Is A Bear Market Forming?

This will be a long and fairly involved article. However, there is a lot of ground to cover. So, let's start with the charts of the market.

SPYs or S&P 500

First, I don't look at the Dow Jones Industrial Average. It's 30 stocks whereas the S&P 500 is 500 and represents a far larger swath of the market. In addition, I use the tracking stocks for all the averages.

Let's start with the five year weekly chart. Notice the SPYs traded in un upward sloping channel since the beginning of 2004. They broke through the top trendline at the end of 2006 and bounced off this line at the end of the first quarter of 2007. Then the SPYs went to form a double top in 2007. In early July of last year Bear Stearns announced two of their hedge funds were in serious trouble and the credit crisis started. As a result, the SPYs fell through both of the trend lines of their upward sloping channel. In early 2008 they formed a double bottom, with the second bottom occurring when the Federal Reserve backstopped JP Morgan's purchase of Bear Stearns. Since then the SPYs have been rallying. However, over the last few weeks the SPYs have dropped hard moving through the lower trend line of the upward sloping channel the index originally formed in 2004.

Above is a one year daily chart of the SPYs which I have included to better show the action over the last year. Notice the following:

-- Prices are below the 200 day simple moving average (SMA) -- bear market territory

-- Prices have dropped about 18% from their highs

-- Prices are clearly below the lower trend line of the upward sloping channel the average started in 2004

On the three month chart, notice the following:

-- Prices are below the 200 day SMa

-- All the SMAs are moving lower

-- Prices are below all the SMAs

-- The shorter SMAs are below the longer SMAs

This is the most bearish simple moving average orientation a chart can have.

The NASDAQ 100 or QQQQs

There are two important trends with the QQQQs. The first is an upward sloping channel that started at the beginning of 2004. This trend channel is still intact. The second trend started in mid-2006 and constituted an upward sloping rally from mid-2006 to the beginning of 2008 when the QQQQs fell through this trend line. So, the long-term upward sloping trend remains intact, but the shorter rally is clearly over.

On the one year QQQQ chart, notice three things:

-- The rally that started in mid-March of this year is over, and

-- Prices are below the 200 day SMA

-- Giving the chart a very conservative eyeballing, it's down 16.62% from its late October, early November highs

On the three month chart, notice the following:

-- Prices are below the 200 day SMA

-- Prices are below all the SMAs

-- The 10 and 20 day SMA are headed lower

-- The 10 and 20 day SMA has crossed below the 50 and 200 day SMA

This chart is not entirely bearish year. The longer-term averages (50 and 200 day SMAs) are still bullish. However, with prices and the shorter SMAs below these numbers that won't last for much longer.

On the IWMs 5-year weekly chart, notice the average was in a clear upward sloping channel until late 2007/early 2008 when the average broke through the lower trend line. Since then the average has fallen to the 200 week SMA and has fallen through that important trend line twice. The IWMs formed a double bottom in early 2008 and rallied after the second bottom. The IWMs moved into the 50 week SMA but fell from that SMA and are now through the 200 week SMA again.

On the yearly chart, notice the IWMs were in a clear downward sloping trend from teh end of September to the beginning of March. They index continually moved lower forming consolidation patterns along the way down. This chart also clearly shows the double bottom and the ensuing rally. From the highs of last summer to the current price, the index has dropped about 18%.

On the three month chart, notice the following:

-- Prices broke through the 200 day SMA but couldn't maintain momentum

-- Prices are now below all the SMAs

-- The shorter SMAs are below the longer SMas

-- The 10 and 20 day SMA are both headed lower

-- The 10 day SMA broke through the 50 day SMA and the 20 day SMA is about to cross below the 50 day SMA

In other words, this chart is moving into a very bearish orientation.

So far we have the following:

-- The SPYs and the IWMs are in a very bearish formation

-- The QQQQs are in a neutral bearish formation.

Let's look at the fundamental picture.

The Fed

In their last policy statement, the Fed signaled they are done lowering rates:

The substantial easing of monetary policy to date, combined with ongoing measures to foster market liquidity, should help to promote moderate growth over time. Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased. The Committee will continue to monitor economic and financial developments and will act as needed to promote sustainable economic growth and price stability.

