Market Commetaries & Technical Analysis as at 14 Dec 2009

a. State of US Economic & Monetary Trend
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The FED Governor: Ben S. Bernanke

Approach/Strategy:-
Constrained Discretion; Inflation-Targeting; PCE As Preferred Measure Of Inflation (Range of 1% to 2% inflation as his "comfort zone"); Focused On Inflation Expectations & Resource Utilization To Determine Monetary Policy; Regulation Fair Disclosure or RFD; Relies More On Economic Models And forecasts To guide Views

Challenges 1 (Global Financial Crisis, June 2008 – Feb 2009):
1.Forsaking Interest-Rate Targets, The Fed Is Focusing On Cutting Borrowing Costs and Kick-
Starting Demand. The Federal Reserve's Increasingly Unconventional Efforts To Mend The
Financial Markets and Restore Economic Growth;
2.Maintaining Sustainable Economic Growth & Price Stability

The Fed’s Objective: To Lower A Broad Range Of Interest Rates And Foster Easier Credit Conditions, Even Though The Fed Has Run Out Of Room To Lower Its Target Rate.

The Strategy Comprises Three Sets Of Programs:-
·The first group enhances liquidity via the Fed's traditional role as lender of last resort to banks. These are programs that make loans of cash or Treasury securities in exchange for less-liquid collateral.
·The second set is aimed at supplying liquidity outside the banking system directly to borrowers and investors in key credit markets. These activities include the upcoming program, to be coordinated with the Treasury, to buy up to $200 billion of asset-backed securities, debts backed by car loans, credit cards, and student loans.
·Finally, the Fed has begun to buy longer-term securities, most notably some $600 billion in debt and mortgage-backed paper held by federal agencies. On Jan. 28 2008 it reiterated that it's prepared to buy longer-dated Treasuries.

Fiscal Policy: US$789 Billion Package Of Spending And Tax Cuts

Fed Funds (Overnight Loans Between Banks) Rate as at Dec 2009: Range Of Between Zero & 0.25%

Fed Discount (Direct Loans To Banks From Central Bank) Rate as at Dec 2009: 0.50%

The Outcome as at Nov 2009:-

The Fed's balance sheet has ballooned to $2.1 trillion, reflecting the creation of a spate of lending programs intended to ease the financial crisis. That's more than double before the crisis struck.
As the crisis has eased, so has demand for some of the Fed's lending programs.

Short-term lending, which hit $1.1 trillion at the end of last year (2008), when the crisis was still mounting, has fallen to about $264 billion, a drop of more than 75 percent since the turn of the year (2009). Expecting this trend to continue as markets improve.

Demand for another "commercial paper" program that provides companies with short-term financing needed to pay for salaries and supplies also has declined sharply, from $334 billion at the turn of the year (2009) to less than $50 billion currently (Oct 2009)

Meanwhile, the Fed is on track to wrap up this month (Oct 2009) a $300 billion program to buy government debt. That program aims to lower rates for mortgages and other consumer debt.

The Fed also is buying $1.25 trillion worth of mortgage-backed securities, in another move to force down mortgage rates. Bernanke said both programs appear to be having their "intended effect."

Challenges 2 (Recovery Stage, March 2009 Till Dec 2009): Fears Of Inflation

The Fed’s Objective: Sop Up The Excess Liquidity Being Pumped Into The Economy.- The “Exit Strategy”

Overall the Federal Reserve has a wide range of tools for tightening monetary policy when the economic outlook requires them to do so. It will calibrate the timing and pace of any future tightening, together with the mix of tools to best foster its dual objectives of maximum employment and price stability.

The Risk: Tightening too soon could short-circuit the recovery. Waiting too long could ignite inflation.

The Exit Strategies:-
1.Besides boosting its key bank lending rate, the Fed can raise the rate it pays banks on reserve balances held at the central bank. That would give banks an incentive to keep their money parked there, rather than having it flow back into the economy, where it can stoke inflationary pressures;
2.The Fed also can set up the equivalent of certificates of deposit for banks at the central bank, another incentive for banks to keep their money at the Fed;
3.The Fed also can drain money from the financial system by selling securities from its portfolio with an agreement to buy them back at a later date. Such large-scale "reverse repurchase agreements" can be done with banks, Fannie Mae and Freddie Mac and other institutions. That might involve transactions with money market mutual funds. Or the Fed can sell a portion of its securities outright.

