worst all losing between 10% and 12%. For the year, Consumer Staples, Utilities, Health Care, and Energy are top performing sectors and remain positive for 2011.

International markets followed US markets with significant sell-offs. The MSCI EAFE Index dropped 9.92% and is now down 8.75% for the year. No region of the world was spared the sell-off, but Europe was by far the poorest regional performer with losses averaging around 11%. It is not certain that the European Union will in fact contain Greece's debt crisis and prevent its spread to Spain and Italy.

The Euro has been moving in incrementally up and down against the US dollar. Last week it fell just over a penny to close at $1.428 and is up nine cents for the year. The real action has been the Japanese Yen which has risen to the point that the Japanese government sold Yen to keep that currency from rising too much and hurting that countries critical export trade. I am not terribly impressed with most of the world's major currencies as they have all been moving down more or less together.

Gold continued to be the investment of last resort as it posted a $20.80 (1.28%) gain to close the week at $1651.80, and this precious metal is now up 16.35% for the year. Oil pulled back dramatically losing $8.98 (-9.367%) per barrel reflecting serious concerns over the strength of the global economy. Oil investors are worried about the strength of the global economy pushing demand down, and as the US dollar has strengthened recently, this has added an additional headwind to this and other commodities.

The Dow Jones UBS Commodity Index, which measures a broad basket of equities, fell 4.09% last week and is now down 3.84% for the year. This index is heavily weighted in energy and precious metals with oil being the primary cause of the pullback, however, other economically sensitive commodities such as copper will also feel the pressures of a weakening global market cycle.

The bond markets gained last week as investors looked for a place to hide as stock markets sold off. This is an important and positive sign because the bond market is functioning normally as compared to 2008. The Barclays Aggregate US Bond Index gained a solid 0.82% following last week's gain of 0.71%. For the year, the Barclays is up 5.52%. The 10-year US Treasury yield fell substantially to 2.566% at close on Friday which marks the lowest close since early November 2010. The real question will be what will happen to bond yields in light of S&P's US debt downgrade. The best performing bonds were the more volatile longer-term maturities while high yield and preferreds were the worst.


Following the past two weeks, virtually every stock market is now in corrective mode (greater than a 10% drop from recent highs). The reasons for this are numerous and I have discussed all of these issues in detail over the past weeks and months. At the core of all of this is a US economy

that simply is not growing. Overlay this with the debate in Washington about the growing US debt burden and Europe's turmoil as it struggles with fears that Spain and Italy are now at risk with bond investors, and you have a real mess. As if this is not enough to worry investors, Standard & Poor's announced on Friday evening that they were cutting the US debt rating one notch from the coveted AAA to AA+ (same as Spain and China).

Beyond the highly visible and significant selloff in markets, there has been a major change to my technical indicators. As I begin this discussion of the technicals, please keep in mind that these technicals are price-based and I assume that every bit of critical information about a stock or a market is reflected in the price. There are five major asset classes which I follow: US stocks, International stocks, Commodities, Bonds, and Currencies. I rank these asset categories from top to bottom and then evaluate each category with its relative performance against cash. The current order of the asset classes is: Commodities, US stocks, International stocks, Currencies, and Bonds. This order has not changed recently, however, last week each of the top three categories are now failing the relative strength test against cash.

What this means to you is that if you are risk adverse, meaning that you are very uncomfortable losing money, you should consider selling or reducing your stock holdings in these top three categories. If you are risk tolerant, you may consider maintaining your investments for now. Each investor is different and you should make decisions based on your individual risk tolerance and other factors such as tax gains or losses.


The talking heads are all a-twitter with the current turmoil in the markets. If you are watching or reading the many stories in the media you are probably shaking your head about how so many people can have so many different opinions about why the markets are selling off and what you should do with your money. Let me begin this Looking Ahead segment saying as I have many times: I do not know what the markets are going to do tomorrow or this week, or even next month. What I do know is what my technical indicators are seeing in the markets' behavior.