In addition, after adjusting for inflation interest rates are already negative, so there isn't much point in cutting rates further.

Upward Moving Commodity Pricing Pressures

The CRB index is up 53% since August of last year. It is in a clear rally. Notice that as prices have increased they have taken the time to consolidate gains before moving higher. Also notice the following:

-- All the SMAs are moving higher

-- The shorter SMAs are above the longer SMAs

-- Price are above all the SMAs

This is a very bullish chart

Agricultural prices have been in a three year rally, although they started to correct from this rally earlier this year and broke through key upward sloping support. However, the situation in the US mid-west gave agricultural prices a bid and they have since moved higher. But also note they could be forming a double top here. Also notice the following:

-- Prices are above all the SMAs

-- All the SMAs are moving higher

-- The 10 week SMA moved below the 20 week SMA, altghough the 10 week SMA is still moving higher

This is also a very bullish chart, although we'll have to wait and see how the possible double top plays out.

Oil is the 800 pound gorilla in the room. This chart is incredibly bullish. First, notice that for the last year oil has continually moved higher. As it has moved higher it has consolidated gains and then made hew highs. Also notice the following:

-- Prices are above all the SMAs

-- The shorter SMAs are above the longer SMAs

-- All the SMAs are moving higher

This chart is about as bullish as you can get.

So, we have spiking commodity prices hemming in the Fed and consumer spending. In addition, the "stimulus" package is about over; we've got maybe another 2-3 months of mileage from that move. In other words, the possible policy responses from Washington are gone.

The Dollar

The dollar's low value causes two problems. First, it hems in the Federal Reserve's interest rate policy. Low interest rates lower the value of a currency. In addition, various federal officials have made public pronouncements about the dollar over the last few weeks, indicating they are keeping a close eye on the dollar's overall value.

The above weekly chart of the dollar is a great example of a bear market chart. Notice the following:

-- Prices have continually moved lower, breaking through support levels and consolidating gains

-- The 20 and 50 week SMA are still moving lower

-- Although the 10 week SMA has turned positive, it has down this several times over the course of the last few years with little change in the dollar's overall direction. In order for this change of direction to translate into a move higher for the dollar, we'll probably need to see actual Fed action rather than the usual "we have a strong dollar policy" talk.

-- The chart is still in a clear downward sloping trajectory

Housing

Housing is nowhere near bottom (graphs from Calculated Risk). First there is a ton of inventory on the market:

And there is a ton of inventory as expressed by the months of inventory available for sale:

This is leading to huge declines in home prices:

Home prices across 20 major U.S. cities have dropped a record 15.3% in the past year and are now back to where they were in the summer of 2004, according to the Case-Shiller home price index released Tuesday by Standard & Poor's.

Prices in the 20 cities are now down 17.8% from the peak two years ago.

Prices were lower in April than they were a year earlier in all 20 of the major metropolitan areas as tracked by the Case-Shiller index.

Notice the low consumer sentiment and confidence numbers below that indicate the consumer will not be purchasing a lot of homes in the near future.

A Consumer Under Pressure

Add to all this a deteriorating picture for the consumer. Consider the following charts from econoday:

Job growth is slowing, leading to

Increasing unemployment which is

Lowering consumer confidence and

Consumer sentiment is falling off a cliff.

The Financial Sector

Here is part of an article I wrote recently on the FDIC's quarterly banking profile.