The Risks In The Global Economy:-
1.High Oil Price with a sustained supply shock resulting from a major interruption in the supply -> Inflation Pressures -> Higher Interest Rate -> Bizs Cut Capital Spending & Hiring -> Cut In Consumer Spending -> Raising Inflation And A Flagging Economy!;
2.A Global Credit & Liquidity Crunch Originate From US Subprime Loans Crisis (Stabilizing );
3.A Global Deflationary Threat -> Hints of Global Recovery And Fears of Inflation;
4.A US Dollar (Depreciating) Crisis & High Commodity Prices

By Ben Bernanke … Dated Dec 2009

Federal Reserve Chairman Ben Bernanke warned that it is too soon to know whether the economic recovery will last and again pledged to hold rates at record-low levels for an "extended period."

The Fed chief's speech thinks the economy will struggle even as it recovers from the recession. He said the economy confronts "formidable headwinds" - including a weak job market, cautious consumers and tight credit.

Those forces "seem likely to keep the pace of expansion moderate.

The central bank has leeway to keep rates low because inflation is under control and is expected to stay tame because of the economy's weakness.

Some private forecasters even fear that the recovery could fizzle late next year (2010) as government stimulus fades.

Bernanke could not guarantee that a double dip recession won't happen. He stuck with his forecast for a moderate recovery but said a "vigorous snapback" is less likely.

He expects "modest" economic growth next year (2010). That should help push down the nation's unemployment rate - now (Dec 2009) at 10 percent - "but at a pace slower than he would like. Under one Fed forecast, the jobless rate would remain high next year (2010) - ranging from 9.3 to 9.7 percent.

The Fed has warned that it could take five or six years for the job market to return to normal.

To nurture the recovery, the Fed has kept rates at record low near zero for a year. By doing so, the Fed hopes to entice people and businesses to boost spending, which would aid the recovery.

Despite all the negative forces, consumers recently (Nov 2009) have shown their resilience and kept spending. Home sales have firmed helped by the government's tax buyer credit.

Still, economists took Bernanke's remarks as indicating that he isn't in a rush to raise rates. Bernanke's main message is that the Fed still remains very committed to policies that will provide further support for a stronger recovery. There hasn't been dramatic enough improvements in the economy to make any major changes.

Bernanke stays glum on the economy.

By Former Federal Reserve Chairman Alan Greenspan … dated Nov 2009

A rebound in stocks is “re-liquifying” the U.S. economy and housing prices are showing early indications of ending their decline.

US had been very fortunate that the stock markets moved back” and are “re-liquifying the whole process.

The world’s largest economy is feeling the “maximum impact” now (Nov 2009) from the federal government’s $787 billion in fiscal stimulus. A rebound in house prices might help avert another wave of foreclosures.

It may be too soon, but all the relevant price indexes are turning. Now (Nov 2009) whether or not that is temporary is very difficult to tell, because US has never been through anything like this.

Inventories are being drawn down as the economy recovers. Manufacturers will need to rev up production lines to prevent stockpiles from being depleted. An ever-increasing part of your consumption must be met by industrial production,” rather than from inventories. This phase may extend into the second quarter of 2010.

After that, the economic outlook “is going to depend to a very significant extent on what stock prices do.” Through stocks comes a “wealth effect” from realized capital gains.

The U.S. needs to address the country’s budget deficit. US capacity to sell U.S. Treasury issues was never in doubt because US had a very significant cushion between federal debt on the one hand and the capacity to borrow on the other.

With budget shortfalls projected, “that cushion is narrowing”. US is in a position where it has got to reign in” the national debt.

Monetary Policy …

The Federal Reserve pledged to keep a key interest rate at a record low for an "extended period," signaling that the weak economy remains dependent on government help to grow. The Fed stuck with its pledge to keep rates at "exceptionally low" levels for "an extended period.

Economic activity has "continued to pick up" and that the housing market has strengthened - a key ingredient for a sustained recovery. But warned that rising joblessness and tight credit for many people and companies could restrain the rebound in the months ahead (Nov 2009 & Beyond). Economic activity is likely to remain weak for a time.

