The price-to-peak earnings multiple for this week is at 9.9x. The stock market has slowly trended downward for the last four weeks erasing about five percent of the recent rally’s gains. This weakness is a sign that the market must see sustained economic improvement in order to justify current stock valuations. We would not characterize the stock market as overvalued at present levels, but we are concerned that recent gains make it vulnerable to a correction if an economic rebound is not evident soon.

As our readers are well aware, we believe that the short-term direction of the market is not knowable because no one can consistently and accurately foretell the vagaries in investor sentiment that drive daily market movement. However, longer-term market valuation is firmly rooted in economic fundamentals–especially corporate profits. Earnings have been anemic for some time now and as of this week S&P 500 earnings are down 64% on a year-over-year basis, which makes the 29% decline in that index over the same time period appear somewhat subdued. Earnings season kicked off last week, but companies reporting this week will carry much more weight. Major financial stocks will be closely watched with Goldman Sachs (GS), JP Morgan (JPM), Bank of America (BAC) and Citigroup (C) all reporting. Other key releases will come from Johnson & Johnson (JNJ), Intel (INTC) and Google (GOOG).

Tim Geithner is not making sense. From Reuters (Geithner: Too soon to decide on more stimulus):

U.S. Treasury Secretary Timothy Geithner said it was too soon to decide whether the U.S. economy would need the help of a second round of government stimulus to recover from recession. "I don't think that's a judgment we need to make now, can't really make it now prudently, responsibly," Geithner said in a taped interview with CNN that will air on Sunday. According to a transcript provided by CNN, Geithner said the "biggest thrust" of the $787 billion package of spending and tax cuts signed into law earlier this year would take effect in the second half of the year...

From Felix Salmon (Why I’m unconvinced by calls for a second stimulus package):

Let me try to hazard an answer to that. Start with the guiding assumption, as stated by Larry Summers when the stimulus bill was going through Congress, that the risks of spending too much paled in comparison with the risks of spending too little. And because the effects of government spending on GDP and unemployment are hard to predict with any accuracy, there was a strong case that a monster $800 billion stimulus bill was in many ways the prudent course of action.

Perhaps its the after effects of an unusually deep Sunday night sleep, or maybe it's the knowledge that it's going to be a big week (what with option expiry and everything), but Macro Man's brain still feels slightly groggy so far this morning.

In a way, he feels like Odysseus, tempted by the siren song of a weak opening in stocks. While his brain is screaming "sell! sell! sell!" like Randolph and Mortimer Duke, thus far Macro Man has lashed himself to the mast-head of responsible risk management, trading the noise until the opening price action resolves itself into signal.

It is clear that the market has been driven almost exclusively by policy. The market typically prices in economic situations six months ahead of time. This kind of makes sense as known policy gives an indication of what might happen six months out.

Today the market is declining partly in response to declining odds of further stimulus; and is also waiting for the markets to give an indication to earnings expectations which will help provide a reality check on expectations. What is forgotten for now is that the stimulus was always intended as a two year plan; so there is still juice left in it. Furthermore, with the deficit is where it is, the chances of further stimulus were already low.

If you've been around these markets for a while, you generally know by the time the retail investor is piling into a group, chasing huge scores, it's generally time to run away (at the least) and for the 5% among us who short, begin to think seriously about betting against the small fry.

It sounds cold, but this is just the way it tends to work ... trust me, I used to be one of these people, so I learned the hard (read: expensive) way. As we read the piece below, let us trust in the fact that none of these people were buying in early March, but most likely jumped in when it was "safe" a month or so later.