From the report:

Deteriorating asset quality concentrated in real estate loan portfolios continued to take a toll on the earnings performance of many insured institutions in first quarter 2008. Higher loss provisions were the primary reason that industry earnings for the quarter totaled only $19.3 billion, compared to $35.6 billion a year earlier. FDIC-insured commercial banks and savings institutions set aside $37.1 billion in loan-loss provisions during the quarter, more than four times the $9.2 billion set aside in first quarter 2007. Provisions absorbed 24 percent of the industry's net operating revenue (net interest income plus total noninterest income) in the quarter, compared to only 6 percent in the first quarter of 2007. The average return on assets (ROA) was 0.59 percent, falling from 1.20 percent in first quarter 2007. The first quarter's ROA is the second-lowest since fourth quarter 1991. The downward trend in profitability was relatively broad: slightly more than half of all insured institutions (50.4 percent) reported year-over-year declines in quarterly earnings. However, the brunt of the earnings decline was borne by larger institutions. Almost two out of every three institutions with more than $10 billion in assets (62.4 percent) reported lower net income in the first quarter, and four large institutions accounted for more than half of the $16.3-billion decline in industry net income.

Let's take this apart piece by piece.

Higher loss provisions were the primary reason that industry earnings for the quarter totaled only $19.3 billion, compared to $35.6 billion a year earlier.

In other words, losses nearly cut earnings in half on a year over year basis. That's a very sharp reduction.

FDIC-insured commercial banks and savings institutions set aside $37.1 billion in loan-loss provisions during the quarter, more than four times the $9.2 billion set aside in first quarter 2007.

Financial institutions are anticipating far more losses - nearly four times as much -- than they were a year ago. That indicates the credit quality of the underlying loans is cratering.

Provisions absorbed 24 percent of the industry's net operating revenue (net interest income plus total noninterest income) in the quarter, compared to only 6 percent in the first quarter of 2007.

Loan loss provisions now consume four times the industry's net operating income. That's a huge year over year increase.

The average return on assets (ROA) was 0.59 percent, falling from 1.20 percent in first quarter 2007. The first quarter's ROA is the second-lowest since fourth quarter 1991.

The industry's return on assets is almost 50% lower on a year over year basis. Again -- that's a precipitous drop in a short time.

The downward trend in profitability was relatively broad: slightly more than half of all insured institutions (50.4 percent) reported year-over-year declines in quarterly earnings. However, the brunt of the earnings decline was borne by larger institutions. Almost two out of every three institutions with more than $10 billion in assets (62.4 percent) reported lower net income in the first quarter, and four large institutions accounted for more than half of the $16.3-billion decline in industry net income.

This is a very troubling development. If a large institution fails it will send a ripple effect through the entire financial industry.

So, the short version of the FDIC report is clear: the financial industry is still in serious trouble.

I want to caution, we're nowhere near meltdown mode. There is no panic, not should there be one. The sector is still working. However, instead of being able to get to fifth gear it can only get to second gear.

Simply put, this indicates the financial sector is still in a very bad place.

So, let's sum up.

1.) Two of the three stock market averages are in poor technical shape. This lone hold-out (the QQQQs) are in a neutral position.

2.) The Federal Reserve has already lowered rates. Inflationary pressures and a dropping dollar will hem in their ability to lower rates further

3.) Inflation is increasing

4.) Housing is nowhere near bottom as indicated buy the bloated inventory and dropping prices

5.) The consumer has no confidence going forward

6.) The financial sector is not in good shape.

In other words, the technical picture is poor and the fundamental picture is poor.

Comments

[elpollo]

Is A Bear Market Forming?

Does a bear sh*t in the woods?

[GreedyOldPsychopaths]

July 2, 2008, 4:03:00 PM: another blistering day on Wall Street as the Dow closes at 11,216, 115 points under the mark of 11,331, which is more than 20% lower than October 9, 2007's closing high of 14,165. We are now officially in BEAR market territory.

[olephart]

75% in cash and 10% in gold and silver doesn't look so bad now. None the less, taking a bath on a two hundred, make that a hundred and seventy grand in stocks is still painfull, ouch.

[WIpatriot]

Get out of there, ol'.

[WIpatriot]

Can't...stop...gold...silver...advancing...overtaking...60%...portfolio...help!

[GreedyOldPsychopaths]

I just bought a minority ownership share in a small entrepreneurial firm that has grown nearly 10 fold over the last five years. Will have to resign my job, but it's worth it if I can salvage my retirement fund through this transaction. 401ker's are going to be in a world of hurt.