Against that backdrop, the Fed kept the target range for its bank lending rate at zero to 0.25 percent. And it made no major changes to a program to help drive down mortgage rates.

Commercial banks' prime lending rate, used to peg rates on home equity loans, certain credit cards and other consumer loans, will remain about 3.25 percent, the lowest in decades.

Still, some credit card rates have risen over the past several months. In part, that reflects rate increases by lenders in response to escalating defaults on credit card loans. Lenders also pushed through increases before a new law clamping down on sudden rate hikes for credit card customers takes effect early next year (2010).

On Capitol Hill, the House voted Wednesday to accelerate the enactment date of the new rules to protect consumers from many such surprise changes. Credit card companies would have to comply immediately, rather than starting in February, unless they agreed to freeze interest rates and fees. But the proposal's chances in the Senate are considered dim.

The average rate nationwide on a variable-rate credit card is 11.5 percent, according to Bankrate.com. Lenders charge more and credit card customers pay rates higher than the prime because the debt they run up is riskier.

It wasn't clear how much of a role the Fed's statement played. In normal times, the Fed controls only short-term rates. But after the financial crisis erupted, the Fed began buying longer-term Treasuries. Its purchases kept those rates lower than they'd otherwise be.

This is good news for borrowers with auto loans, some student loans, 15- and 30-year fixed-rate mortgages and some adjustable-rate mortgages. But it hurts savers and people dependent on fixed incomes who would normally be enjoying higher yields.

The central bank hopes low rates will encourage consumers and businesses to boost spending, which would invigorate the recovery. The Fed signaled that it can continue to hold rates low because inflation is all but nonexistent.

The Fed has now (Nov 2009) entered a new phase: Managing the recovery rather than fighting the worst recession and financial crisis to hit the country since the Great Depression.

The economy began growing again in 3Q2009 for the first time in more than a year. But much of that growth came from government-supported spending on homes and cars. The strength and staying power of the recovery are uncertain, especially once government supports are removed.

In such a fragile recovery, a rate increase by the Fed is unlikely anytime soon. Growth does not mean a rate hike.

As with past rebounds, the budding recovery won't likely stop the unemployment rate from rising. The rate, now (Nov 2009) at a 26-year high of 9.8 percent, the jobless rate could rise as high as 10.5 percent around the middle of next year (2010) before declining.

At some point, once the recovery is firmly rooted, the Fed is likely to start signaling that higher rates are coming. One hint of an eventual rate hike would be the Fed's changing or dropping its pledge to hold rates at record-low levels for an "extended period."

It's a delicate task. Boosting rates and removing supports too soon could short-circuit the recovery. On the other hand, holding rates low and keeping government supports intact too long could unleash inflation.

Though it didn't change a program to help drive down mortgage rates, the Fed did say it will trim its purchases of debt from Fannie Mae and Freddie Mac to $175 billion, from $200 billion, because the supply of that debt has declined.

At its previous meeting in late September 2009, the Fed agreed to slow the pace of a $1.25 trillion program to buy mortgage securities from Fannie Mae and Freddie Mac. It decided to wrap up the purchases by the end of March 2009 instead of at year-end (2009). So far, the Fed has bought $776 billion of the mortgage securities.

Its efforts to lower mortgage rates are paying off. Rates on 30-year loans averaged 5.03 percent. That's down from 6.46 percent in 2008. Though the Fed will slow its purchases of mortgage securities, rates for home loans should remain low - in the 5 percent range_ as long as the purchases continue.
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The Waning Threat of Deflation

The recovery is starting to reverse many trends putting downward pressure on prices and wages, paving the way for the Fed to begin tightening in 2010

Policy decisions by the Federal Reserve have always been driven by the balance between inflation and recession risks. The difference this time is (Oct 2009) the enormous consequences of misjudging that balance. On one side, policymakers face a possible surge in inflation if they withdraw too slowly the massive amount of stimulus they've injected into the economy. On the other, they must ensure the economy will not suffer a relapse, which could push down prices and wages, setting off a pernicious round of deflation.