• CIT warns of failure ripple effect. Lender CIT Group (CIT), which has been unable to get the FDIC to guarantee its debt, has warned its collapse would jeopardize the future of 760 manufacturing clients and 'precipitate a crisis' for as many as 30,000 retailers. The comments came from internal documents making the case for CIT's importance to the U.S. economy and followed the company's decision to hire a law firm to prepare for a possible bankruptcy filing, though CIT is also working on a plan to ease its liquidity crunch. CIT's bonds and stock have fallen in recent days (shares -17.7% on Friday) over concerns about its financial position, and Fitch Ratings thinks the company could default as soon as April 2010 when a $2.1B credit line matures.
• U.S., UBS ask for more time. The U.S. government and UBS (UBS) jointly asked the court for a stay in their closely-watched trial over tax evasion. The two sides had been set to meet in court at 9am this morning, but asked that the trial be postponed until August 3 to allow the Swiss and U.S. governments to continue negotiations. In a separate court filing yesterday, the Justice Department said it's prepared to step up its legal fight against UBS, but didn't detail what penalties it might impose aside from unspecified 'monetary sanctions.'
• MSFT raises stakes in Google battle. The battle between Microsoft (MSFT) and Google (GOOG) is heating up, with Microsoft set to move forward this week with online versions of some of its key software, including plans for a 'cloud' operating system. Google, which last week announced plans to launch its own PC operating system, has been pushing to bring its internet platform to PCs, while Microsoft is pushing its PC platform onto the internet.
• No friends for Resolution, for now. Buyout group Resolution made an initial £1.7B ($2.7B) takeover approach for life insurance firm Friends Provident (FRDPY.PK) but was turned down by Friends' board. Despite the rejection, Resolution said it received 'constructive feedback' from the board and will consider whether to make a bid. Resolution plans to buy three or four life insurers over the next 18 months. Friends Provident +7.7% in London (7:00 ET).
• BoA tries to duck $4B gov't fee. Bank of America (BAC) is trying to avoid paying a hefty fee to the U.S. government for guarantees against losses at Merrill Lynch. Bank executives argue the rescue agreement was never signed and the funding never used, but regulators contend the company benefited from implied U.S. backing on $118B of Merrill Lynch assets and are trying to collect at least part of the $4B fee.
• RHJ attempts to outbid Magna. Magna International (MGA) is losing its lead position in talks to buy General Motors' Opel unit, prompting RHJ International to prepare an improved bid that it will submit today or tomorrow following 'advanced stage' talks. RHJ's improved plan includes guarantees to keep plants open, and the company will likely ask for €3.8B in guarantees from the German government vs. Magna's request for €4.5B. However, German states with Opel plants are worried about RHJ's bid, calling Magna the 'best solution,' followed by Fiat.
• VW sweetens Porsche bid. German magazine Der Spiegel reported over the weekend that Volkswagen (VLKAY.PK) raised its bid for 49.9% of Porsche and is ready to offer substantially more than €4B ($5.6B). According to the report, Porsche still views the new bid as inadequate and prefers a €7B investment plan presented by Qatar.
• Airlines face credit crunch, bankruptcies. The U.S. airline industry could see a wave of bankruptcy filings by the winter if conditions don't improve. Facing a steep drop in travel demand and a difficult lending environment, all five of the largest hub-and-spoke carriers (American Airlines (AMR), Delta (DAL), United Airlines (UAUA), Continental (CAL) and US Airways (LCC)) are expected to report Q2 losses when they report earnings this week and next. Discount carriers like Southwest Airlines (LUV) and JetBlue (JBLU) are doing moderately better than their larger peers, but Southwest is the only U.S. airline left with an investment-grade credit rating and Moody's has negative outlooks on eight of the nine largest carriers. Premarket: UAUA -6.1% (7:00 ET).
• Kirin, Suntory mull mega-beverage merger. Japan's Kirin Holdings (KNBWY.PK) and Suntory Holdings are in merger talks to create a food-and-beverage giant with combined 2008 sales of ¥3.8T ($41.1B), including ¥1.2T worth of beer sales. A combined entity would pose serious competition to Anheuser-Busch InBev, the world's leading brewer.
• Friday failure. Regulators closed Bank of Wyoming, Thermopolis, Wyoming on Friday, marking the 53rd bank failure of the year. The closure is expected to cost the FDIC $27M.

Earnings: Monday Before Open

• Fastenal Company (FAST): Q2 EPS of $0.29 misses by $0.04. Revenue of $475M (-21.4%) vs. $487M. Shares -5.8% premarket (7:00 ET). (PR)

Today's Markets

Asian markets closed broadly lower, while European markets edge into positive territory and U.S. futures are mostly flat.

As posted on my blog July 11, 2009, after reading a lot of blog posts and comments, tweets on twitter, Facebook comments, and emails, I decided it was time to figure out if there was any real decay behind the leveraged ETFs, both long and short. I wanted to revisit this issue of the double and triple leveraged ETFs, and why investors should stay away from them, and to clear up some confusion. With the popularity of ETFs came these funds which use 200% and 300% leverage. Yes in any steady trend they can grow like weeds, but in a correction they will give back much of their gains. This is simple, and basic math.

First of all, these are extremely risky, and investors shouldn't hold on to any leveraged ETF(s) for the "long run", they are almost sure to lose money. These instruments are ideal for traders not investors!

Stocks were down again on Friday (making it two down weeks in a row) as a fall in crude prices (they had their worst week since January) and a drop in consumer sentiment proved a drag. Chevron (CVX) joined in the chorus of doom on Friday by warning that Q4 earnings would be “significantly lower” than the preceding quarter, hightening earnings worries. Against such a background, the ordinary punter finds it hard to comprehend that yet again failure is being rewarded; AIG in talks with U.S. over another $250 million in bonuses.

The Dow has now fallen back 7.4% since that June 12 finish. The S&P 500 and Nasdaq have fallen back by similar amounts. The Dow finished the week down 1.6%. The S&P 500 dropped 1.9%, with a 2.6% decline for the Nasdaq. Investors fretted about the potential for a string of tepid earnings reports this week and worried about the pace of the alleged recovery. Among the big companies reporting next week are railroad CSX, Goldman Sachs (GS), Intel (INTC), IBM, JPMorgan Chase (JPM), Bank of America (BAC), Citigroup (C) and General Electric (GE). Personally I think that the earnings of the financials will be almost impossible to decipher but watch for increased provisioning against non-performing loans.

