Stocks gained ground on speculation that QE2 will be closer to $2 trillion than the $500B-$1T that’s been thrown around lately, but came off of the session’s high as the Dollar Index rallied from its session low – can’t have that now can we; the automated trading platforms don’t like any dollar strength, even if it’s mild and still lower for the day. 

Quickly on that QE2 number, I doubt the Fed is actually going to say the next round of bond purchases will be $2 trillion, which is likely to come immediately following the election.  No, they’ll probably state a monthly purchases amount of somewhere around $100 billion and leave the ultimate goal data dependent.  It’s just that the lack of efficacy the program will have on economic growth will cause the Fed to approach that $2 trillion figure.  At which point, I hope they finally realize that market manipulation will be do more harm than good so that we don’t have a QE3. 

Basic materials, consumer discretionary, health care and telecoms (a nice mix of high cyclicals and areas of safety – you figure out).   Financials and utility shares led the decliners – the only two of the 10 major industries to close down for the day. 

Metals prices and oil closed up, pushing the CRB (a basket of commodity prices) to close above 300 for the first time since the financial crisis caused it to crash by 58%.  The index has made several runs at 300 but failed, until now.  This is a key level I’ve been watching, although it’s likely commodity prices will exhibit another move down before ultimately raging.  The dollar closed down, but finished above its intraday low. 

Five-year TIPS (Treasury Inflation Protected Securities) sold at a negative yield of 0.55% via yesterday’s auction.  This means investors either believe that inflation will rise to a level over the next five years that makes it worth pricing the bonds at a negative yield (ie. they’ll get higher principal values when the bonds mature due to higher rates of inflation that will more than compensate for this negative yield) or traders are simply front running the Fed as they’ve signaled they’ll be buying TIPS as one aspect of QE2.  Maybe it’s a combination of both, but like so many things these days one can’t be completely sure as markets have been manipulated by the government. 

Volume was weak again, as trading activity came in 12% below the six-month average. 

Market Activity for October 25, 2010

Existing Home Sales

The National Association of Realtors reported that previously-owned home sales rose 10% to 4.53 million units at a seasonally-adjusted annual rate (SAAR) in September; this followed 4.12 million SAAR (which was revised slightly lower) for August. 

Single-family units rose 10% to 3.97 million SAAR and multi-family unit sales (condo and co-ops) rose 9.8% to 560,000 SAAR.  The chart below is single-family only to give you a longer-term look as the combined single/multi-family data only goes back to 1999.

The supply figures improved thanks to the sales bounce.  The number of previously-owned homes available for sales fell to 4.04 million (combined single and multi-family) from 4.12 in August (although there’s another 4-7 million units waiting in shadow inventory as the foreclosure process has been delayed and filings remain sky high).

The months’ worth of supply figure at the current sales pace fell to 10.7 from 12.0.  For single-family only, the figure fell to 10.2 months worth from 11.6 in August.

The median price of a single-family previously-owned home fell 3.26% to $171,700 last month from $177,500 in August – off by 2.4% from the year-ago period. 

Distressed properties (which include foreclosures) accounted for 35% of sales in September, matching the average of the past several months.  As a result, due to banks halting the foreclosure process in October, this is going to have a large adverse effect on sales in the next couple of reports.  In addition, applications to purchase a home fell pretty hard in late October, which will also negatively affect official November existing-home sales. 

Chicago Fed Activity Index

The index on national economic activity from the Federal Reserve Bank of Chicago came in at -0.58 for September, following August’s upwardly revised -0.49 (previously reported at -0.53 when released last month).  The index has posted a negative reading four of the last five months – a negative reading suggests below-trend growth.

There are a number of ways to view this index, it depends on what point in the business cycle we’re in.  Since the current stage of the cycle is recovery, and a weak one at that, we watch the three-month average of -0.70 as this is the level that is supposed to predict that the economy has slipped back to recession. 

Currently, that three-month average sits at -0.33 thanks to a positive 0.09 reading in July – remove that and the three-month average for June, August and September would be very close to that -0.70 mark (-0.54 in fact).  If the October reading mirrors what we’ve seen over the past two months then we’ll have an actual three-month average at that -0.54 level, way to close for comfort to that -0.70 mark.

As we’ve talked about many times, one can’t put too much into indicators that during normal times do a pretty good job of predicting the economic path -- the government has manipulated way too many financial market indicators, rendering those indicators worthless, if not close to it.  However, one still has to be aware of where things are and this is just another reading that suggests we’re dangerously close to a double dip. 

(Another thing I’ve harped on is whether we actually double dip – via a negative GDP reading or two over the next three-four quarters – or remain at stall speed of sub-2.0% growth matters very little.  We need durable growth in excess of 3.5% to fuel the labor market and eventually complete household debt repair.  And even if we were so fortunate, we have the problem of the Fed having to unwind its unprecedented easing campaign – which is a galaxy away at this stage, but I’m just painting the picture of what’s ahead of us if the economy suddenly turned to all-out growth mode.  An economy that has become conditioned to ultra-low rates is going to have a very difficult time dealing with normalization of these rates.  The Fed hasn’t only backed itself into a corner, it’s backed us all into one.)

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Have a great day!

Brent Vondera, Senior Analyst

Phone: 636-449-4900