A front page article in Saturday’s Wall Street Journal, Evidence Grows That Consumers are Pulling Back, discussed the slowdown in spending on cosmetic surgery as a harbinger of a recession.  (I’d like to link to the article but The Wall Street Journal doesn’t allow it. Hopefully, Mr. Murdoch will change this now that he owns the paper.)  It seems as if spending on such surgery had previously been recession-proof. Perhaps it fell under the heading of consumer necessities. Now cosmetic surgeons are feeling the economic pain. The article specifically mentions a drop off in corrective eye surgery and breast implants. There used to be a hemline indicator for the stock market. For every decade starting with 1900, the stock market rose and fell following the length of women’s skirts. It would be politically incorrect for me to suggest an implant indicator, so I won’t. 

 

Are we heading for a recession, and a 15% decline in the stock market from its present levels? Plastic surgeons might say yes. Last week, though, the stock market said no. The popular indexes were up close to 2%. The past two weeks rally has moved the S&P and the NASDAQ close to their 2007 highs. The Dow has lagged somewhat, positioned approximately halfway between its 2007 high and low.  The market responded positively to an anticipated Fed rate cut. We’ll find out on December 11^th what the Fed intends to do, but a ¼ point cut seems baked into the market and some expect a ½ cut. After that’s out of the way, the market will again be left to ponder the likelihood of a recession. On the plus side, the Q3 productivity number was excellent and Friday’s report of 94,000 new jobs created, although slightly below the magic 100,000 number, was encouraging. 

 

The not so good news for the week was delinquent mortgage payments hitting their highest level in 20 years and foreclosures reaching record levels since they’ve been tracked, beginning 35 years ago. The value of existing homes is expected to continue falling into 2009 and level off 15% below 2006 values. Neither the administration’s subprime mortgage freeze nor a cut in the Fed Funds rate will solve these problems. As for the Fed, a ½ point cut would be an admission of just how worried it is about the economy.

 

The stock market is over bought right now. Wait until after December 11 and see what issues the market is focusing on before you commit any new money to equities. If you’re overweighed or nervous, reduce your equity exposure today.

Ugly describes the stock market last week. The Dow and S&P were down approximately 4% and the NASDAQ was down 6.5%. The Dow and S&P are approaching their lows for the year, reached during the August credit crisis. It’s hard to believe that just a month ago the Dow and S&P were at record highs and the NASDAQ was at its highest level since 2000. Market sentiment is decidedly negative or, to reuse my opening word, it’s just plain ugly out there. It wouldn’t surprise anyone if the market hit a new low for the year this week.

 

                        October High      August Low      Nov. 9 Close       

Dow                      14,164                12,861             13,043

S&P                        1,562                 1,406               1,454

NASDAQ                  2,859                 2,451               2,628

 

 

What’s happened over the last 30 days to turn the market around?  More bad news came out of the financial industry with Morgan Stanley and Wachovia reporting big write-downs. Worry over the financial institutions has morphed from subprime mortgages to securitized mortgage pools, to collateralized debt obligations (CDOs), to structured investment vehicles (SIVs), and, most recently, to credit default swaps and the insurers of all these derivative instruments. None of this is surprising, or new, news and we have to keep the derivatives issue in perspective. Banks are sound, the problem is contained to the financial industry, and it’s not the first time the banking industry has experienced problems, i.e., the Mexican and Russian debt crises, Long Term Capital Management. Oil is trying its best to hit $100 a barrel, with dire consequences for home heating bills if we experience a severe winter, and the dollar continues to hit new lows (one of the reasons why oil prices continue to rise). The homebuilding industry struggles persist. It was sad to see the pioneer homebuilder, Levitt, file for bankruptcy protection this week. Lastly, retail sales were mixed and retailers are forecasting a poor Christmas season. What puzzles me, though, is that all of the above is old news. It’s been around for months. 

 

The market ignored much good news last week. Exports continued to drive our economy (and are helped by the weak dollar), productivity growth was a remarkably strong 4.9% for the third quarter, wage increases were modest (both suggesting inflation is not a worry) and Mr. Bernanke spoke about continued economic growth (albeit weak in the near term) through 2008. 

 

So why was the stock market at record highs last month and testing its lows for the year this month? Psychology. The glass has gone from being half full to half empty. Which view is right? October’s or November’s? Obviously, only time will tell. We’ll get an important piece of data, though, this week when the CPI is released. That will tell us the impact high energy prices and a weak dollar are having on inflation. My forecast is the CPI, particularly ex-energy, will come in better than expected. And, although, the market may go lower, the issues it’s concerned about have been around long enough for the consumer and business to adjust to them. I stick by my forecast that the market will show a 20% return over the next six to nine months.

So the Dow hit an all-time last week. That’s great for all of us equity investors, unless, of course, you bought smaller cap or technology sector funds in the late 90s when the NASDAQ was racing up to the 5,000 level. Since the NASDAQ has only “recovered” to 2,500, you might not be such a happy camper.  Let’s also not forget that the Dow fell by almost 700 points from February 20 to March 16 this year, or that the Chinese stock market fell 4% in one day last week. 

 

Investing is a tricky business, especially investing in stocks. Just because one market or group of stocks is doing well doesn’t mean that you’re making money (although it also doesn’t mean that you should change your strategy and chase what’s in vogue. That’s probably the surest way to lose money.) So diversify your investments, trust a professional – two good reasons to buy mutual funds – don’t get swept up in the excitement on the upside and don’t become depressed when stocks correct. (Speaking of market corrections, rest assured that the Dow will correct.)

 

In my April 16^th posting, Elvis Has Left the Building, I talked about the seasonal effect of money flowing into the market from bonuses and retirement plan contributions. There’s a good article summarizing the pros and cons of this argument in yesterday’s New York Times, The Calendar Says ‘Sell,’ but Should you Obey? which makes for great reading. Just another reason to be cautious.