The past couple of sessions have finally provided investors some needed relief.  Now the only concern is whether the market will make a significant upward move or whether we will see just a a short-term move followed by a more serious correction.

One of the reasons the markets stopped their steep slide is that corporate earnings reports for the second quarter have been coming in and some have been better than expected. Wall Street was especially relieved to see Wells Fargo exceed expectations because the banking sector has been hammered. But it is too early to get excited about these early reports. The majority to companies have yet to provide information about their second quarter performance and many are likely to have been hurt by rising costs.

Of the many economic fundamentals that impact the financial markets, perhaps the most important are consumer confidence and consumer spending. Consumer spending is the engine that drives the U.S. economy. And while consumer spending rose in June, most of that was attributable to tax rebate checks.

The latest Consumer Confidence Index released at the end of June by the Conference Board showed the fifth lowest reading ever. It seems unlikely that consumers will gain much optimism until prices moderate and home values stabilize. The next Consumer Confidence Index reading will be announced July 29, but there is no reason to anticipate a significant increase. Here is the link for the most recent report: http://www.conference-board.org/economics/ConsumerConfidence.cfm

My best guess would be that this latest move is just a short-term bounce and that stocks will resume their downtrend soon. The chart below shows Nasdaq price movement over the past year. You can see that this latest downward move ended at the same level as in March. I added two lines to the chart to show where I think it is most likely that this advance will peak. The gold line on the top chart is a 50-day moving average. I suspect the Nasdaq will advance back to its 50-day moving average but fail to penetrate it, which means the advance will stall at about the level marked by the green line. If it somehow manages to break through that level, it would meet strong technical resistance at the level marked by the blue line–where it peaked in May and early June.

The bottom portion of the chart is a Moving Average Convergence Divergence (MACD). Notice that the MACD has begun to move upward. In a normal cycle it should reach overbought levels about the end of August. Obviously there is no guarantee that the cycle will be normal. But right now there is nothing technically or fundamentally to indicate that the market is on the verge of a sustained advance.

We’re officially at the mid-point of the summer season. I hope you are making the most of this wonderful time of year.

F.S.

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A few weeks ago I blogged about my anger over the current energy problems. I wrote that during the upcoming presidential election I was waiting for a candidate who would step up and offer a solution to the problem of U.S. oil dependency. 

I got several “atta boy” responses from readers who liked my reasoning. I also received an email from a reader who apparently believed I don’t have a full understanding of the depth and complexity of the problem. The situation has remained on my mind since then, as I suspect it has for many Americans who are stunned by the recent price inflation in energy and other commodities. I have since decided I was naive to expect a solution to come from one of our presidential candidates. 

While history might someday look favorably on both Obama and McCain, my experience with politicians is that they tend to be self serving. That experience includes more than a decade as a journalist and many years in international business where I dealt with numerous politicians in multiple countries. So I have tempered my expectations because I do not think either candidate worries for even a second about how much it costs to fill up his airplane or limousine. 

I need a hero.

Right now the future of America (and possibly the world) depends more on a hero than on a president. My definition of a hero is someone who rises up to meet a challenge presented by extraordinary circumstances. A hero might be a national leader, such as Abraham Lincoln. Or heroes can be just normal folks, like Wilbur and Orville Wright. In addition to men like Winston Churchill or George Patton, my list of heroes includes Thomas Edison, Alexander Bell, Henry Ford and Albert Einstein.

Heroes can come from unexpected places. Philo T. Farnsworth was a 14-year-old Idaho farm boy cutting hay when he came up with the idea for a machine that six years later would become the first television.

Heroes often have the vision to realize the solution to problems that many still have not recognized. In 1986, I was typing my master’s thesis on an electric typewriter. Each revision required a complete retyping. Although I had been using computers for writing for several years, they were all workstations attached to mainframes and there was no easy way to transport data from one computer to another. The idea of working on an independent computer on my own desk, saving the information to a disk, and then transporting it to another independent computer was fantasy. 

Four years later I was working in Russia on a laptop computer. Mainframes had been replaced by personal computers. Virtually every computer was using a Microsoft operating system and a guy named Bill Gates was on his way to becoming the world’s richest person. By 1992 I was still in Russia and we were using this new thing called the Worldwide Internet to transmit information back and forth from the United States instantly.

I was in Russia a week after tanks were driven into central Moscow to quell an uprising of people who were fed up with a Communist system that no longer functioned. But when the tanks reached the crowds Boris Yeltsin, the former city mayor and a political outcast, climbed on top of one and called for a change. He begged the soldiers not to fire on their own citizens. In an instant the Communist government lost power and democracy prevailed without any bloodshed. The entire world as we knew it changed virtually overnight.

As a boy, I remember watching a black and white television as Neil Armstrong took mankind’s first steps on the moon. The goal for sending a man to the moon had been outlined less than 10 years earlier by President Kennedy. I remember listening as President Reagan outlined a plan called the Star Wars Missile Defense System that would use smaller missiles to shoot down Intercontinental Ballistic Missiles fired at the United States. Detractors said it was impossible, but the technology now exists and the U.S. is currently negotiating to establish missile defense sites in Eastern Europe.

In general, change makes people nervous. In the 1970s and 1980s there was a lot of concern that people would lose jobs because of computers. Today the computer and software industry is enormous. My great-grandfather was a blacksmith. I’m sure he was worried about the shift from horses to automobiles. Today the transportation industry remains huge and robust. We have little need for blacksmiths, but the country has not suffered as a result.

So when people tell me that it will take decades if not generations to find a way to replace oil as an energy source, I get a little defensive and a little ticked off. Perhaps it will take decades, but just possibly some 16-year-old kid has already figured out the answer in his basement. And as long as some big oil company or automaker doesn’t find out about it and pay him a few million dollars to forget it, the energy and transportation world as we know it could transform in a couple of years.

