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Stocks posted healthy gains for the week. But it was not due to a boost in revenues but due to higher earnings from cost cutting. Limited economic news was positive. But can these trends continue'
 It was a very good week for equities as earnings topped estimates far more often than not. Economic news was limited but also played a key role in boosting stocks. Starting with economic data, the Conference Board’s index of leading indicators posted a healthy gain for the third consecutive month, further pointing to recovery coming sooner than later. Just when some traders later in the week were beginning to wonder whether to take profits and run, existing home sales came in with an unexpectedly strong gain and lifted stocks sharply on Thursday. Jobless claims also rose less than expected after a sharp decline the week before.
Earnings season continued—and with earnings typically beating estimates. However, it was not because of revenues—they mostly fell short of expectations. Essentially, cost cutting is what rescued earnings this past quarter. That was good for the equity markets this week. But it raises a key question—can it continue' Unless revenues pick up, there will be a squeeze on earnings as companies run into a wall on further cost cutting.
Nearly all sectors performed well this past week but techs and small caps led the gains. Blue chips got notable boosts from several key companies. These included CIT Group and Caterpillar among others. CIT Group rose on news early in the week that it had obtained a $3 billion loan from a group of its bondholders. Caterpillar easily beat estimates and said it's seeing the beginnings of improvement in overseas economies. By close on Thursday, the Dow topped 9,000 for the first time since January 6 of this year and ended the week back in positive territory for the year to date.
Boosting techs early in the week, Apple once again topped estimates on earnings. But shortfalls by Microsoft and Amazon pared gains by techs for the week. During the latter part of the week, moves into defensive stocks—health care, utilities, and energy—helped the rally continue for stocks overall.
Looking ahead, for companies to keep earnings growth healthy, revenues will need to pick up. If not, equities are somewhat at risk. But most economists are sticking with their predictions that positive growth will return to the economy in the second half and some improvement in revenues is likely. In terms of thinking about trading and investment strategy, several factors stand out. The recent equities rally has largely been without the help of many hedge funds. There is still a lot of cash parked, ready to go somewhere. Overseas economies generally do not have the consumer debt problems the U.S. has. So, it’s not just a question of staying/going into equities but also whether to invest more overseas. Finally, at some point the U.S. economy will turn positive and flight-to-safety will not be a major issue and bond yields will rise on heavy supply.
Equities were up this past week. The Dow was up 4.0 percent; the S&P 500, up 4.1 percent; the Nasdaq, up 4.2 percent; and the Russell 2000, up 5.6 percent.
For the year-to-date, major indexes are up as follows: the Dow, up 3.6 percent; the S&P 500, up 8.4 percent; the Nasdaq, up 24.7 percent; and the Russell 2000, up 9.8 percent.
Weekly percent change column reflects percent changes for all components except interest rates. Interest rate changes are reflected in simple differences.
 Treasury yields were little changed net for the past week. But there was some notable moderate movement during the week. Yields fell on Tuesday as a result of Fed Chairman Bernanke’s semiannual testimony before Congress. He stated that inflation pressures were “limited” and would allow the Fed to keep interest rates low for an extended period. Rates bumped back up on Thursday on unexpectedly strong existing home sales. Funds moved out Treasuries and into equities on the news.
 For this past week Treasury rates were up incrementally as follows: 3-month T-bill, up 2 basis points; the 2-year note, up 2 basis points; the 5-year note, up 4 basis points; the 7-year note, up 4 basis points; the 10-year bond, up 1 basis point; and the 30-year bond, up 1 basis point.
Although rate movement was modest this past week, the uptick in yields continued a recent trend as note and bond rates firm on improved economic data and expectations of recovery, over looming supply, and over inflation concerns.
 Several factors were behind a notable weekly gain in crude oil prices. Economic news was favorable with oil prices moving up on the jump in the index of leading indicators and especially on a boost in existing home sales. Oil traders increasingly adopted the view that the global economy is starting to improve or will be shortly. Oil prices also moved upward in sympathy with equity gains—additional signs of oil demand rising soon. Also, the dollar slipped against most major currencies, adding upward pressure to West Texas Intermediate. Overall, oil prices have risen notably over the past two weeks, recovering about $7-1/2 of the $13 plunge after the recent high of $72.68 for spot crude on June 11.
Net for the week, spot prices for West Texas Intermediate gained $3.11 per barrel to settle at $66.67.
There was limited economic news this past week. But we did get another good report on the housing sector and consumer sentiment headed back up.
 There is another sign that the housing sector has started to recover—albeit slowly. Existing home sales rose another 3.6 percent in June, following gains of 1.3 percent in May and 2.4 percent in April. However, sales are still weak. June’s 4.89 million annual rate is down 0.2 percent on a year-ago basis – with lots of help from the fact that the comparison is against a low June 2008. Since the 7.250 million peak in September, existing home sales are still down 32.6 percent. Nonetheless, the last three months of gains suggest that sales may have hit a turning point in April, possibly starting a very gradual recovery.
