Markets to Open Lower Ahead of Key Economic Data This Week

December 1, 2008 – The futures are indicating lower openings this morning for the broader markets on the first day of trading for December, and on the heels of five consecutive sessions of gains (the first 5-day string of gains since July, 2007 and the largest five day gain in 75 years). That futures are lower shouldn’t be a surprise ahead of key economic data which is expected to show that economic conditions continue to deteriorate.

This week’s key economic data include:

·         Monday - Construction Spending for October (expectation for a decline of 1%), ISM Index for November (expect a decline to 37) and data from RCT ShopperTrak about Friday and Monday’s shopping results;
·         Tuesday - Auto and Truck Sales for Novembe (expectations are flat for autos and increase of 0.2M for trucks);
·         Wednesday – ADP Employment for November (expectations of -173K), Revised Productivity for Q3 (expectations for decline to 0.9%), ISM Services for November (expectations for decline to 42.6) and the Fed Beige Book;
·         Thursday – Weekly Initial Jobless Claims, Factory Orders for October (expectations for 2.7% decline); and
·         Friday – Nonfarm Payrolls (expectations of -300K), Unemployment Rate (expectations for increase to 6.8%), Hourly Earnings and Average Workweek for November, and Consumer Credit for October.

The outlook this week’s economic is tempered, to say the least, which is why, in our opinion that futures are moving lower this morning. Traders are preparing for more signals that the economy is still recessing. The reports that are the biggest concern for us are the labor market reports, excluding ADP which is notoriously unreliable. The nonfarm payrolls report, in particularly, will set the stage for expectations about how much deeper this recession is going to get, and just how bad things are getting for the consumer.

Oil is trading lower this morning by $2.86 to $51.57 as traders react to OPEC’s decision not to cut production over the weekend – which was a surprise to us as well. Always ready to weigh in, Iran’s Secretary General Abdullah El-Badri is saying this morning, however, that a cut in production at OPEC in December is imminent. Keep in mind that El-Badri has also been quick with threats to Washington that Iran will “weaponize” its oil production by implementing cuts if Washington doesn’t back off with its pressure to quell Iran’s nuclear ambitions.

Our opinion is that oil prices will be rising back towards the $80 and $90 levels sooner than later. Here is our rationale: producers, both OPEC and non-OPEC, are increasingly going to have a tough time keeping on with their production plans with oil prices in the $50 to $60 levels. It just isn’t as profitable at this level to drill. So production levels will dip considerably, we think. Meanwhile, the markets, in our opinion have more than priced in lower demand caused by the current global crisis. Keep in mind that China is the second largest automotive market in the world, and it currently draws down only about 7% of the world’s oil supply, as opposed to the U.S. which consumes 25%. China’s economy, even in the current financial crisis, continues to grow at a 9% clip, and it is undertaking aggressive measures to accelerate that growth further. Meanwhile, less than 10% of Chinese citizens are drivers, as opposed to the U.S. with the number is closer to 70%. As China continues to grow, and become wealthier, a significant draw down on the world’s oil supply is inevitable, and this fact seems to be lost in the current oil prices. If we are right, this is a great time to be buying energy companies.

The dollar (and the euro) is lower against the yen this morning with investors buying the yen back against the backdrop of declining manufacturing activity in the U.S., Britain and China. Also adding to dollar weakness against the yen are expectations of further deterioration in the U.S. labor market with reports on tap this week. That being said, the dollar is rallying against the euro – but we don’t expect the dollar to extend gains too much further against the euro, given the outlook for employment data, and due to the fact that the U.S. manufacturing data hasn’t been released yet.

Meanwhile, gold prices are getting hammered this morning, down $28.30 to $790.70. The weakness in gold can be attributed to relative strength in the dollar relative to the euro. Since we see this strength as being relatively short-lived, we think gold is looking pretty attractive on this dip.

In international markets, British manufacturing activity as shown by its CIPs index was reported this morning at 34.4 in November, down from October’s downward-revised 40.7, and below expectations of 38. This marks the largest one-month decline since 1992. China’s manufacturing activity also contracted in November, where its index fell to 38.88, down from 44.6 in October.

In terms of what we expect in today’s session, we expect the markets to close lower. We thought the markets would turn lower mid-last week, given the fact that there just aren’t any catalysts out there to move stocks higher. The fact that markets rallied into Friday’s close was a welcome sign to us, and could be a signal that markets could be just that much oversold. But we can’t affirm that conclusion yet, especially ahead of this week’s key labor market data. Any negative surprises in the labor market data could take us all the way back to recent lows set just a couple weeks ago, and we think traders are positioning for that possibility in the futures trading this morning. This will likely carry through the session. The best scenario for us this week would be for a modest pullback and a tightening of the trading range so that we can build some strength and real support.

We maintain our advise to our readers not to chase stocks when the DJIA moves over 8,500 and we are more inclined for accumulation in the 7,300 to 8,500 range – obviously getting more aggressive at the lower end.  

Wit, Wisdom, Fools and Folly

Hugh Johnson of Johnson Illington this morning on Bloomberg said he would like to see a positive response to this week’s economic data, and he expects a little bit of giveback in today’s session, but hopefully not too much. When asked about what we need to see as an indication of a bull market, he said we are still far from seeing anything meaningful in terms of positive developments in the economic data. In terms of sectors that Johnson likes, he is sticking to defensive sectors and regarding oil prices, he thinks prices are oversold at current levels and that oil should be trading at $80 to $85 per barrel, so he remains overweight energy. Nothing Johnson said seems to us to be too contentious, but it is not particularly insightful either.

That we will likely see the markets give up a bit of their gains (best case scenario in our opinion) ahead of this week’s economic data (especially unemployment) should be pretty conventional wisdom at this point, and we definitely think that we have a ways to go before we see any reversal which leads to a positive trend in terms of economic data. In terms of expectations for December, he thinks that between now and year end we may get a bounce, but he stressed that is more of a guess than a forecast.

Sector Watch

The Semiconductor Industry Association said global chip sales are down 2.4% in October Y/Y due to declines in sales for digital cameras, cell phones and music players. It says the effects of the global financial crisis will be felt well into 2009. Chip sales are down $22.5 billion from $23 billion in October last year, and down from $23 billion in September this year. The primary drag on sales came from memory chips, and backing that out, sales actually increased 3.8% Y/Y. Sales through October this year were $216 billion, an increase of 2.6% Y/Y.

Fast Facts

·         The national debt is at $10.68 trillion this morning.