[Rule Of Law]

The question, "Is a Bear Market Forming," seems, on the surface to just be begging the question to an answer we already know. But after I scratched it a little, I found that while we have been experiencing recessionary pressures for well over a year now, according to the corporate MSM and Wall Street, we have been seeing a magically expanding economy and, therefore, could not possibly be in a recession or worse.

Ah, the magic of numbers.

But what Hale has put up questions that basic notion of cooked books. As many have noted, how in touch with the real American economy can these Savants be if their 6+ figure incomes isolate them from our realities? And our reality is more accurately reflected by Hale's numbers and the question they raise--Are we looking at a Bear market, and if we are, what does that do to the high priced, puerile, prognostications of those wily, Wall Street wags?

A bear market is something far deeper than just a downward blip on the economic screen; it portends a growing realization at all levels of the financial industry that things are not as they seem. When that specter hits Wall Street, it soon is haunting Main Street. As the foremost horseman of Bush's impending Fascist Apocalypse, this corrosive economy will do more to advance his agenda of class warfare and Executive/Elite Privilege than any war, terrorist, or natural disaster could.

[GreedyOldPsychopaths]

Your prognosticating prose is positively poetic and protentous. Loved the mixed metaphors of ghostly aberrations and biblical propheticism.

[GreedyOldPsychopaths]

Ah..."por"tentous, not "pro"tentous. My bad.

[Rule Of Law]

Greedy! I blame it all on too much of both Lutheran Church (3 years, but it had its impact) and College education!

[WIpatriot]

Ah, the magic of numbers, Rule, just like magic beans.

[dadw5boys]

BEAR MARKET = BEARLY ANY MONEY LEFT TO BE STOLEN!!!!!!!!!!

[WIpatriot]

Tee-hee.

[Dunnage]

Thanks for calling my attention to this.

[francoise]

"So, basically the poor will have no options... other than a revolution..."

Am I more optimistic ? I think people may have another option, which is to stop buying useless crap that they do not need to be happy. They are just told by advertisement that they do.

If they buy what they basically need, and spend time with family and friends, walking in nature, growing organic vegetables instead of a manicured lawn, exchanging ideas, reading books, getting cultured, then they might stop being economic slaves with huge loans as handcuffs.

Moreover, when one is not an economic slave, one can afford striking and demonstrating. More peaceful than a revolution.

Our consumer society is not an external creature all growing by itself to swallow and destroy us.

Consumer society is you, me, and everyone of us.

It takes for each one of us to modify our way of living and spending, and change our society.

[FreedomCorpse]

no Hale, its not forming, its here. The PPT created a sucker's rally in March while all the smart money is heading for the hills. When the DOW is 7,000 next year, you'll wish you bought precious metals like I have. I am very optimistic and bullish, all the federal reserve, wall street and the PPT have to do is keep doing what they are doing. You see that 2x4 holding that huge rock over bernanke's head while he's standing on a hard place.....its splintering and creaking while the fed talks tough about fighting inflation....ha haha ha...what a laugh. Oh look, the IMF wants to investigate the US financial markets...wow...they are late to the party which is over and the hangover won't go away for a long, long time (years)

[moAb]

...........10,000?

[WIpatriot]

...most likely, but watch out for trolls claiming 'tards want to ruin the economy....LOL.

[zizyphus]

Let's say that the banks begin to fall like dominos. The fed would have to print a lot of money to cover everyone, then what would happen to the value of the dollar? Will a loaf of bread be a hundred bucks by that time?

Meanwhile, the global black market is fine. As this situation becomes more stark, the move will be hastened to get consumers to a cashless society. First, all cash will be chipped or otherwise traceable, in an effort to trace money used in small purchases of contraband. Congress just passed a bill that includes a provision that every electronic money transaction will be reported directly to IRS. The noose is tightening around the neck of the consumer.

[outnow]

We need emergency stop gap measures to prevent financial chaos and social chaos in the face of looming collapses of some leading U.S. commercial banks and other financial institutions.

