Wednesday, August 24, 2011

With the continued overhang of European banking worries and decidedly weak economic data here at home, global markets pulled back with US markets turning in the third worst week so far in 2011.

Early increases in the week gave way to growing pessimism culminating in a 420 point drop in the Dow Jones Industrial Average (DJIA) on Thursday and ended the week down 451 points (-4.01%) to close on Friday at 10,817.65. The S&P 500 and the Russell 2000 mirrored the DJIA losing 4.69% and 6.57% respectively. For the month the DJIA is down 10.92%, the S&P 500 is off 13.06%, and the Russell 2000 has fallen an eye-catching 18.23%. This leaves the DJIA down 6.56% for 2011 while the S&P 500 is off 10.66%, and the Russell 2000 is off 16.84%.

Utilities was the only sector to post a positive return last week (1.5%) while Consumer Staples, Telecom, Health Care, and Real Estate all out performed the DJIA. At the bottom were Information Technology (-8.1%), Industrials, and Materials. For the year, Utilities (2.7%) and Consumer Staples (2.3%) are the only positive sectors. Financials (-21.8%) is the worst performing sector in 2011 followed by Industrials, and Materials.

The MSCI EAFE Index fell 3.50% last week as European policy makers struggle to stay ahead of the growing banking crisis. The summit in Paris between French President Sarkozy and German Chancellor Merkel failed to calm the markets and highlighted the incredibly difficult challenge Europe must overcome-instituting a "federal" economic system over 27 sovereign countries. The United States understood this challenge in 1790 when Alexander Hamilton called for and effected the consolidation of states' debt accumulated by the colonies during the Revolutionary War. The price extracted from the states for converting their individual state debt to federal debt was to give the US federal government greater fiscal authority (Growth in Emerging Countries Slows Significantly, The Wall Street Journal, August 17, 2011).

Looking around the globe no one region is outperforming another, with the Middle East qualifying as the worst of the worst. For the month of August, the MSCI EAFE is down 13.91%, and is down 12.79% for the year.

The Euro and US dollar continue to move marginally against each other. For the week, the Euro gained one and one-half cent to the US dollar closing at $1.439. The real action is coming from currencies that are seen as "safe havens" which include the Swiss Franc, the Brazilian Real, and the Japanese Yen. Each of these currencies has seen significant appreciation against the US dollar.

Gold continued to be the story of the week as the price of gold once again reached record levels Friday morning ($1868.40) before closing Friday afternoon at $1852.00 giving gold a weekly gain of $109.40 (6.28%). For the year, gold has now added $432.30 (30.45%) per ounce raising concern that a "gold bubble" may be emerging. As long as investors' fears about the markets and government policies grow, the more gold will continue to rise.

The price of oil continued to pull back over demand concerns losing $2.68 (-3.14%) per barrel of West Texas Intermediate (WTI) closing Friday at $82.70. An interesting divergence is beginning to develop between the price of US-produced oil (WTI) and that of Brent oil, which remains above $108 per barrel. Brent oil is produced in the North Sea and is viewed as a broader indication of oil prices than WTI. I will address this topic in my next Weekly Update.

The Dow Jones UBS Commodity Index, which measures a broad basket of commodities, gained 1.26% last week primarily on the strength gold prices. The index is now down 2.34% for the month and is down 2.09% for the year. Friday saw gains in most commodities other than coffee after earlier pullbacks in the week.

Bond markets continue to show strength. US Treasury yields have reached historic lows with the 10-year yield falling to 2.028% on Thursday morning before closing Friday at 2.066%. The fall in Treasury yields can be attributed to a combination of lousy US economic data and Fed Chairman Bernanke's stance taken the previous week where he said that the Fed would keep short-term interest rates at near 0% for the next two years. Long-term bonds of all types are leading current bond category performance along with some international bonds. For the week, the Barclays US Aggregate Bond Index rose 0.39% and is now up 6.86% for the year.


One of the great paradoxes of investing is that most data and commentary is backward looking while markets look forward.

Key economic data such as housing starts, jobless claims, unemployment rates, consumer sentiment, and Gross Domestic Product (GDP) data are all backward looking. Telling us what has happened, not what is going to happen. One of the reasons the markets reacted so negatively on Thursday when the Philadelphia Federal Reserve released its survey of industrial production was because this report is forward-looking by about three weeks and is forecasting a significant contraction in industrial output--especially when compared to recent data.