I don’t know whether 10 years from now we will all be riding electric scooters or cars that run on hydrogen. I do know that as soon as a viable option to oil is available, people will eagerly embrace it, a massive new industry will be born, and the world’s political climate will transform again.

In the process, investors who are properly positioned will make a lot of money. As financial advisors, it is our intent to make certain our clients participate in those gains.
F.S.

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I’ve noted repeatedly that I claim no special ability to be able to anticipate what the markets are likely to do in the future. I have personal experience with a number of people who profess to have special systems that allow them to be able to accurately forecast the movement of the financial markets. The one thing they all have in common is that they are wrong.

I’ve done a lot of reading and research about risk, odds, and randomness and I could give some in-depth explanations about why they always end up being wrong, but that would not serve my purpose today. The point I want to make is that there are times when almost anyone can forecast an imminent event.

For example, this afternoon my family will be spending several hours at a water park. It is a bright sunny day and the temperature should approach 100 degrees. Because of the conditions, I can forecast with near certainty that someone in our group will end the day with a sunburn. Even though we will be using sunscreen and taking precautions to prevent it, experience has shown that someone will forget or ignore the need for protection. Even if everyone is careful, given the conditions, the best precautions might still not be enough.

In similar fashion, given the current economic conditions, I can predict with a good probability of accuracy that the most likely direction for the financial markets over the next few weeks is down.

Below is a chart showing price movement of the Nasdaq over the past three years. Since October 2007, the trend of the Nasdaq has been downward. As noted repeatedly in the past, trend is the most powerful and consistent of any market indicator. The next level of technical support for the Nasdaq is about 2,180 (I’ve marked the level with the shorter red line). It seems likely the index will test that level within the next few sessions.

Some of the reasons I expect such a test include:

• The Dow and the S&P 500 have already broken below support and are at their lowest levels of the year. In a weak market, it is unusual for the Nasdaq to be the strongest of the three major indices.
• The moving average convergence divergence (MACD) shown by the lower portion of the chart seems to be indicating further weakness.
• The Nasdaq recently broke sharply below its 50-day simple moving average (gold line).

If the index breaks below the support at 2,180, the next level of technical support is near the 2,000 level marked by the longer red line. Because of the current economic weakness, rising oil prices, etc., I think there is a good chance the Nasdaq could fall to this level by the end of summer.

Have a great Fourth of July weekend. This report is a day early because of the holiday.
F.S.

Long-time readers know that when it comes to investment opportunities, the main thing we look for is a trend. As a general rule, market movements are random, meaning one cannot predict what is going to occur from one day to the next. Trends are the exception. By their nature, trends are not random. Instead, they tend to adhere to the rule that objects in motion tend to stay in motion.

When it comes to trends, the financial markets have an upward bias. The bulls always have an advantage because there is a constant inflow of buying regardless of market direction. This inflow comes from pension funds, retirement accounts, corporate investments, etc. In most cases it is an automatic process that doesn’t consider current conditions.

This upward bias is one reason it is difficult for investors to profit from shorting the markets. Bear markets tend to be shorter and more volatile than bull markets. True bear trends are rare and risky. A better use of shorting is as a hedge against long positions during periods of overall market weakness.

Different investors have different ideas about what constitutes a trend. There are very active traders who consider three or four-day market moves as trends. I tend to be on the opposite extreme. I like to look for trends that have been in place for several months. One tool I use to help me identify long-term trends is a 200-day simple moving average. It is easy to argue that any investment that can hold above a 200-day MA is in a long-term trend.

Let me give an example. The chart below shows daily price activity for iShares S&P Latin America 40 Index (ILF) over the past three years. Notice that although this fund has experienced some periods of weakness, it has generally remained above that 200-day MA and has tripled in value over this period. This three-year view allows us to see that the fund’s long-term trend remains intact. Now look at just the past year. Since June of 2007 the fund has gained about 25% amid some significant downturns and plenty of volatility.

Unfortunately, the current bear market that began in October 2007 has been severe enough that there are very few investments that remain in this kind of a long-term trend. Today the Dow reached its lowest level for the year and there is little reason for optimism about a turnaround anytime soon. Over the past few days I have looked through hundreds of exchange-traded funds (ETFs) representing virtually every market sector in an effort to find any that are in solid trends. It is a very short list.

The chart below shows the best performing sectors over the past year that have also had a decent trend during that time. The black line is again ILF. Notice that on the shorter one-year chart the trend is much harder to discern. The line everyone is drawn to is the yellow line, United States Oil (USO), which is up more than 100%. Another fund with a nice trend over the past six months is United States Natural Gas (UNG), represented by the blue line. The orange line is SPDR Gold Shares (GLD), which appears to have lost its trend about four months ago. And the brownish line is Powershares DB Agriculture (DBA), which also seemed to go off track. The gold line is the Nasdaq, included for comparison purposes.

That’s pretty much it, folks. There are some other individual investments that remain in solid trends, but most are representative of these same sectors, such as precious metals, energy or commodities. Now you might be wondering if investors should allocate all their assets to these sectors if they are the ones showing the most strength.

There are a couple of problems with such a strategy. First, over the past four months the only positions that have moved up strongly are USO and UNG. The second problem with any of these funds is volatility and risk. These funds are much more volatile that most investors can handle. Each has the possibility of dropping 20% or more in just three or four trading days. In addition, technical tools are showing that both of these sectors are overbought and due for some corrective action. More aggressive investors might be able to handle small positions in these sectors, but they need to have a thorough understanding of the risks involved.

I wish the news were better, but I don’t expect any major market rebounds until the presidential election picture clears or until economic indicators show substantial improvement.
F.S.

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