The FDIC has liquidators who walk in and take over the bank. Secrecy is important to prevent panic among the locals. But the bigger issue is to prevent the institutional depositors from withdrawing their finds. Right now, the average two percent interest rates are significantly below even the official inflation rates, thus creating the dangerous proposition of a pullout of deposits, at a time when a number of leading American commercial banks are facing collapse.

The Bank of International Settlements warns of a worse crunch to come in its annual report, saying that its aim is to "face challenges last seen during the onset of the Great Depression," reports Ambrose Evens-Prichard of the Daily Telegraph. "The current market turmoil is without precedent in the postwar period.

He warns that the unwinding of the credit bubble might lead to a temporary period of inflation followed by a period of deflation that might be hard to manage, given high debt levels. Global banks have 37 trillion in loans or 70% of global GDP. If governments take steps to bail out, they "must understand that if asset prices are unreasonably high, they must fall. If debts cannot be serviced, they must be written off."

[WIpatriot]

And you know if the BIS is admitting it, it is way past reality.

[Suzie813]

Considering emigrating?

[WIpatriot]

Really don't wanna if I don't hafta....

[outnow]

"Buddy, can you spare me a dime?"

Who says that we are not seeing inflation and a falling dollar? Real Estate prices fell 35% in San Diego last year. They are expected to fall another 15% this year. Jobs are bad here, too. It will take much more than a thin dime to buy food and gas. The City is bankrupt and the state is bankrupt. The federal government is bankrupt. Consumer confidence is at an all-time low.

Yes, it looks like a bear market. There is no trickle down. A sinking tide lowers all boats. Wall Street and Main Street represent the two Americas. One is reality-based. Which one?

[GreedyOldPsychopaths]

"Wall Street and Main Street represent the two Americas. One is reality-based. Which one?"

Outnow, succinct and accurate summary.

[Suzie813]

And we will get to see who is swimming naked!

[GreedyOldPsychopaths]

DATELINE: Tuesday, July 1st, 2008

7:48:00 AM
US stock market futures point to dramatic lower opening as equities get pounded in Europe.

9:31:00 AM
Opening minute of the stock exchange DJIA drops over 100 points, more than 1%.

9:32:00 AM
GM down 5.5% in early trading.

9:32:00 AM
S&P 500 down 12 points.

9:39:00 AM
Financial, Energy, Technology, and Airline sectors all DOWN. DJIA still off by 100 points.

9:48:00 AM
Gold up more than 1% as dollar tumbles.

This is leaving a bad taste in many investors' mouths.

If it looks like, sounds like, and tastes like, must be a bear market.

"Grrrrr....., growl, grrrrrr....., roar"

Yah, yah, I know...it's still early in the day/week. After all, things could get much worse.

[MilwaukeeDan]

GOP, washingtonpost.com, "This Recession, It's Just Beginning" by Steven Pearlstein(6-30-08), great read. Even the MSM is waking up.

[GreedyOldPsychopaths]

MD,

Good article. Thanks for the heads up! Here's the link for others to follow:
http://www.washingtonpost.com/wp-dyn/content/article/2008/06/26/AR2008062604030.html

Watch the DJIA on Thursday after the Labor Department (BLS) releases the employment and unemployment data. Analysts were forecasting 40,000 to 50,000 fewer jobs for June. If true, June will mark the sixth consecutive month of job losses.

[WIpatriot]

Dan, how bad is it really if the MSM is waking up?

[Aaror]

Hale,
I can't actually see your charts (for some reason they never load on my computer) so I have to take what you say about the charts and try to visualize it. I want to make sure I understand one point. You seem to say that prices of agracultural goods are going up, then you say this is bullish.
It would seem to me that Ag prices could well do the same thing as oil prices, if the underlying commodity that everyone has to pay for goes up in price, the resources available for everything else goes down.
Is it possible that high Ag prices will have the same effect as high oil prices on future market moves?

[avraamjack]

.
Defining your acronyms would be useful.
.

[GreedyOldPsychopaths]

Hi Olephart,

You said, "Why can't ordinary people understand this?".