It took place in a cracked village that lay in ruins, perhaps symbolic of the economies of the Group of Eight developed nations that met there. What resulted was a mix of the usual clichés saturated with big statements for unity, but also some common sense and direction from the new kid on the block, one Barack Obama.

Earthquake shattered L’Aquila, Italy hosted this latest meeting of the G-8, and offered a meaningful change from the usual pomp and circumstance these gatherings tend to display. Not for one minute could the leaders of the wealthiest nations on earth forget the state of their own countries’ affairs, nor that of the global economy. All they had to do was look out the window for a reminder.

When Fed Chairman Ben Bernanke coined the term “green shoots” of recovery during his 60 Minutes interview, it became entwined with the improbable – both in terms of timing and magnitude – rally taking place in the stock market. The S&P 500 went from a low of 666 to peak over 950, and green shoots abounded. Prices have slid back since then, because the perception of green shoots hasn’t matched with the reality of nobody involved in business seeing the same thing.

On DailyFinance, I devote time to tracking what influential people in business and finance are saying about the markets, and I haven’t heard any of the outright optimism that a 40% rally is predicated off of. Warren Buffett said that the economy is still in shambles, Mohamed El-Erian of PIMCO said that low interest rates will be necessary “for a long time” to heal the economy, and American Express CEO Ken Chenault hoped for growth resuming in the second half of 2010. Elsewhere, the KB Homes (KBH) conference call and other data showed no bottom is in for housing, and the Homebuilders ETF (XHB) is down more than 20% from its recent highs.

We may be seeing green shoots or maybe they are yellow weeds as Roubini suggests. To me that's all noise and I wonder why so much of the blogosphere and media is full of speculation on such matters. As even the best economists have a poor predictive track record, why should an average punter like me even bother thinking about it? There are easier and more profitable things to think about, but each their own.

Perhaps some people will ask why bother looking at historical market data. My simple answer is big picture reassurance. The main reason is that I do not want to get bogged down in the here and now of unemployment reports and the like, such stats are psychologically damaging and cloud the mind. They induce fear and you don't want to go there.

We have been watching with interest the speed with which market pundits/participants/punters have crossed the floor (from the bullish to bearish camp). Since the 1^st of June, just six weeks ago, the Dow World has fallen by some 7%, the CRB Index 10%, the USD Index +1.5% and US 10 year +1%.

These are not exactly big numbers. However, given how the crowd is reacting you would think that the Dow World had already fallen by at least 15% and the CRB by 20% over the last 6 weeks!

I have not delved into the intricacies of this trade report since it's not one of the more important things I follow - for so long it's just been a huge number that we shrug off as status quo. We buy much more from people outside the country than they buy from us; that's the new and innovative economy we've built. Hence I don't know all the 'seasonal adjustments' or whatnot that may or may not be done with it, but I would assume there is not much to fudge in this report.

Some sum of goods is valued as going out of the US, and some sum of goods is valued as coming in. The difference between the two is either your deficit or your surplus. We've run huge trade deficits for as long as the eye can see - essentially absorbing far more than we export out. This has been part of our structural problems in the country.

Ever since Chairman Bernanke favored horticulturists this spring with his perspicacious observation of the "green shoots" of recovery, the financial media have been focused on when and how the Federal Reserve would formulate its exit strategy from the near-zero interest rate environment. The bond market has been particularly keen on divining the timing of such an action.

Lost in the discussion of the interest rate exit strategy is the quandary facing the Fed and Treasury of finding the other exit strategy. As discussed on December 23rd and December 26th of last year, the government has been quite active implementing emergency measures to stabilize the financial system and to prevent a disastrous economic decline. By and large, that appears to have been somewhat successful. We have not entered Great Depression II.

It is time to smash the myth that the U.S. financial crisis will cause any recovery from the current recession to be slow and unimpressive. In fact, history tells us the opposite.

It may surprise readers to learn that during the Great Depression, after collapsing from 1929-1933, our economy actually expanded sharply from 1934-1937 (industrial production regained its prior peak), declined during 1937- early 1938, then began another robust recovery that lasted beyond the end of World War II.

Her commentary is in sharp contrast with numerous analysts and economists, who have argued that the government's massive liquidity injection and quantitative easing program will result in stagflation or even hyperinflation as soon as economic activity picks up.

The decoupling myth has made the rounds. Emerging markets stayed resilient despite a global crisis unfolding for several months. They then collapsed as it became apparent that no one is safe. Why did the decoupling rationale fail?

When people looked at decoupling, they looked at relative dependence of an economy on its domestic consumption versus its export/import dependence. This is a mistake, and an easy one to make.

Below is the complete text of Barack Obama's editorial in the Washington Post (Rebuilding Something Better) yesterday. My comments are in italics.

The size of the ETF Billion Dollar Club held steady this month at 15 for the second month in a row. However, once again, there are changes in the roster.

HOLDRS Oil Services (OIH) is back on the list after barely missing the cutoff the past three months, and iShares MSCI EAFE (EFA) is back after a one-month absence. The two funds leaving the list were Direxion Daily Financial Bear 3x Shares (FAZ) and iShares DJ US Real Estate (IYR).