I’m going to be out of the office tomorrow, so my report on the markets is a day early. It will be brief as well, because there really isn’t much to say. The economic picture is fairly stagnant right now.

I think I can shed some light on the situation with a chart. Below you can see the how the three major indices have performed this year. While these indices have a high level of correlation, there is normally still some separation in their performances and the chart shows that normal distance among the three in the early part of 2008. As the chart clearly shows, however, since the beginning of June, the Nasdaq, Dow and S&P 500 have moved in a virtual lock step.

Another thing the chart clearly shows is that each of these indexes has given up a significant amount so far this year. Since peaking in October 2007, major indices are off more than 20%. If the chart went back far enough, you could see that the pattern since October bears a strong resemblance to 2002.

I wish I could provide some encouraging reasons to show that we are near the end of the current bear cycle. Unfortunately, economic fundamentals appear to be losing ground instead of improving. Staying on the sidelines in cash remains the wisest course of action for most investors.
F.S.

Today is Pioneer Day, a state holiday in Utah. It is in recognition of the Mormon pioneers who first arrived in the Salt Lake Valley in 1947. My own ancestors were among those who arrived shortly afterward and I often wonder what their reaction might be if they could see what this area has become.

Currently we have analysts and economists arguing about whether the economy is in recession or not. We worry about the cost of oil and wonder if we will have to go from four cars to three. As a nation we have become so wealthy that it is all a bit surreal. Is it any wonder that the rest of the world looks at our lifestyle and either hates us for it, or covets it, or both?

Below is a chart showing the price movement of the Nasdaq over the past five years. I added the red line to illustrate that one could make the argument that the market is really just about the same place as it was at the start of 2004. Interestingly, throughout most of this period most people believed the U.S. economy was in pretty good shape. Yet many buy-and-hold investors during this period would have struggled to see any significant gains.

To me, this helps illustrate the need for active management. During this period the Nasdaq has made significant moves both up and down. Investors and managers who can properly read the market had the potential to make some profits during those periods of volatility. Of course, even better opportunities have occurred in specific market sectors like energy, precious metals, or bonds where periods of longer trends have allowed astute investors to capture better gains.

Considering the significance of the economic obstacles that currently exist, one could argue that the financial markets have held up fairly well. Although the major indices have seen double-digit declines from their recent highs, the losses so far have not been anywhere near as serious as those experienced in 2001 and 2002.

The next intermediate cycle is likely to provide a critical test. If the Nasdaq can hold support at or near this 2,200 level, that will be good news for investors. That should be a sign that the economy is holding its own and we could see a more significant rally before the end of the year. If it breaks below this critical support then a more prolonged slide is likely and we could see major indices end 2008 near their lows for the year.
F.S.

The past couple of sessions have finally provided investors some needed relief.  Now the only concern is whether the market will make a significant upward move or whether we will see just a a short-term move followed by a more serious correction.

One of the reasons the markets stopped their steep slide is that corporate earnings reports for the second quarter have been coming in and some have been better than expected. Wall Street was especially relieved to see Wells Fargo exceed expectations because the banking sector has been hammered. But it is too early to get excited about these early reports. The majority to companies have yet to provide information about their second quarter performance and many are likely to have been hurt by rising costs.

Of the many economic fundamentals that impact the financial markets, perhaps the most important are consumer confidence and consumer spending. Consumer spending is the engine that drives the U.S. economy. And while consumer spending rose in June, most of that was attributable to tax rebate checks.

The latest Consumer Confidence Index released at the end of June by the Conference Board showed the fifth lowest reading ever. It seems unlikely that consumers will gain much optimism until prices moderate and home values stabilize. The next Consumer Confidence Index reading will be announced July 29, but there is no reason to anticipate a significant increase. Here is the link for the most recent report: http://www.conference-board.org/economics/ConsumerConfidence.cfm

My best guess would be that this latest move is just a short-term bounce and that stocks will resume their downtrend soon. The chart below shows Nasdaq price movement over the past year. You can see that this latest downward move ended at the same level as in March. I added two lines to the chart to show where I think it is most likely that this advance will peak. The gold line on the top chart is a 50-day moving average. I suspect the Nasdaq will advance back to its 50-day moving average but fail to penetrate it, which means the advance will stall at about the level marked by the green line. If it somehow manages to break through that level, it would meet strong technical resistance at the level marked by the blue line–where it peaked in May and early June.

The bottom portion of the chart is a Moving Average Convergence Divergence (MACD). Notice that the MACD has begun to move upward. In a normal cycle it should reach overbought levels about the end of August. Obviously there is no guarantee that the cycle will be normal. But right now there is nothing technically or fundamentally to indicate that the market is on the verge of a sustained advance.

We’re officially at the mid-point of the summer season. I hope you are making the most of this wonderful time of year.

F.S.

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A few weeks ago I blogged about my anger over the current energy problems. I wrote that during the upcoming presidential election I was waiting for a candidate who would step up and offer a solution to the problem of U.S. oil dependency.

I got several “atta boy” responses from readers who liked my reasoning. I also received an email from a reader who apparently believed I don’t have a full understanding of the depth and complexity of the problem. The situation has remained on my mind since then, as I suspect it has for many Americans who are stunned by the recent price inflation in energy and other commodities. I have since decided I was naive to expect a solution to come from one of our presidential candidates.