Economists generally agree that, right now (Oct 2009), deflation is still the bigger potential problem. But ever so subtly the balance of risks is beginning to shift away from deflation. That doesn't mean any move to tighten is imminent, as Fed Chairman Ben Bernanke reiterated on Oct. 8 2009. But it does suggest that the end of the greatest monetary stimulus in history has finally appeared on the radar.

With inflation clearly headed down, caution will rule out policy tightening well into 2010. Inflation, using the Federal Reserve's preferred measure, was -0.5% in August 2009, but that decline in prices is not true deflation. The drop is the result solely of lower gasoline prices. Still, core inflation, which excludes energy and food, has fallen to 1.3%, down from 2.7% this time last year (2008). And because inflation typically continues to decline for at least a year into a recovery, the rate may even breach the lower end of the Fed's 1% to 2% comfort zone next year (2010).

Deflation is a concern because of the unusually large amount of unused labor and production capacity created by the deepest recession since the 1930s. That slack erodes pricing power and the ability of workers to command higher wages. By some estimates, real gross domestic product is now (Oct 2009) some 6% below where it could be if all workers and production facilities were fully utilized.

The recovery is starting to reverse some of these deflationary forces, including many of the excesses that have contributed to the downward pressure on inflation. Now (Oct 2009) that policymakers have stabilized the financial markets and demand, many businesses find that they have cut inventories, capital spending, and payrolls too deeply. They face inadequate stockpiles and the need to boost output and payrolls to meet even a modest pickup in demand. These conditions will take up some of the slack in the economy and put a floor under prices and wages.

After slashing inventories by a record amount, businesses are shifting gears to a slower pace of liquidation. That means output is increasing, which will be evident in the report on third-quarter GDP on Oct. 29 2009. More production is putting some of that excess capacity back into use. Factory operating rates, while historically low, turned up in July and August 2009.

Plus, there's less excess capacity to soak up. The volume of equipment and productive facilities has shrunk, especially in manufacturing. Economists estimate that outlays for business equipment and software have been cut so sharply relative to the rate of depreciation that the U.S. capital stock will decline in 2009 for the first time since World War II. This shrinkage may partly reflect the credit boom, which fueled demand and created a lot of production capacity that is now (Oct 2009) worn out or obsolescent.

Slack in the labor market is sure to take a long time to absorb. Still, the 8 million jobs lost since the end of 2007, including the Labor Dept.'s latest benchmark revisions, have taken payrolls to unsustainably low levels. When demand was falling, businesses could squeeze out huge productivity gains from slimmer payrolls. But with demand now (Oct 2009) increasing, companies cannot sustain the 6% productivity growth of recent quarters. Soon they will need to add workers.

These emerging trends are still a far cry from those that would be associated with inflation concerns and Fed tightening. But the recovery is slowly creating conditions that will stem deflationary pressures and allow the Fed more leeway to start reversing its actions of the past year (2008).

… But The Fed Had The Risk Of Fighting A War On Two Fronts … Deflation & Stagflation

Beware the Bottlenecks: Isolated shortages early in the recovery could strain production—and that could lead to inflation

The one nice thing about a devastating recession is that everything's on sale: Whatever you need is readily available in big heaps, and inflation isn't a problem because sellers are eager to dump their excess supplies. That's why it's a little surprising, not to mention worrisome, that scattered shortages have emerged recently in an assortment of items ranging from economy cars and consumer electronics to such oddities as canned pumpkin and lobster bait.

Are these isolated shortages an early warning that there's less slack in the economy than commonly believed? If so, more bottlenecks could form as the economy gains speed and demand grows. And that, in turn, could drive up prices and force the Federal Reserve to raise rates before the recovery ever hits its stride.

Inflation hawks remember the deep recession of 1974-75, when the Fed overestimated the amount of unused productive capacity in the system. As a result of that mistake, the Fed kept monetary policy too easy and wound up with high inflation.

The predominant view among economists, business executives, and supply-chain experts is that shortages are mostly short-term problems that won't harm the overall economy. They say the bigger and scarier risk is deflation: an economic contraction that causes falling prices, more unemployment, and bankruptcies.

Nevertheless, even some economists who worry mostly about sluggish demand and falling prices say it's worth considering the possibility of inflationary glitches in the supply chain. For one thing, the ongoing credit crunch may be having some unexpected consequences. If weakened companies can't raise the funds they need to expand their capacity, they won't be able to respond to increasing demand. That could produce some ugly combination of higher prices and constrained growth—in a word, stagflation.