 For the latest month, by region the year-ago improvement was strongest in the West which posted an 11.5 percent gain. Meanwhile, other Census regions were still negative with the Northeast down 4.7 percent, the South down 3.7 percent, and the Midwest down 1.8 percent on a year-ago basis. But the West had suffered the most earlier in the recession, dropping over 18 percent in June 2006 and in June 2007, and easing to a 6.3 percent fall in June 2008.
More good news in the latest report is that supply eased a little to 9.4 months from 9.8 months in May and compared against 11.0 months a year ago.
Also, prices have been firming, although some of it may merely be seasonal. The median price for existing homes sold rose 4.1 percent in June, following a 4.9 percent increase the month before. However, the National Association of Realtors does not seasonally adjust the price data and relatively strong markets during spring and summer likely helped lift prices. On a year-ago basis, the median price was down 15.4 percent. Keeping prices soft is a high percentage of sales of distressed properties—which accounted for 31 percent of sales in June.
While there is a long way to go for housing to fully recover, the last few months indicate that the worst of housing – at least for sales – is behind us.
 The latest consumer sentiment report was along the line of whether the glass is half full or half empty. The good news is that the overall consumer sentiment index rose from 64.6 in mid-July to 66.0 for the full month. The bad news is that this index is still below the June level of 70.8 for June.
Markets were disappointed that the July index still reflects some retrenchment in consumer optimism. However, what was missed by the markets is that the difference between the mid-month number and the final number is the inclusion of those interviewed during the latter half of the month. Since the latter half interviewed caused the index to rise from mid-month, this means that the latter group was even more optimistic that the average for the month. That is, if it is assumed that half of the responses took place after the mid-month calculation, then the second group’s overall index would be estimated to be in the vicinity of 67.4 – still below June but not by much. The bottom line is that consumer sentiment has stabilized and may be back on a modest recovery, having made a comeback from the 56.2 reading in mid-February.
 The expectations index has done a good job predicting changes in trend for the current economic conditions index in recent years. In recent months we had started to see improvement in expectations but that has reversed recently. Expectations for final July firmed from mid-month but at 63.2 were still meaningfully lower than a peak of 69.4 in final May. Current conditions are steady at 70.5, off of a mid May peak of 74.5. Overall, consumers are being cautious about the status of the economy. But at least a touch of optimism returned during the second half of July.
 According to the Conference Board’s index of leading indicators, the economy is getting closer to recovery as this index has risen three months in a row. Traditionally, three consecutive gains have been seen as a sign of pending recovery. But most economists have concluded you also have to look at the magnitude and the breadth (diffusion) of the increases. At face value, the advances are strong with the index rising in April, May, and June by 1.0 percent, 1.3 percent, and 0.7 percent, respectively. The latest spike was led by a boost in the spread between the 10-year T-bond and fed funds rate and a gain in building permits.
At face value, the index passes the duration (three consecutive gains) and the magnitude hurdles for pending recovery. What about diffusion—the number of components up versus down' In April and in May, seven components were up and three components were down. In June, six were up, three were down, and one had a neutral contribution. So, the recovery is a done deal' Certainly, it is easy to make the argument that the economy has fallen so low that the only direction is up. But with the index as strong as it has been, is it pointing to a strong recovery' Probably not.
It turns out there may be a serious flaw in the leading index methodology related to the interest rate spread. It is assumed in the interest rate spread (the 10-year T-bond yield minus the fed funds rate), that a rise in this differential is a positive because it is assumed that the spread has risen due to the Fed cutting the fed funds target. The inclusion of this component contribution appears to not have considered that the spread can also rise if the fed funds rate is little changed while the T-bond yield jumps. And this has been the case in recent months as bond market traders fear looming supply of Treasuries.
For example, the monthly average for the T-bond has risen from 2.82 percent in March to 2.93 percent in April to 3.29 percent in May to 3.72 percent in June. This recent rise in the spread is a negative for the economy, not a plus. If you took out the spread component, the index of leading indicators would have posted more moderate gains of 0.8 percent in April, 1.0 percent in May, and 0.4 percent in June. Of course, it would be rational to actually subtract the spread from the total when the rise in the spread is due to a gain in the T-bond rate. Basically, the leading index is still pointing toward recovery, but not as dramatically as at face value.
One or two outlier financial commentators have been so bold as to suggest that the recession is already over. Not according to the index of coincident indicators! The coincident index has been declining since most of 2008. It dropped another 0.3 percent in May and by 0.2 percent in June. The rate of contraction has slowed since early 2009, but the recession is not over based on these numbers. The coincident index has four components based on measures of payroll employment, personal income less government transfers, industrial production, and business sales.
We have additional data pointing to the recession easing further. The improvement is good news. However, the ongoing bad news is that the improvement is merely creaking along. All signs continue to point to the likely fact that recovery will be slow after it arrives.