While history might someday look favorably on both Obama and McCain, my experience with politicians is that they tend to be self serving. That experience includes more than a decade as a journalist and many years in international business where I dealt with numerous politicians in multiple countries. So I have tempered my expectations because I do not think either candidate worries for even a second about how much it costs to fill up his airplane or limousine.

I need a hero.

Right now the future of America (and possibly the world) depends more on a hero than on a president. My definition of a hero is someone who rises up to meet a challenge presented by extraordinary circumstances. A hero might be a national leader, such as Abraham Lincoln. Or heroes can be just normal folks, like Wilbur and Orville Wright. In addition to men like Winston Churchill or George Patton, my list of heroes includes Thomas Edison, Alexander Bell, Henry Ford and Albert Einstein.

Heroes can come from unexpected places. Philo T. Farnsworth was a 14-year-old Idaho farm boy cutting hay when he came up with the idea for a machine that six years later would become the first television.

Heroes often have the vision to realize the solution to problems that many still have not recognized. In 1986, I was typing my master’s thesis on an electric typewriter. Each revision required a complete retyping. Although I had been using computers for writing for several years, they were all workstations attached to mainframes and there was no easy way to transport data from one computer to another. The idea of working on an independent computer on my own desk, saving the information to a disk, and then transporting it to another independent computer was fantasy.

Four years later I was working in Russia on a laptop computer. Mainframes had been replaced by personal computers. Virtually every computer was using a Microsoft operating system and a guy named Bill Gates was on his way to becoming the world’s richest person. By 1992 I was still in Russia and we were using this new thing called the Worldwide Internet to transmit information back and forth from the United States instantly.

I was in Russia a week after tanks were driven into central Moscow to quell an uprising of people who were fed up with a Communist system that no longer functioned. But when the tanks reached the crowds Boris Yeltsin, the former city mayor and a political outcast, climbed on top of one and called for a change. He begged the soldiers not to fire on their own citizens. In an instant the Communist government lost power and democracy prevailed without any bloodshed. The entire world as we knew it changed virtually overnight.

As a boy, I remember watching a black and white television as Neil Armstrong took mankind’s first steps on the moon. The goal for sending a man to the moon had been outlined less than 10 years earlier by President Kennedy. I remember listening as President Reagan outlined a plan called the Star Wars Missile Defense System that would use smaller missiles to shoot down Intercontinental Ballistic Missiles fired at the United States. Detractors said it was impossible, but the technology now exists and the U.S. is currently negotiating to establish missile defense sites in Eastern Europe.

In general, change makes people nervous. In the 1970s and 1980s there was a lot of concern that people would lose jobs because of computers. Today the computer and software industry is enormous. My great-grandfather was a blacksmith. I’m sure he was worried about the shift from horses to automobiles. Today the transportation industry remains huge and robust. We have little need for blacksmiths, but the country has not suffered as a result.

So when people tell me that it will take decades if not generations to find a way to replace oil as an energy source, I get a little defensive and a little ticked off. Perhaps it will take decades, but just possibly some 16-year-old kid has already figured out the answer in his basement. And as long as some big oil company or automaker doesn’t find out about it and pay him a few million dollars to forget it, the energy and transportation world as we know it could transform in a couple of years.

I don’t know whether 10 years from now we will all be riding electric scooters or cars that run on hydrogen. I do know that as soon as a viable option to oil is available, people will eagerly embrace it, a massive new industry will be born, and the world’s political climate will transform again.

In the process, investors who are properly positioned will make a lot of money. As financial advisors, it is our intent to make certain our clients participate in those gains.
F.S.

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I’ve noted repeatedly that I claim no special ability to be able to anticipate what the markets are likely to do in the future. I have personal experience with a number of people who profess to have special systems that allow them to be able to accurately forecast the movement of the financial markets. The one thing they all have in common is that they are wrong.

I’ve done a lot of reading and research about risk, odds, and randomness and I could give some in-depth explanations about why they always end up being wrong, but that would not serve my purpose today. The point I want to make is that there are times when almost anyone can forecast an imminent event.

For example, this afternoon my family will be spending several hours at a water park. It is a bright sunny day and the temperature should approach 100 degrees. Because of the conditions, I can forecast with near certainty that someone in our group will end the day with a sunburn. Even though we will be using sunscreen and taking precautions to prevent it, experience has shown that someone will forget or ignore the need for protection. Even if everyone is careful, given the conditions, the best precautions might still not be enough.

In similar fashion, given the current economic conditions, I can predict with a good probability of accuracy that the most likely direction for the financial markets over the next few weeks is down.

Below is a chart showing price movement of the Nasdaq over the past three years. Since October 2007, the trend of the Nasdaq has been downward. As noted repeatedly in the past, trend is the most powerful and consistent of any market indicator. The next level of technical support for the Nasdaq is about 2,180 (I’ve marked the level with the shorter red line). It seems likely the index will test that level within the next few sessions.

Some of the reasons I expect such a test include:

• The Dow and the S&P 500 have already broken below support and are at their lowest levels of the year. In a weak market, it is unusual for the Nasdaq to be the strongest of the three major indices.
• The moving average convergence divergence (MACD) shown by the lower portion of the chart seems to be indicating further weakness.
• The Nasdaq recently broke sharply below its 50-day simple moving average (gold line).

If the index breaks below the support at 2,180, the next level of technical support is near the 2,000 level marked by the longer red line. Because of the current economic weakness, rising oil prices, etc., I think there is a good chance the Nasdaq could fall to this level by the end of summer.

Have a great Fourth of July weekend. This report is a day early because of the holiday.
F.S.