Factory closings (March – Oct 2009) have reduced U.S. industrial capacity at the fastest pace since record keeping began in 1967.

The auto sector would seem to be one that's vulnerable to supply disruptions despite the massive decline in sales. Automakers have decreased their capacity at the most rapid pace since World War II. That capacity reduction has helped prop up prices. Surprisingly, new-vehicle prices rose 1.6% in the year through September 2009.

The financial difficulties of auto and parts makers increase the risk that they won't be able to attract financing for needed expansions.

The Fed would have an easier time if it could focus on just one enemy, deflation. But it can't entirely ignore the opposite threat, capacity bottlenecks leading to inflation. The central bank must be prepared to fight a war on two fronts.

… Why The Fed Policy Of Keeping Short-Term Interest At Historic Lows Has Such Broad Support …

The Federal Reserve is holding short-term interest rates at the lowest levels in history—zero to 0.25%—even though the economy is showing signs of recovery. Some critics argue these ultra-low rates will trigger a dollar crisis or fuel financial speculation that will end, once again, in tears. Yet the engineer of these low rates, Fed Chairman Ben Bernanke, has retained the confidence of the financial markets and fellow policymakers.

How has Bernanke managed to win support for keeping interest rates at rock bottom, even though the easy-money policy he advocated in 2002-04 helped inflate the bubble that burst disastrously just a few years later? The answer is simple: Bernanke has succeeded in persuading most fellow economists—and, crucially, the bond market—that continued low rates pose no immediate risk of inflation and are in fact essential to keeping the U.S. economy from suffering a double-dip, W-shaped recession.

Bernanke's grip on policy has only been strengthened in recent days by Obama's endorsement as well as support from other central bankers at the Fed's August 2009 conclave in Jackson Hole, Wyo.

Despite chatter about the Fed's urgent need for an "exit strategy," traders in the money market expect the funds rate to remain at 0.25% or below through next January or March 2010 before drifting up to 1% by summer 2010.

The likelihood of continued cheap money isn't alarming the bond market, which hates inflation. Yields on 30-year Treasuries have fallen slightly over the past month (July 2009). Rates on inflation-protected Treasuries show no signs of mounting inflation anxiety.

However, critics who think Bernanke needs to hike rates. The cost [of low rates] will be a major currency crisis which undermines what remains of US economy. The Fed will be forced to raise short-term rates drastically in the next two years (2010-2011) to keep foreign creditors content and prevent a dollar collapse.

On Wall Street, few economists or traders worry that rates need to rise soon. Excess capacity will keep a lid on prices for a long time to come. The Fed doesn't need to raise rates to defend the dollar, either, because the recession has actually reduced net U.S. borrowing needs.

With an implicit endorsement from the bond vigilantes—and an explicit one from the President—Chairman Bernanke has the license to pursue his low-rate policy for as long as it takes to get the American economy back on track.

… And The Fed’s New Playbook For Tightening …

Now (Nov 2009) that growth is picking up, it'll soon be time to sop up excess funds. But given the unconventional easing of the past year (2008), the old methods no longer apply

Over the past year (2008), the Federal Reserve has committed trillions of dollars to its extraordinary effort to shore up the financial markets and prevent a severe recession from turning into a depression. By all signs, and with help from the stimulus package, it's working. Credit is flowing better, and the economy is growing again.

Now (Nov 2009) comes the hard part: Unconventional easing will require unconventional tightening. The old models don't fit the task, and the consequences of a miscalculation are much greater.

Gone are the days of simply deciding when and how much to raise interest rates. This time (2009 & Beyond) the Fed has to wind down more than a half-dozen lending and market support programs. It must drain the nearly $1 trillion in excess reserves it has added to the system or at least neutralize their inflationary potential.

And policymakers now (Nov 2009) have to consider two target rates: the traditional federal funds rate on overnight borrowing between banks and a new rate, the interest the Fed pays banks on any excess funds they hold at the central bank. For all this, the past offers no road map.

