Valentine Capital IPC Notes
by Valentine Capital's Investment Policy Committee

Valentine Capital Asset Management
Investment Policy Committee

WEEKLY MARKET and ECONOMIC OUTLOOK

November 5, 2009

High Response Low surprise

As expected, the central bank's Federal Open Market Committee kept its target for its federal funds rate set at a range of zero to 0.25%. After a two-day closed-door meeting, Fed policymakers made only small changes to their statement, which is carefully picked apart for clues about what the Fed might do, and when. The vote by the committee was unanimous.

So, while Bernanke & Co’s comments (and inaction) came as no surprise, the market reacted  with a bang (at least initially).  Immediately following the FOMC’s comments, the major market indices shot  straight up (see our market commentary below). The Fed restated that it "continues to anticipate that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period." Super low rates are needed because of "low rates of resource utilization, subdued inflation trends, and stable inflation expectations," the Fed said in a new formulation of its key forward-looking statement. Economists expect the Fed to hold interest rates close to zero until sometime in 2010. Some see no action at all until 2011.

GLOBAL THEMATIC OBSERVATIONS  

     ECONOMIC UPDATES

          MARKET ANALYSIS

               EARNINGS DEVELOPMENTS

China said manufacturing accelerated at its fastest pace in 18 months in October, according to HSBC's China Purchasing Manager's Index, echoing a bullish picture painted by earlier official data. The PMI came in at 55.4, up from 55.0 in September.

EU economy showing more improvement.  The services index is above the 50 mark for the second month running. The services PMI is on a tear as it is surging up at least as fast as it had dropped in the recession. So far so good. Still it has not restored the pre-recession level of the services index.

Brazil said its industrial production increased 0.75% to 119.2 in September from 118.3 in August, a little short of expectations, but still on the upward trend that began in January.  The three major marketing groups--capital goods, intermediate goods and consumer goods--have all recovered from their falls in December.  The decline in capital goods was especially severe and the recovery equally sharp.

Source: Investors Business Daily, Wall St. Journal:  October 22 – November 5. 

 U.S. Economic Events & Analysis: 

POSITIVE INDICATORS:

Jobless claims down:   The number of people filing initial claims for state unemployment benefits fell by 20,000 to a seasonally adjusted 512,000 in the week ending Oct. 31, the Labor Department reported today. It was the first decline in two weeks. It's the fewest initial claims since early January. Initial jobless claims have been above 500,000 for 51 straight weeks. Economists had expected initial claims to fall to about 520,000. The level of initial claims in the week ending Oct. 24 was revised up by 2,000 to 532,000.   The four-week average of initial claims fell by 3,000 to 523,750, also the lowest since January. Continuing state claims fell by 68,000 to a seasonally adjusted 5.75 million, the lowest since March.

Retail sales up:  U.S. retailers posted their best October sales in more than a year, with sales up 2.2%, with discounters and department stores leading better-than-expected gains. The numbers, tracked by Retail Metrics, showed retailers' best month since April 2008 and compare to a 3.5% decline in October 2008, when the start of the financial crisis sent consumer spending into a nosedive.

Productivity up:  U.S. companies increased their output in the third quarter even as they slashed working hours, driving productivity up at a 9.5% annual rate in the quarter, the Labor Department estimated today.  It was the strongest quarter since 3Q'03 and outpaced Consensus expectations for a 6.4% increase.  Productivity is output divided by hours worked. Output rose 4% annualized, while hours worked plunged 5%. Real hourly compensation increased at a 0.2% annual rate.  Unit labor costs -- a key measure of inflation -- dropped at a 5.2% annual rate in the quarter. With productivity high and real compensation low, companies captured the lion's share of the benefits of higher productivity in the form of profits. Inflationary pressures remained very low. (The number of hours worked was the lowest since the first quarter of 1996. However, the economy produced 45% more goods and services in the third quarter of 2009 than it did in 1996.)

