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US and Asian Economic Outlooks Take Hit In Past Week

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    August 19, 2013

    In the US, the Thomson Reuters/University of Michigan Consumer Confidence Index fell from 85.1 in July to 80 in August. Retailer bellwethers WalMart and Macys unexpectedly reported quarterly sales declines and significantly cut their forecasts for the rest of the year.

    The week’s economic reports also included that the federal budget deficit, which has been declining and running at a monthly average of $60.7 billion over the last 10 months, jumped to $98 billion in July. Retail sales were up only 0.2% in July, missing the consensus forecast of 0.3%. The Phila Fed Mfg Index unexpectedly fell from 19.6 in July to 9.3 in August. Its index for new orders fell from 10.2 in July to 5.3 in August.

    On its surface the report on new housing starts looked positive, overall starts rising 5.9% in July. But that didn’t fool the market. The rise was entirely due to another increase in construction of multi-unit housing like apartments and condos, which surged up 26% from June. Meanwhile, construction starts of single-family homes declined 2.2% to the lowest level since last November, another indication that higher home prices and higher mortgage rates are slowing the housing industry.

    In Asia, Japan’s 2nd quarter GDP growth came in well below forecasts, an annualized rate of 2.6% versus the consensus forecast for 3.6%. And business spending fell by 0.1% year-over-year versus the consensus forecast of an increase of 0.6%. Japan’s Industrial Production also declined 3.1% in July from the previous month, and was down 4.6% year over year. And capacity utilization declined 2.3% in June after rising 2.3% in May.

    India reported that its industrial production fell 2.2% in June from a year earlier, worse than the consensus forecast for only a 1.0% contraction, and the previous report for May was revised down to –2.8% growth from the previous report of –1.6%. It was also reported that inflation in India jumped up in July and outside of the government’s ‘comfort’ zone, jumping to 5.79% year-over-year from 4.86% in June. The report will make it very difficult for India to cut interest rates or make other inflationary moves to try to stimulate its slowing economy.

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    That bad news was partially offset by positive economic news from Europe.

    The eurozone apparently has potentially pulled out of its long recession. GDP was 0.3% higher in the 2nd quarter from the first quarter, the first quarter-over-quarter improvement in a year and a half.

    European markets closed up for the week as a result, while the U.S. market sold off for a second straight week.

    The decline in the U.S. took the S&P 500 down exactly to the potential support at its 50-day m.a.

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    Other Voices.

    Jeff Macke, Yahoo Finance: “David Lutz, managing director & head of ETF trading at Stifel Nicolaus, says the gang in DC is on the verge of helping U.S. markets crumble for the second time in three years. Lutz sees evidence that money professionals are starting to buy options protection against the possibility of market declines in October and November. The major culprit sounds familiar: the debt ceiling. . . . The same fight that took stocks down nearly 17% in less than a month in 2011 is bubbling up again and it doesn’t look like there’s an easy solution.”

    In defense of inverse ETF’s.

    As the stock market begins to look wobbly, interest is picking up for inverse etf’s.

    So, the usual articles warning of their dangers are showing up again.

    Inverse ETF’s, like inverse mutual funds, are designed to move up when the underlying index moves down. This is accomplished through selling derivatives (futures and options) on the underlying indexes and rebalancing the positions at the end of each day. First of, the complexity baffles those who criticize them and we sometimes fear what we don’t understand.

    Obviously, they are designed for use only in market declines, since they move opposite to the underlying index and will produce losses in rising markets. But is that not exactly what happens if you hold an individual stock or long-side mutual fund in a falling market?

    There is one caveat to that.  Because of their nature they are not meant as buy and hold assets, and their websites warn about that. Holding through down and back up cycles would not make any sense.

    But let’s consider that investors using them are smart enough to buy inverse etf’s (or inverse mutual funds) only for declining markets not as buy and hold vehicles, in the same way we hope they are smart enough not to buy stocks at tops and hold all the way down.

    Now let’s look at the warnings against them.

    “They don’t correlate well with the underlying index because they are re-balanced near the end of every day. Sometimes a market will be down 1.0% on the day, but the inverse etf will only be up 0.7%. That can add up to considerable under-performance over time.”

    Come on. Don’t we want to talk about both sides of the picture? What about the days when the market is down 1.0% on the day and the inverse etf is up 1.3%?

    What counts is how well the inverse etf correlates with the market over the course of a market decline.

    So let’s look at the inverse etf ProShares Short S&P 500, compared to the S&P 500 itself.

    On the long-term move during the 2008-2009 meltdown the S&P lost 57%, while the inverse etf gained 70%. Not exact correlation but hardly a problem.

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    I could show you similar short-term comparisons, when inverse etf’s are used in intermediate-term market corrections. But you can probably see that to some degree from the market corrections in 2010, 2011, and even the small pullback in 2012 that show on these long-term charts. For instance, in its summer correction in 2011 the S&P 500 declined 21%. The ProShares Short S&P 500 closed up 21.9%.

    And as we can see, and would certainly expect, the inverse etf would be a horrible holding through the impressive bull market (just as the S&P 500 itself was a horrible holding through the 2008-2009 decline).

    So does it make sense to look at an inverse etf’s five-year performance as a basis for warning that inverse etf’s have a terrible performance history? But that what the critics do say.

    Inverse etf’s do what they are designed to do.

    From a recent prominent article disparaging etf’s:

    “If you own, say a Direxion triple-inverse etf for more than a day your investment moves in unpredictable ways.”

    Good choice of examples if you’re presenting a balanced picture? Not a simple inverse etf, but a ‘triple-leveraged’ etf? Of course you’d have extreme risk and volatility. But any more than if you foolishly used triple-leverage by any other means?

    To read my weekend newspaper column click here:  It’s Time To Buy Gold Again

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    Images: Flickr (licence attribution)

    About The Author

     

    Sy Harding publishes the financial website Street Smart Report Online and a free daily Internet blog at Sy’s Free Blog. In 1999 he authored Riding The Bear – How To Prosper In the Coming Bear Market. His latest book is Beat the Market the Easy Way! – Proven Seasonal Strategies Double Market’s Performance!

    It includes our research and analysis on the economy and markets, and provides charts and buy and sell signals on the major market indexes, sectors, bonds, gold, individual stocks and etf’s, including short-sales and ‘inverse’ etf’s.

    It provides two model portfolios as guides. One is based on ourSeasonal Timing Strategy, one on our Market-Timing Strategy.

    In depth updates are provided every Wednesday, with interim ‘hotline’ updates every time we make a trade. An 8-page traditional newsletter Street Smart Report is provided on the website every 3 weeks, in pdf format for viewing or printing out.

    There is the Street Smart School of online technical analysis ‘seminars’,commentaries to keep you ‘street smart’ about Wall Street, and much more. 

     

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