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johnpaulca
10,080 posts
msg #61212
Ignore johnpaulca
4/8/2008 1:02:43 AM

From EarningsWhispers.com

Following the last recession of the 1930s there have been twelve recessions - including this one. Only two of them have lasted more than eleven months: the 1974 recession and the 1982 recession - both of which lasted sixteen months. Because of the election year, projections for GDP growth in the second half of this year and the 2009 GDP projections that continue to trend lower, we have recently been comparing this recession to the quick recovery during the 1980 recession before a relapse into recession in July 1981.
However, last week we started to hear some eerie comparisons to the 1974 recession such as high oil prices, real estate deflation, the emergence of an Asian economic power, and more. This is a concern because the 1974 recession saw a 48% decline in the S&P 500 and a 59% decline in the Nasdaq Composite... and this was not after a stock market bubble like during the 2001 recession.

After doing our own research and comparisons of the past recessions to find a guide for the current recession we found one striking similarity between the two sixteen month recessions: rising interest rates.

The 1974 recession started in November 1973 while the effective Fed Funds Rate was at 10.0%. Once the recession started, rates started coming down, but in March 1974, rates jumped approximately 40 basis points and continued going higher another 350 basis points by July 1974. After eight months of lowering interest rates again, the recession finally came to an end.

The 1982 recession started in July of 1981 while the effective Fed Funds Rate was a whopping 19%. After the start of the recession, interest rates started coming down but in January 1982, the effective Fed Funds rate increased 85 basis points and continued moving higher by another 170 basis points by April of 1982. The recession finally ended after seven months of lowering interest rates.

We have Fed Funds data going back to the mid-1950s and these are the only two recessions that saw an increase in interest rates and, as we said, these were the only two recessions that lasted more than eleven months.

We noticed the interest rate increases, though, while we were looking at the employment data because what first caught our attention was the unusually slow increase in the unemployment rate during the start of the 1974 recession and the early improvement in the private payrolls during the start of the 1982 recession. It was the lack of weakness or continued weakness in the employment data that gave the Fed room to tighten its reigns, but this ultimately lead to an extended recession.

This is a scary comparison because Fed Chairman Bernanke and other members of the Fed have said they will raise interest rates as soon as the recession is over and these hawkish statements suggest they could once again jump the gun. Therefore, as long as the employment data continues to worsen, there continues to be room for the Fed to lower rates despite their inflation concerns.

We also want to point out that the employment data is a lagging indicator, but is one of the more reliable indicators for a recession. That is why in early January we were confident we had started a recession. Consequently, it is a very good predictor of lower prices once the start of a recession is confirmed - just like we saw in January. However, once the recession has started, we see no correlation between the employment data and stock prices and, normally, stock prices bottom before the recession, and the recession ends while the unemployment rate peaks. Furthermore, if we take out the recessions where interest rates were raised before the end of the recession and we take out the recession caused by the stock market bubble (because we believe this inappropriately skews the data), our data indicates stock markets tend to bottom just over three months after the start of the recession and five months before the end of the recession. During the downward movement, the S&P 500 falls just over 18% and, once the market has bottomed, it gains 18.5% by the end of the recession.

In January, we projected a 20% decline in the S&P 500 and a 28% decline in the Nasdaq Composite with a bottom between May and October, but we also said we expected the S&P 500 to end the year above 1,300. Now that we have more data about the current recession, we are projecting the S&P 500 to be above 1,500 around August 2008 - up an additional 9.5% from its current level - as long as the employment data continues to weaken and the Fed continues to lower interest rates.

But stock prices dont go up in a straight line so the question is how are we going to get from point A to point B? not to mention the fact that we need to look for confirmation of our thesis along the way as well. This week has the potential to confirm or quickly make us doubt our position as the S&P 500 nears resistance and the CBOE Volatility Index (VIX) hits its support line. All of this suggests that the market is a little top heavy right now and is likely to pullback, but if the uptrend is intact, the S&P 500 could break above resistance and it could be swift. We should also point out that the chart on page one of this report shows declining peaks in our advance/decline oscillator for the Nasdaq Composite while the index has seen rising peaks. This is a sign of near-term weakness.



On the data front, it should be a light week as the market prepares for earnings season. One of the more interesting items to note during the past few weeks is the light volume of guidance announcements - whether it is negative, positive, or merely inline. This is important because expectations have been for a higher-than-usual number of earnings warnings, but the news has been light. This suggests to us the likelihood that earnings will come inline with current estimates and will fuel higher expectations for a second-half recovery.

Finally, we are watching the Financials closely as news and data have recently provided support that the group has bottomed and, to confirm this, we are hearing from technical analysts that they believe the Financials have bottomed as well. In the chart of the Financial SPDR (XLF) on the left we see a healthy recovery from its late March low but we also see the ETF hitting resistance of its upper trend line. Technically speaking, we cannot call the March 17 low a bottom until we see a breakout above this line. The slight pullback on light volume after last weeks high is a bullish pattern and suggests the group is building support before another up move.

With all of that, we remain bullish and expect to do so for the rest of the quarter, but we are near resistance that could be difficult to move beyond. We are not shorting the market but we have lightened up on some of our long positions and we keep our trades short until the market moves beyond the resistance.



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