Service sector index stays strong:  Though the October Composite Index for the nonmanufacturing sector from the Institute for Supply Management (ISM) ticked slightly lower to 50.6, it still was nearly its highest level since May of last year. A level of the ISM index above 50 indicates rising overall service sector activity

Sources: Economy.com, Bloomberg, MarketWatch, IBD, First Call.  October 29  – November 5.

WEAK INDICATORS:

Benchmark up: Yesterday’s closing yield on the benchmark 10-year Treasury was 3.53%, up from 3.4%  last week.  

CRB Index up:  The Reuters-Jefferies Commodity Research Bureau is up 22.1% year-to-date, up from 21.7% last week.  The index is now at a new 12-month high. 

Oil up:  Crude for December delivery rose above $80 a barrel yesterday.   It is up from about $77 last week.  Crude inventories fell 4 million barrels in the week ended Oct. 30, and gasoline inventories decreased 300,000 barrels, the Energy Information Administration reported. Analysts surveyed by Platts had expected a modest gain in both fuels.

Sources: Economy.com, Bloomberg, MarketWatch, IBD week of:  October 29 – November 5.

The Market:    The explosive stock market rally that kicked-off March 6 has remains under selling pressure that began with  a 4% drop week-over-week ending October.  Volatility has spiked with the recent downside bias.  The VIX index has jumped, as we note  below.  Yesterday’s market action was a bit discouraging and underscores the (at  least  temporary) shift in  market  sentiment.  A  nearly 2% rise in all major market  indices  faded in  the final  hour of trading  as  the market reversed  course, indicative  of a  potential  trend change.  As we have noted, the S & P 500 has not had a pullback exceeding 7% since the market rally began in early March (the S & P 500 is up  about 57% since March 6th).    Year-to-date major index performance:   S & P 500 15.9%,  DJIA 11.7%, NASDAQ 30.3%, and the S & P 600 11.2%.     Here are the past week’s results: October 22: 32 new highs & 24 new lows,  October 23: 44 new highs & 43 new lows, November 2: 64 new highs & 37 new lows, November 3:  64 new highs &  37 new lows, and November 4:  98 new highs & 32 new lows.   Industry Group analysis:  year-to-date, 171 out of 197 groups we monitor are positive.  

Source: Investors Business Daily.   October 29 – November 5.

**The Standard & Poor’s 500 (S&P500) is unmanaged group of securities considered to be representative of the stock market in general.

**The Dow Jones Industrial Average is a price-weighted index of 30 actively traded blue-chip stocks.

 **NASDAQ Composite Index is an unmanaged, market-weighted index of all over-the-counter common stocks traded on the National Association of Securities Dealers Automated Quotation System.

 **The Standard & Poor’s 600 (S&P600) is an unmanaged group of securities, relating to the small cap segment of the U.S. equities market, covering approximately 3% of the U.S. equities market.

 ***Indexes are unmanaged and cannot be invested into directly. Investing in limited sectors may increase the overall volatility of a portfolio.

Bull/Bear Barometer: 

Market uptrend under pressure:  BEARISH.

Industry group strength broad :  BULLISH.  171 of the 197 industry groups we monitor are up year-to-date.  About the same as 172 last week, and up from only 9 when the recent rally began.

Dow dividend yield: BULLISH. The current yield for the Dow Jones Industrial Average is 2.79%, down from 4.45% March 9, which was a 5-year high.

Volatility index up: NUETRAL.  Also known as the ‘Fear index’, the VIX (volatility index)     remains near 27, same as last week, but up from 21.5 two weeks ago.  The VIX has dropped from over 50 near the market bottom in March.  According to FactSet Research, the VIX spiked to record highs of between 81 and 96 in late October, then peaked at 103.4, as panic gripped markets worldwide.  This contrarian indicator is considered bearish as it reads investors become less fearful. Since its introduction in 1993, VIX has been considered by many to be the world's premier barometer of investor sentiment and market volatility.

