It is fairly simple to put together a list of economic fundamentals that give evidence of a continuing weak economy. It is more difficult to compile a list that provides signs of economic strengthening. Below is some of the data from this week that shows continuing economic malaise.

Consumer confidence: Tuesday the Conference Board reported that consumer confidence continued to slip in July after a steep decline in June. The Consumer Confidence Index stands at 50.4, down from 54.3 in June. The monthly survey showed that consumers are more pessimistic about future job prospects. The report also showed that the number of consumers expecting an improvement in business conditions dropped to 15.9% in July, compared to 17.1% in June.

Durable goods orders: Wednesday a Commerce Department report showed that orders for durable goods fell 1.0%, the second month in a row with a decline. The May number was revised downward to a 0.8% decline rather than the 0.6% drop originally reported.

Employment: The Labor Department says the unemployment rate rose in 291 of 374 areas in June from May. It fell in 55 areas and was flat in 28. According to the Bureau of Labor Statistics, the June U6 unemployment rate was 16.5%–exactly the same as it was in June 2009. The U6 number includes discouraged workers who have not applied for a job in the past 30 days and those who have been involuntarily reduced to part-time status.

Housing: The latest edition of the Federal Reserve Beige Book reported that nearly all Federal Reserve Districts reported sluggish housing markets in the months since the homebuyer tax credit expired on April 30.
Of these factors, consumer confidence and unemployment might be the most critical. Consumer spending accounts for two thirds of U.S. economic activity. So when consumers lose confidence and start hanging on tightly to their money, economic growth can halt. The same can be said when the jobless rate exceeds double-digit levels. Those people have less money to spend and it is hard for someone without meaningful employment to be optimistic about the future. A few months ago, some analysts were talking about a “jobless recovery.” In truth, it is difficult to understand how those two words could ever be accurately linked. There are not many times in our nation’s history when unemployment rates have been near or above 10%. And none of those occasions have been linked with economic prosperity. So it seems unlikely that this will be the exception.

Many of the glimmers of economic hope are fragile at best. There are improvements in corporate profits. But many of those gains are from restructuring and cuts rather than increased sales. Mortgage rates are at record lows. But it is difficult for many to qualify. Inflation remains low. But deflation is a possibility.

One of the biggest evidences cited as a sign of economic recovery is the 2009 market rally. But the advance has fizzled and most major stock indices are at about the same level as they were 11 months ago.

The chart below shows the New York Stock Exchange Composite.  It is negative for 2010 and has spent most of the past year within a few percentage points of its current level. The gold line is a 200-day simple moving average (MA). Notice that during the two most recent market rallies, the NYSE Composite came right to its 200-day MA and then retreated.

The middle portion of the chart is a moving average convergence divergence (MACD). While this indicator is currently positive and has not reached an overbought level, the MACD appears to be flattening, which could signal a change in market direction. The bottom portion of the chart is a stochastic oscillator, which is currently signaling that the NYSE is at an overbought level and confirms that a downturn could be on the near horizon.
For investors, this combination of signs is certainly not predictive of what will occur. But the ongoing economic weakness combined with these technical market indicators certainly creates a case for continued caution.

That is pretty much the way the market has acted for the past three months. Short-term moves in either direction are quickly reversed. Economic announcements are met with volatility, but even the brightest economists like Bernanke don’t seem to have any real idea of what to expect in the future.

The second half of 2009 produced a powerful market rally and many people assumed that the stock market and the economy would quickly erase any evidence of a recession. That has not occurred.

As the chart below shows, even after the strong market advance in 2009, stocks making up the New York Stock Exchange Composite are still significantly below their 2008 peak. I added the red line to the chart to show that for the past year, stocks have stayed within a few percentage points of their current level.

As long as the uncertainty described by Bernanke continues, there is a good chance that stocks will continue to vacillate back and forth near the current level. For that reason, the best course of action for most investors is to maintain a conservative approach until the economic outlook clears.
F.S.

High unemployment and weak housing sales are two of the major contributing factors that continue holding back the economy. Tuesday a disappointing consumer confidence report sent major indices falling as much as 3% with additional losses Wednesday.

The selling this week finally pushed most major indices below strong technical support—typically a very bearish sign. Summer months are often seasonally weak for equity markets, and this summer is following that pattern.

The chart below shows the Chicago Board Options Exchange Volatility Index (VIX), a popular measure of the implied volatility of S&P 500 index options. Over the past five years, the only time the VIX has been at a higher level is during the market plunge that began in October 2008.

The VIX is commonly called the “fear index” because it is a reflection of expected market volatility for the next 30 days. In other words, it is a good indicator of potential market risk. And right now it is signaling that risk is high.

The next chart shows performance of the New York Stock Exchange Composite over the past year. A little over a week ago, this index along with most others had rebounded nicely. The picture has since had a dramatic reversal. The blue line shows that this week this index broke below a key support level.

The gold line is a 200-day simple moving average. The fact that the NYSE Composite is now moving away from this line instead of towards it is a good indication that additional market declines could be on the near horizon.

The bottom portion of the chart is a relative strength index (RSI). This indicator measures market momentum. Right now the RSI is trending below 50, which means that stocks probably do not have enough momentum to sustain an advance and as a result, market risk is elevated.

For investors, all of this means that this is not a good time to be invested in equities because of the elevated risk level and the potential for additional market declines.
F.S.