A not very scientific indicator of investor sentiment can be found on the covers of magazines. For example, this August 6th cover of The Economist can only be described as fearful and designed to sow doubt into the minds of readers about the future of economic growth. Dorsey Wright & Associates has done an interesting study that shows that more times than not, the gloomier magazine covers are, the closer we are to completing a downturn.

An indication of how investors are reacting to headlines like the one from the cover of The Economist comes from a story in the Personal Finance section of The Wall Street Journal this weekend titled, "Portrait of the Angry Investor." This story states that, "people seem to feel like bystanders in their own financial lives-almost as if they were spectators at a racetrack equally incapable of stopping an impending car crash and of tearing their eyes away from it," and even though most people were spending at least an hour each day following financial news, "...51% of the investors said they hadn't even checked the performance of their own portfolios." I believe the answer to why people are not acting is they simply do not know what action to take. They do not know because they are inundated by conflicting stories and prognostications, which are likely to be based on opinion and the author's personal agenda.

I believe the key to successful investing is to stay focused on what we do know, and I believe the best indication of what the markets are telling us is through the price movements of securities and the changes that can be seen in broader relationships. Relative strength analysis helps to do just that and is the foundation of my Looking Ahead section each week. With that said, let's look at what the data is showing this weekend.


Following the upheaval in the markets this past month there have been notable changes to the major market indicators that I follow. First, the market is on defense. I know this because the New York Stock Exchange Bullish Percent (NYSEBP) is now retreating and at the very depressed level of 21.41%. For my long-term readers you know that any level below 30% is considered less risky for investors. Think of the example of crossing a narrow beam 4 feet off the ground compared to 40 feet. If you fall from a very low level, the risk of serious injury is much less. Today we are 4 feet off the ground. However, the chart is still retreating (in a column of O's), so it is not necessarily the time to increase stock exposure now.

Looking at the five major asset categories, Commodities is first, followed by US Stocks, Foreign Currency, Fixed Income, and International Stocks. I focus my investment activity on the top two asset categories; however, both Commodities and US Stocks fail the Cash bogey check meaning, historically, Cash has outperformed in the near-term. Therefore, I have used this signal to suggest that investors consider trimming their stock and commodity holdings by retaining only the strongest relative strength investments. Currencies have pushed up from last place in the last two weeks and the Swiss Franc, Japanese Yen, and Brazilian Real have risen rapidly. Fixed Income has always been part of my portfolio recommendations and this asset class continues to hold steady for now. With the International Stock asset category falling to last place, I generally do not favor much exposure to this asset category, but if you do, Emerging Asian-Pacific is now the strongest international sector on a relative strength basis.

Within the Commodity asset class, Precious Metals and Agriculture sectors are the strongest. Among US Stocks, middle capitalization stocks have replaced small capitalization stocks as the favored market cap segment, while growth and equal-weighted indexes continue to maintain their relative strength. There are no sectors that are favored for over-weighting; however, I maintain my position that US Financials should be avoided. Within Fixed Income, the US corporate bond sector was just replaced by the Inflation Protection sector, and International Bonds continue to remain the other favored bond sector.

I want to conclude with a couple of additional comments. First, if you are not comfortable with the markets, consider moving some of your assets to cash. As I said last week, the worst thing that may happen is that you might miss part of the rebound should that happen, but if the markets continue to fall; you may not be any worse off. Second, I am exploring selective purchases of several large, dividend-yielding companies.

Notable economic data releases for the coming week include new home sales Tuesday, durable goods orders on Wednesday, the regular Thursday morning release of initial jobless claims, and the first revision of the 2nd Quarter GDP data on Friday. The GDP number will be especially important to investors.

Finally, because each investor is uniquely different in their goals, risk tolerance, and economic status, I always prefer to have a one-on-one conversation to address your unique characteristics so please give me a call if you have any questions or comments.

Please note that I will be traveling next weekend and will not publish a Weekly Update.

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.

Currencies and futures generallyare volatile and are not suitable for all investors. Investment in foreign exchange related products is subject to many factors that contribute to or increase volatility, such as national debt levels and trade deficits, changes in domestic and foreign interest rates, and investors' expectations concerning interest rates, currency exchange rates and global or regional political, economic or fi nancial events and situations.

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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