Thursday's Outlook

Includes: C, CHL, GS, XLF
by: Philip Davis

We took a look at the international markets and gave an overview of sector strengths and weaknesses last night. Despite some decent looking data, something was still bothering me and I reread my post from Monday, the 17th and remembered what it was - the consumer! Last Monday we reviewed the CNBC poll and, at the time, I noted that a very delusional 87% of the people surveyed do not expect home prices to decrease next year. On this basis they have gone out and run up record credit card bills this season.

What if they all just made a huge mistake? This Monday (what is it about Mondays?) I noted that credit card defaults and late payments in general were zooming into uncharted record territory. I was going to discuss the flaws in the retail shopping data but Barry Ritholtz did an excellent job of it yesterday. This gist of it is that there were more shopping days this year and, even with that significant boost, spending did not keep up with even the "core" CPI increase of 2.2%. That indicates retailers lost ground for the year and that the consumer may be deader than the MSM would have you believe.

I thought I was going crazy because I’m a professional business consultant and I mentioned in the Monday post that the Mall looked tragic to me, particularly the jewelry stores, but CNBC et al made me think I was wrong with their celebratory coverage yesterday. Now the actual data reflects my initial impression, right down to the total disaster in the jewelry biz - so I feel better (about my analytical skills, not the economy!). When exactly did the media become the enemy of the truth in this country? Another truth we got yesterday was the Case-Shiller Home Price Index, which showed a 6.1% decline in home prices over last year - the worst EVER!

According to Robert Shiller himself: "No matter how you look at these data, it is obvious that the current state of the single-family housing market remains grim. Not only did the 10-City Composite post a record low in its annual growth rate, but 11 of the 20 metro areas did the same. If you look at the monthly figures, every MSA went down in both October and September. Eleven of the 20 MSAs, in addition to the two composites, recorded their single largest monthly decline on record in October. For both the 10-City and 20-City composites this was a decline of 1.4% over September.”

So we have CNBC showing that just 13% of all Americans believe their home price is going lower while the data indicates the greatest housing decline in history is accelerating as we speak. We’ve often discussed the concept of the 1999 party atmosphere, where revelers are determined to make it to midnight no matter how many obstacles are thrown in their way. The celebration accelerates to a frenzied place and people are too drunk and too distracted to notice that the party has turned ugly until the ball drops and everyone looks around and makes a hasty run for the exits.

We had a couple of ball-drop moments with the last two Fed cuts, that were anticlimactic to say the least but now we are heading into the ACTUAL ball drop as we bring 2007 to a close. It’s been a great year in the markets, a great 5 years - but does it REALLY feel like the kind of environment in which we will put together a record run?

The NYMEX pump crew are out in full force this week, attempting to make another run at $100 that will be a disaster for the Western World if they succeed. Already this year, one third of the increase in consumer holiday spending went to fuel, another 1/3 went to food - I don’t think Americans can actually consume MORE food so we can assume that the food they consume has gotten significantly more expensive (hence our Ag plays!).

So the (NYSEARCA:XLF), which we’ve been watching closely is right at the 29.5 line that we said we were going to watch last week and the Dow just put in a tremendous effort getting back to 13,500 and it would be tragic if we fall back below 13,400 at this point so let’s keep a very close eye on that line. We went to cash on the 10th, when the Dow was at 13,780 and just a day later it fell back below 13,500 but, even at 13,092 on the 18th and even as we held 13,100 for 3 days (the bottom of our long-predicted range) I just couldn’t get motivated to buy into this up leg. There is simply too much uncertainty and the January options are ridiculously priced considering how many half days and holidays and slow days you are paying for so I’m just not able to get into the short-term game this month.

Whichever way the market goes next year (just 2.5 trading days away!) we’ll be ready to ride the rapids but for now, I’d rather watch the currents so we can pick a good path for the trip ahead. Whatever you do, don’t over-commit based on what you see this week. Clearly the homeowners (all but 13% of them) are in for a very nasty surprise and if we couple that with $100 oil we could be looking at a knockout punch that finally puts the consumers down on the mats.

Asia had a pullback this morning as property stocks led the Hang Seng down 285 points and the Nikkei pulled back just 88 points after it’s massive 600-point holiday jump. The Hang Seng has also been flying for the past week, up 2,000 points in 5 days so we’re not going to begrudge them a mild pullback, especially on this very low-volume trading. The Nikkei closed early and will not reopen until Jan 4th, and that’s a half day Friday so I’m not even sure why they are bothering. Chinese telcoms went limit-up on the Shanghai as once again there is a rumor that 3G licenses were to be awarded (8th time this year this rumor has worked!).

(NYSE:CHL) is in a nice spot to make a record high and I don’t mind picking up the March $85s at $11.50 and selling 1/2 the current $85s for $8, which will give us good downside protection if the rumor is false and plenty of room to run if it isn’t. CHL has more subscribers (363M) than there are PEOPLE in the entire United States!

Europe is continuing upwards, slowly but surely, and we are hoping the FTSE and CAC can catch up to the DAX, as we discussed in last night’s review of the Big Chart. This is Europe’s first day back from holiday so take today with a grain of salt as well. Iran has decided to listen to Bush and has purchased a $700M air defense system from Russia. "The S-300 anti-aircraft missile defense system is capable of shooting down aircraft, cruise missiles and ballistic missile warheads at ranges of over 90 miles and at altitudes of about 90,000 feet. Russian military officials boast that its capabilities outstrip the U.S. Patriot missile system." At least the money we’re pumping into our tanks is going to good use - mission accomplished fellas, you’ve restarted the cold war!

In the home markets, Goldman (NYSE:GS) is taking yet another swing at CitiGroup (NYSE:C), saying they expect write-downs to increase to $18.7Bn on losses related to CDOs. This is coming (coincidentally I’m sure) on the same day the C is expected to announce reduced bonuses across the company. SLM is dilluting in order to raise $2.5Bn and we’ll see if there are any takers. Not much other than that and I’m not expecting too much excitement as the big boys are in Aspen and Vail this week so let’s just keep an eye open and see what happens.