Fed watchers have a general idea of what tightening will look like, but the devil is in the details—and especially the timing. The first step: to prepare the markets, via speeches or testimony by Fed Chairman Ben Bernanke and by changes in the policy committee's statement. One of the first major alterations will be in the Fed's commitment since March 2009 to keep rates at "exceptionally low levels" for "an extended period." Policymakers left that language intact after its Nov. 3-4 2009 meeting, but at some point they will need more flexibility.

Keep in mind, though, that before starting to tighten, the Fed must stop easing. That will most likely occur when the program to buy $1.45 trillion in mortgage-backed securities and federal agency debt, a process that pumps funds into the system, comes to its expected conclusion by the end of March 2009. Then the Fed can begin to drain the excess.

For this, one tool the Fed plans to use is the sale of certain securities, called reverse repurchase agreements. Banks buy these securities in exchange for their excess cash, taking lendable funds out of the system. These sales will not initially involve raising the Fed's traditional target rate, now (Nov 2009) set at a range of 0% to 0.25%.

Rate increases will come in conjunction with the Fed's new authority to pay banks interest on their deposits. Manipulating this rate, now (Nov 2009) set at 0.25%, will make it easier for the Fed to control the main target rate, which could be difficult amid the flood of cash sloshing around. A higher deposit rate gives banks incentive to park their excess funds at the Fed and less incentive to lend them out in the interbank market. In this way, the excess funds actually stay in the system, but their potential to create new money and higher inflation is neutralized.

The real question in all this is the timing, something policymakers are already hotly debating. The doves, who are in no hurry to tighten and are in the majority, point to the enormous slack in the economy, which is putting downward pressure on wages and prices and perpetuating the risk of deflation. The hawks say popular measures of underutilized workers and facilities can give misleading impressions of the amount of slack, as was the case in the 1970s. Plus, they worry that exceptionally easy policy could fuel expectations of higher inflation, which are hard to reverse once they become ingrained in business and consumer behavior.

The timing will boil down to when the Fed thinks the recovery is sustainable. Despite last quarter's (3Q2009) solid 3.5% economic growth, clear improvement in the job markets, so crucial to sustainability, is still a ways off. Also, wage growth and inflation continue to slow. In the last two recoveries, the Fed did not begin to lift rates until unemployment had fallen notably.

The Fed's first verbal signal is not expected until the Dec. 15-16 2009 meeting at the earliest, and it may not be until well into 2010 that the Fed will very carefully start to feel its way toward tightening.

… But With The Danger in Tying The Fed's Hands …

Near term, inflation is under wraps. Down the road, however, the Fed's credibility as an inflation fighter could suffer if Congress exerts control over monetary policy—and that spells trouble

How much should US worry about inflation? In the coming year (2010), nearly all economists say "not much." With so many workers and production facilities likely to remain idle next year (2010), Econ 101 tells you the pressure on wages and prices is down. Looking beyond next year (2011 & Beyond), though, the question is beginning to take on greater weight, especially amid recent congressional challenges to the Federal Reserve's authority and independence in conducting monetary policy.

The Fed's basic task is already herculean. Over the past year (2008), excess reserves in the banking system, which determine the economy's money-creating potential, have soared to nearly $1 trillion, up from a comparatively trivial $2 billion or less before the financial crisis. Deciding when to start neutralizing this excess without either killing the recovery or breeding inflation will be hard enough. The Fed's increasing unpopularity on Capitol Hill adds another layer of difficulty. It may well have to begin tightening policy next year (2010) with unemployment at a very high level, something that would not go over well with such a hostile Congress.

More important, the Fed's credibility as an inflation fighter, which is crucial to its ability to make effective policy, may be at risk. Legislation coming out of the House Financial Services Committee, innocuously called the Federal Reserve Transparency Act and supported by two-thirds of the House of Representatives, would subject the Fed's decisions on monetary policy to congressional audit. That is, if Congress doesn't like the Fed's decision to hike rates amid high unemployment, it can forcefully and publicly challenge all members of the Fed's 12-person policy committee.

Any perception in the global financial markets that political pressure is influencing monetary policy would raise expectations of future U.S. inflation, which would push up interest rates and add downward pressure on the dollar. Rock-solid inflation-fighting credentials are the chief reason why the Fed has been able to run a wildly expansionary policy while keeping long-term interest rates low and avoiding a collapse in the dollar.

