Walk It Off

Back on September 8, we
outlined why it would take a few weeks before for the enormity of the Katrina
damage could sink into investors’ brainpans. Specifically, we compared the
hurricane to the impact of the 1973 Oil Embargo, and the 1906 San Francisco
Earthquake (you can read more details here).

In each of
those instances, it took investors a period of weeks to wrap their heads around
the economic harm that hath been wrought.

This disaster was no different. The exact same process
occurred post-Katrina. Markets rallied for two weeks, pulled back for as long,
and than rallied one last time before calling in sick last week.

And oh, how
sickly they were. The action last week did significant technical damage to the
equity markets, as trendlines cracked, breadth decayed, and a variety of other
indicators went from bad to worse.

It will take some time to repair the charts as well as
investors’ psyches. The more astute amongst you may have noticed that these two
things are often one and the same. This will come as no surprise to this
perceptive bunch: By repairing one, you often repair the other.

The technical damage we saw took place across both indices
and individual names. The Nasdaq dropped below 2100 – its breakout point in
July of this year, and the key support which has held since that time. So too
for the SPX, which sliced through 1215, and then 1205 with relative ease.

It will take some period of time before investors can muscle
these indices back over key levels. Perhaps it will be that earnings appear
good enough, with year-over-year S&P500 gains in the mid teens or better.
That may assure investors (at least those who rely on that single metric) that
all is ok. Assuming, that is, they don’t realize how much Energy is responsible
for these gains. Ex-energy, the SPX
would likely be growing in the single digits. Perhaps enough economic spin will
be generated to convince otherwise intelligent people that inflation is really
not all that big of a deal.

My best guess is this process will require a few weeks to a
month to repair the damage done. That still leaves all of November and December
for the well anticipated year end rally to take place.

If Santa does come to Broad and Wall Street, let me exhort
you in no uncertain terms: This will be a great gift from jolly St. Nick. Use it to reposition your portfolios in a
much more defensive manner. If you fail to take advantage, do not be surprised
if next year, all you get for the holidays is a lump of coal.

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What's been said:

Discussions found on the web:
  1. Emmanuel commented on Oct 11

    I’d like to know how much of the stock slump is from awareness of hurricane damage versus market disappointment that the Fed wants to keep hiking interest rates. I believe that it’s more of the latter, but I could be wrong of course.

    The latest Fed minutes suggest that the Fed wasn’t even bothered by Katrina. Apparently, these guys don’t buy the Broken Window Fallacy and think that growth in 2006 will be at a faster pace because of rebuilding. Go figure. With consumers practically crying for mercy with all-time high defaults, credit card debt, and dissavings, things are bound to get bear-y interesting.

  2. javasoy commented on Oct 11

    I am no technical analyst, but my gut tells me that a recession is due at this point. That mainly is from the memory I still have from the 91 recession. It started out from a weak economy that pushed further into recession because of an oil price shock. Inflation sets in, short term interest rate went up. I remember clearly my citibank savings account paid me 3% APR, which is what I am collecting from ING these days…

  3. Tony The Tiger commented on Oct 12

    I don’t buy it. If the indexes break early tomorrow with 2 to 1 positive, then there is a good chance we will be back up. Of course we need volume to back it. I still think it’s too early for a major downturn. There is a lot of money riding on put options (the wrong kind of money). I think it is possible for a nice rally to manifest by tomorrow and possibly carry into next week, “IF” it meets the criteria above. It has to happen early though, or we will see a repro of today….or worse (meltdown).

  4. TonyThe Tiger commented on Oct 12

    Besides, Greedspan spoke today…usual jabber. The feds need money, why would they “not” raise rates. Surely it must have been factored in. This seems typical…if it is we will see a rally tomorrow. Katrina happened late in the quarter, why would that have an effect on earnings so early? I would be surprise if we do have a meltdown starting tomorrow…that would just delay the cycle. Besides, I purchased 1 lot of calls….maybe i”m jumping the gun a bit…but them calls are Cheeeeeeeeap!!!!!!

  5. ElamBend commented on Oct 12

    Given energy prices and the poor likelihood of them improving over the winter; I’ll take that lump of coal.

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