Assuming you're referring to the "so-called experts": perhaps because they're not 'ordinary', they're 6-figure plus 'superior' experts. One thing neither Hale nor the experts appear to take into account though: median and disposable income and consumer debt. If they considered stagnate income coupled with declining disposable income and increasing consumer debt, they might actually understand, that with an economy based on 2/3 rds consumerism, the US economic engine is, literally, running out of fuel.

Finally, perhaps more important than Hale's trend line analysis are the event impacts at the inflection points, especially the Jan '07 inflection points on the WTIC and $USD charts. I remain convinced that one is the primary independent variable (driving force) while the other is a dependent variable (resultant). And that the $USD chart is a function of the triple debt threat: US account deficit (trade imbalance), fiscal deficit (government spending), and consumer debt.

Here's a 2006 UK article predicting continued poor dollar performance from 2001 and on as well as the US housing crisis:
http://www.mortgageguideuk.co.uk/2006/12/will-dollar-continue-to-fall.html

[olephart]

GOP

The view from the top is that everything is fine. They base their understanding of reality from that vantage point. The veiw from the bottom is just the opposite. Thus those who are paid big bucks to predict where the overall economy is going are clueless. Hale reads the technical tea leaves but these are inturn based on the fundamentals. The fundamentals as you point out are stagnant to declining real income for the bottom 80% with an increased debt load that many have (foolishly) taken on to make up for poor income growth. The engine of growth the past 7 years was debt. The consumer side is belly up. It is only a matter of time before the Government side goes belly up. Enjoy!

[MilwaukeeDan]

ole, you have been right all along. "The view from the top is that everything is fine", that's why I view CNBC and the clowns on it as "infotainment", they are there with their six or seven figure salaries to sell you on predatory capitalism. "Hey, that stock tanked yesterday, but have I got another one to sell you today with growth potencial..........". The future scares the sh*t out of me.

[olephart]

Breaking 11,600 on the Dow pretty much says look out below. Although it's not much below that now the recent trading range has been breached. If it pops back up then this range could remain intact, 11,600 - 12,800. Note it didn't stay above this range for long. Right now we are teetering technically above an abyss.

One interesting thing is the total lack of any recognition of reality from many of the so called experts. One well placed guru speaking on one of the business shows was at a loss to explain the low consumer confidence numbers. All the macro statistics indicated a much better economic environment than was reflected by the peons on the bottom. Thus is the decoupling of Wall Street from 90% of the economy. Those whose economic lives are defined by 6 figure or greater incomes, those whose portfolios are defined using 8 or more figures are totally insulated to the reality of the 90% who make up what they are charged with evaluating.

The other interesting thing is that these experts parrot the numbers put out by the Government with no comment on the relative veracity of the data. Garbage in garbage out and they get paid for this! The view from the top is that GDP is positive, unemployment is low, core inflation is low, interest rates are low thus the economy must be in great shape! Why can't ordinary people understand this?

[dctackett]

"Why can't ordinary people understand this?"
Because ordinary people do ordinary things... they work, they spend time with family and friends... if they bother to look into whats going on, they'll usually turn to some propaganda source for information...
Thats why we, as a nation, are politically and economically ignorant... people only really start to pay attention when the you-know-what hits the fan... by that time, they are not only totally screwed, but the situation is even more confusing... and what are you going to do, when you've got a home being taken away, a family to feed and care for?...
Those pulling the strings are strengthening their grip on society... they want it like the confederacy was... lots of slaves, the free-but-poor are ignorant and dependent, while the rich insulate themselves and send their kids to ivy-league schools to network and be trained as the next generation of rulers. So, basically the poor will have no options... other than a revolution...

[olephart]

The view from the top .... the economy must be in great shape! Why can't ordinary people understand this?

Please read my response to GOP above.

I was sarcastically taking the "view from the top" perspective in relating to "ordinary people".

Thanks for taking time to comment.

[MilwaukeeDan]

ole, for lunch(11:30C), I turned on CNBS infotainment, as you say, there was an "expert" parroting the government numbers for unemployment and inflation comparing it to the 1970s and saying how good things are now compared to then, Too bad they used completely different formulas to calculate the two then and now.