November 2007 Rewind: The Writedown Elevator Ride

Mortgage bank subprime write-down news and reoccurring recession fears predominated the trading environment this November, together pushing the major U.S. equity indices into their largest monthly decline and second “official” 10% correction of the year. Over $80B in cumulative subprime write-downs have now been announced, with wide-ranging predictions of another $100B to $300B yet to come. Meanwhile, the White House revised its 2008 Gross Domestic Product growth estimate downward from 3.1% to 2.7%. November also found oil on the verge of breaking the psychological $100 per barrel mark, stoking consumer spending fears that were all too well confirmed by sentiment readings at multi-year lows.

In a more positive vein, the broad stock market declines and weak dollar proved too tempting for a number of sovereign wealth and private equity funds to pass up. Most notably, the Abu Dhabi Investment Authority took substantial, albeit non-controlling stakes in Citigroup (C)($7.5B) and Advanced Micro Devices (AMD)($0.7B), while Citadel made a 20% investment in E*Trade Financial (ETFC)($2.6B). Together with an all out promise from Messrs. Bernanke and Kohn of further Federal Reserve rate cuts ahead this December, a put was effectively placed under the market, supporting a significant bounce going into the final days of the month. In fact, the magnitude of the S&P500's four-day rally had not been seen in four years time. What is that they say about the largest bounces occurring in _ _ _ _ markets?

By the end of the month the S&P500 and Dow Jones Industrial Average were down 4.4% and 4.0%, respectively. In contrast, and unlike last month, the technology heavy Nasdaq 100 showed relative weakness, down 6.7%. While that effect was likely an attempt to fund margin calls and rotate into oversold financials, recession fears had an especially strong impact on Small-Cap stocks, which were down 6% to 7%. Meanwhile, the ten-year note ended the month below 4%, its lowest level since 2005.

In spite of this traditionally bullish season, I am concerned that should we see another test of the recent lows, a more substantial breakdown may occur. Let’s hope the volatility elevator slows and climbs more steadily upward this month. Happy Holidays to you all.

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The Style Box below was calculated using the following PowerShares™ ETFs: Small-Growth (PWT), Small-Value (PWY), Mid-Growth (PWJ), Mid-Value (PWP), Large-Growth (PWB), and Large-Value (PWV).

The Standard & Poors 500, Dow Jones Industrial Average and NASDAQ 100 may be traded through ETF proxies, including the SPY or IVV, DIA and QQQQ, respectively.

Sentiment: Negative
Volatility: High (VIX 17-31)
Direction: Lower

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Disclosure: Author is long DIA and QQQQ.