Investors Intelligence survey shows rising optimism: BEARISH.  The Investors Intelligence Advisors Sentiment index, which gauges the stock advice of about 150 newsletters and other paid market-advice outlets, said the portion of positive stock advisers remained at 48.3% in the past week, unchanged week-over-week and still near highs not seen since December 2007.   Bearish sentiment rose to 24.7%, up slightly from 23.1% last week & near the low of 20 not seen since October of 2007.

Bear Perspective:  Bull market or Bear market rally?? Both provide impressive gains, especially over the short-term.  During the October of 1929 to July 1932 bear market the Dow lost 89% of its value.  During that time there were 7 large rallies exceeding 27%.  For example, the bear market rally that began in October 1931 lasted 35 calendar days and resulted in a gain of 35%.  Additionally, a more powerful bear market rally ensued in 1932 when an early August to late September advance exceeded 100% before another leg down. Japan’s Nikkei showed 4 huge up moves of 50% or more during its prolonged bear market, losing 74% of its value.

Sources: Wall St. Journal, IBD, Thompson First Call, Zacks, Stock Traders Almanac, AlphaTrends.  October 29 – November 5.

● Earnings & Company Developments:     

On an absolute basis, compared with last year’s third quarter, corporate earnings are poised to fall for a ninth straight quarter, a record losing streak. While earnings are worse, they are also better.  Total Net Income for S&P 500 reported so far is 19.0%, below what those same 351 firms reported a year ago and 11.0% above what they earned in the 2Q09.  Also according to Zack’s Investment Reseach, total S&P 500 Revenues reported so far down 13.7% year over year, up 2.9% from 2Q09.    Here’s the Q3 earnings summary:  better-than-expected.  According to Zacks Investment Research, the earnings surprise ratio (#beat / #miss) is 5.49, almost double normal.  So far, at least relative to expectations, we are off to a fantastic earnings season.   As of October 1st, the earnings growth rate was at -24.8%.  Of the 397 S&P 500 companies who have reported Q3, 81% beat estimates, 6% were in-line, and 13% were below estimates.  The blended earnings growth rate for the S&P 500 for Q3 2009 is currently at -15.5%.  (Data provided by Thomson Reuters).     Companies of interest:   Chevron Corp. (CVX) reported a 51% drop in third-quarter profit on lower oil and natural gas prices, but the results beat analysts' expectations thanks to a jump in output and a sharp cut in operating costs. CVX reported a profit of $3.83 billion, or $1.92 a share, down from $7.89 billion, or $3.85 a share, a year earlier. The latest period included 20 cents a share in gains from asset sales and tax items. Revenue decreased 41% to $47 billion. Analysts forecast earnings of $1.47 a share on revenue of $47.84 billion.

Sources: Zacks Investment Research, Thompson Reuters, Earnings.com, TheStreet.com,   October 29 – November 5.

On This Day:

November 5, 1895 -- George B. Selden of Rochester, N.Y., received the first U.S. patent for an automobile.

Source: history; about.com

Notable & Quotable:  on Hardship

“Fire is  the test of gold; adversity of strong men.”

Martha Graham, American dancer

Go Figure:

WORK OR LACK THEREOF:   There were 14.9 million unemployed Americans as of the end of August 2009, not counting an additional 9.1 million individuals that are working part-time today only because they have been unable to find full-time employment. The number of Americans that fall into this part-time worker category has increased by 3.3 million in the last 12 months (source: Department of Labor).

Valentine Capital Asset Management, Inc.   

6111 Bollinger Canyon Rd. Ste 100, SAN RAMON, CA  94583

www.valentinewealth.com  · 925.275.0200

The opinions and forecasts expressed herein are informational in nature and may or may not come to pass.  The information provided should not be considered specific recommendations or investment advice.  Information contained herein is based on sources and dates believed reliable, but is not guaranteed. CA Insurance License ##0A72947.