The pace of economic news picks up this week. The first market moving indicator is new home sales out on Monday, confirming or not the good news last week on existing home sales. Durables orders for June are released on Wednesday. At close of the week, the Commerce Department gives us the initial estimate for second quarter GDP. The GDP release also includes benchmark revisions that will rewrite economic history somewhat. Also, the consumer confidence index has been under heightened scrutiny and markets will be paying attention on Tuesday and the Fed’s Beige Book on Wednesday gives insight into how much closer we are to the end of the recession.
New home sales slipped 0.6 percent in May, after rebounding 2.7 percent the prior month. Sales have been bouncing around a bottom with increases in two of the last four months. June’s pace of 342,000 was down 32.8 percent on a year-ago basis. We're starting to see gradual improvement and there are signs of more ahead. The National Association of Homebuilders’ housing market index has firmed from a recent low in January. Potential buyer traffic has picked up but remains at low levels. Importantly, last week’s release of existing home sales showed a 3.6 percent boost. New and existing home sales don’t always track each other each month, but they frequently do.
New home sales Consensus Forecast for June 09: 350 thousand-unit annual rate
Range: 335 thousand to 370 thousand-unit annual rate
The Conference Board's consumer confidence index fell 5-1/2 points in June to 49.3. June’s decline had followed notable improvement the prior two months. The reversal in June was due to declines in both the present situation and expectations indexes. The expectations index, however, is still relatively high, indicating that consumers still see recovery not far down the road. But for now, the jobs picture still has consumers nervous and the current conditions index could keep the overall index down in the near term.
Consumer confidence Consensus Forecast for July 09: 50.0
Range: 47.0 to 54.0
Durable goods orders in May came in unexpectedly strong – even after discounting transportation. Durable goods orders increased 1.8 percent in May, following a revised rebound also of 1.4 percent drop in April. Excluding the transportation component, new durables orders posted a 1.1 percent boost after dipping a revised 0.2 percent the month before. But we may see some slippage in June. Three major manufacturing surveys in June (ISM manufacturing, Philly Fed, and New York Fed) indicate modest contraction in new orders.
New orders for durable goods Consensus Forecast for June 09: -0.5 percent
Range: -1.7 percent to +1.2 percent
The Beige Book is being prepared for the August 11-12 FOMC meeting. Markets will be sensitive to any anecdotal news on a variety of sectors, including housing, consumer spending, and credit markets. The Fed knows it has to act promptly when the time comes to pull back on its balance sheet expansion and the Beige Book may be an early deciding factor when that time comes. Nuances in report are starting to count more than usual.
Initial jobless claims rose 30,000 in the July 18 to a slightly lower-than-expected 554,000. The gain was seen largely as an unwinding of seasonal adjustment problems tied to earlier-than-usual summer layoffs in the manufacturing sector specifically in the auto sector. We may see more of the same this week. But the good news in the most recent report is that continuing claims fell for a second straight week, falling 88,000 in the July 11 week to 6.225 million.
Jobless Claims Consensus Forecast for 7/25/09: 585,000
Range: 565,000 to 600,000
GDP growth in the first quarter was revised up marginally to an annualized 5.5 percent contraction from the prior estimate of a 5.7 percent decline. Turning to inflation, the GDP price index for the first quarter came in at an annualized 2.8 percent. Now we get our first look at second quarter GDP and the big question is whether the hoped-for deceleration in contraction is significant. Also, we will get to see the BEA’s benchmark revisions to historical GDP. These updates are not just annual revisions but rebase real GDP from year 2000 chain dollars to 2005 chain dollars. There will be significant methodology changes in several categories—especially personal income and personal consumption. Overall, we’ll have a better idea of how deep the recession has been.
Real GDP Consensus Forecast for advance Q2 09: -0.7 percent annual rate
Range: -2.8 to +0.7 percent annual rate
GDP price index Consensus Forecast for advance Q2 09: +1.3 percent annual rate
Range: 0.0 to +2.5 percent annual rate
The employment cost index for civilian workers in the first quarter eased to a 0.3 percent quarter-to-quarter rise in the main index after a 0.6 percent boost the prior quarter. The first quarter increase was the smallest quarterly rise in the history of this index going back to the start of 1982. The year-on-year rate was also at a record low of 2.1 percent. Based on the latest average hourly earnings data from the employment report, employment cost inflation should remain low in the second quarter also.
Employment cost index Consensus Forecast for Q2 09: +0.3 percent simple quarterly rate
Range: +0.1 to +0.5 percent simple quarterly rate
The Chicago PMI Business Barometer rose 5 points in June but remained anemic at 39.9—which is well below breakeven of 50. New orders rose but were still very weak at 41.6 for a 4.3 point improvement.
Chicago PMI Consensus Forecast for July 09: 44.0
Range: 38.1 to 45.0
Econoday Senior Writer Mark Pender contributed to this article.
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