Market Up, But More Rough Seas Ahead

Optimism is picking up in stocks after an 11% spike last Monday and the ability of stocks to hold on to gains with minimal profit taking. This is positive, but with markets entering the final two months of the year, there will be other concerns to battle with. The traditional major shopping season during the post-Thanksgiving shopping season up to Christmas is expected to be weak. The hurt in the housing and jobs market will force consumers to hold back on major spending and perhaps wait for markdowns to buy. Of course, this impacts the margins of retailers, who are already hurting and struggling to get rid of inventories, which are building up.

 As we move along, you can expect the market volatility to continue. It seems investors are looking for bargains, as current valuations are extremely low. Yet the problem is the real threat of a global recession could drive revenues and earnings lower going forward and this will continue to make for volatile days. Our view is that upside gains are not sustainable given the risk. Valuations look extremely attractive, but they are based on more optimistic earnings. Once we get a sense of the revised earnings environment, we feel valuations will be more realistic.

 Weak consumer confidence and continued weakness in the housing market are making investors nervous. The impact from the distressed housing market remains a major risk factor. We do not believe that it gets enough attention given the credit and economic concerns, yet the continued decline in home prices means less property wealth and will make consumers wary to spend.

 The Federal Reserve is trying its best to avoid a recession, but it appears to be just a matter of time. The third quarter saw a 0.2% decline in GDP, better than the 0.5% decline expected, but with negative readings predicted for the fourth and first quarter, things are not looking rosy. Depending on the economy, there could be additional rate cuts at the final December 16 FOMC meeting of this year.

 Yet we are not convinced that stocks will trend higher, as there are numerous market uncertainties. A major positive is that the recent multi-year lows appear to be holding and attracting some buying. We believe a bottom has yet to be established despite what some pundits are saying. We may be near a bottom, but we’re not sure where. Option volatility ratios are extremely high and have been

rising, an indication of a near-term bottom. Watch the volume traded on buying support when stocks move lower. Strong volume could indicate the possibility of a near-term bottom. Of course, more bad news could drive stocks lower, as investors remain quite nervous on the stock market.