Let me use an example to help explain why I look at my technical data to interpret what is happening in the markets and why I consider the opinions of others to be of secondary importance. One of the greatest American physicists, Richard Feynmen once said, "The first principle is that you must not fool yourself, and you are the easiest person to fool." He was admonishing his fellow scientists to not permit their personal expectations/biases from influencing their interpretations of data resulting in incorrect conclusions. This personal bias is also referred to as cognitive bias-when we look for evidence that confirms our existing opinion, and tend to ignore, dismiss, or refuse to look for evidence that would contradict what we already believe. Personal bias can also be heavily influenced by recent events-think 2008. Market prices provide great insight into the underlying reality. If markets are not doing what you think they should, the market is probably right and you are probably letting confirmation bias fool you. (Prices reflect the current expectations around a situation-not necessarily the correct expectations. If circumstances cause expectations to change, you can expect that market prices could have quite an adjustment too.)

With a lot of smart people wagering significant sums of money on outcomes, prices are often our best guide to the probable future. Prices are going to reflect reality as best it can be determined. So my focus is always on the price movements of stocks, bonds, and asset categories, not what some talking head is saying in the media.

As I prepare this Weekly Update late on Sunday evening (August 7th) Asian markets have opened to the downside and US stock futures are reflecting a lower opening. It is impossible to tell what will actually happen this coming week. It does not look good for the start of the week, but it is hard to say if this selling pressure will continue or abate. My techncials suggest that risk is high and caution is appropriate at this point in time.

Gold prices are soaring to nearly $1700 an ounce indicating the level of uncertainty in the markets. Through Friday, the 10-year US Treasury yield was pushing down to near record lows. Unemployment numbers remain unacceptable and there are signs that consumer spending is weakening. Taken together, this data is suggesting that the economy is in for a continued rough patch. I believe the real wild card here could be the intervention by the Federal Reserve. The Fed's Open Market Committee meets this coming week and they could follow that with some sort of an announcement that might move markets. The Chairman, Mr. Bernanke, is also speaking at the Fed's annual Jackson Hole conference where he could suggest new policies much as he did last year when he unveiled Quantitative Easing II (QE II) that gave the markets a shot in the arm. Unfortunately, there are fewer options available to Mr. Bernanke than last year.

So if you have not reviewed your portfolio do so with a critical eye. If you are uncomfortable, make some adjustments.

I continue to prefer Commodities and US stocks with an understanding that cash is outperforming on a relative strength basis in the near-term. I am avoiding international stocks except for the strongest technical positions. I continue to like US corporate and international bonds, and commodities are outperforming most other investments on a relative basis. With US Treasury yields continuing at record lows, this suggests that the US Treasury market is not going to suddenly sell-off even in light of the S&P downgrade.

Volatility is likely to continue into this week. This is the sign of markets that are uncertain about what is happening.

These continue to be challenging times. The markets are very concerned about many issues with outcomes undetermined. Looking back in history, it is akin to the weeks following Pearl Harbor...the news was terrible, there was no strategy in place to deal with all the events happening around the world, and Americans were realizing that there would be many sacrifices ahead before normality would return. Today we need a coherent strategy. We need to look at events and figure out how to deal with how we go forward, not playing blame games on why we are here. And we need leadership from the White House, Congress, and business to come together to get this economy going.

Whatever happens, you must take action and have a strategy to invest in these difficult times even if our national leaders do not. I believe that following the tenets of point and figure charting and relative strength analysis give you the tools necessary to develop that coherent strategy necessary to move forward if you are not already using them with me.

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 Dow Jones UBS Commodities Index is composed of futures contracts on physical commodities. This index aims to provide a broadly diversified representation of commodity markets as an asset class. The index represents 19 commodities which are weighted to account for economic significance and market liquidity. This index cannot be traded directly. 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.


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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