Concerns about inflation expectations, a crucial component of long-term rates, are central to the debate within the Fed over when to start tightening. The Fed's anti-inflation hawks are not thinking about inflation in 2010, but longer-term. They fear that an extended period of ultra-easy money could fuel the anticipation of rising prices. Such expectations can stoke actual inflation if they become deeply ingrained in business and consumer behavior.

Plus, the issue of underutilized labor and facilities is not cut and dried. Inflation hawks note that the jobless rate and operating rates can give misleading readings on the amount of slack in the economy, as happened in the 1970s. Technology and outsourcing may have rendered many skills obsolete, putting more upward pressure on the wages of workers with skills in need. And equipment is now (Nov 2009) wearing out faster than it is being replaced, thanks to sharp cutbacks in capital spending by businesses. That would imply a higher utilization rate that could create spot shortages and upward pressure on prices.

In fact, not all inflation measures are falling. Although core consumer inflation, which excludes energy and food, is declining in the broad services sector, goods inflation is running at the fastest pace in 16 years. For now (Nov 2009), the markets perceive little inflation danger, partly out of their belief in the Fed's anti-inflation resolve.

That perception will be important, given Washington's need for $2.8 trillion in new money over the next three years (2010-2012), based on Congressional Budget Office projections. As San Francisco Fed President Janet Yellen noted recently, budget deficits don't typically cause inflation in advanced economies with independent central banks that pursue appropriate monetary policies. Right now (Nov 2009), though, the Fed's independence and the appropriateness of its coming decisions are increasing uncertainties in the inflation outlook.

Economic Indicators … dated Dec 2009

Monetary Policy: The Federal Reserve pledged to keep a key interest rate at a record low for an "extended period”;
GDP Growth: A Surprising Third-Quarter 2009 Pickup In GDP is expected to show healthy growth and a broad rebound in demand is a key reason;
Corporate Spending/Confidence: Business Executives Are Growing Optimistic Again: Corporate executives are starting to share Wall Street's bullishness—a sign that could improve prospects for a rebound
Corporate Earnings: With productivity skyrocketing and labor costs plunging, profits will post strong growth in coming quarters now (Oct 2009) that demand is beginning to turn up;
The Housing Sector: A Housing Recovery with a Solid Foundation;
The Credit & Loan Growth: Lending remains tight, but overall bank standards are relaxing, and that will make it possible for businesses to expand as demand picks up;
The Labor Market: The Signs Say Job Growth Ahead (2010 & Beyond);
US Consumer Confidence: US consumer confidence deteriorated sharply in October 2009. Persistent trouble in the labor market was a major culprit;
US Consumer Spending: Despite weak labor markets, heavy debt, and low confidence, U.S. households have already begun to spend (Nov 2009), especially on services
US Households Wealth: Household wealth in the U.S. increased by $2 trillion in the second quarter 2009.

b. State Of Malaysia Economic & Monetary Trend
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Investment Theme For 2009

15. RM40 Billion Public Transport Expenditure
16. Water & Water-Related Play
27. Second Wave Privatization 1.0

Watch List In The Coming Week

Mega Project Calls For Tenders And Awards (LCCT, LRT extension);

Market Commentaries

It was going to be another “dry and slow trading day” on the stock exchange given the dearth of material news flows on the corporate scene.

The FBMKLCI may still seize the opportunity to inch up a bit more ahead.

With the impending inclusion of Nestle (M) Bhd and omission of Parkson Holdings Bhd as a FBM KLCI constituent effective Dec 21 25009, there could be some portfolio adjustments by index-tracking funds although any reallocation would be minimal given their relatively small weight in the index calculations.

The Risks … dated Nov 2009

Refer To Previous Report....

Technical Analysis

With investors all geared up for the holiday season (Mid Dec Till End Dec 2009), don’t expect big shakes from stock exchanges across the globe as the year (2009) comes to its end.

In Malaysia, with no leads or catalysts to propel the market, stocks have been moving sideways in listless trading.

The flurry of selling has a mild effect on the FBM KLCI, and some of the stocks are beginning to show signs of stabilising.

Thus, with fund managers closing their books and only likely to scan the market for bargains in January 2010, the next couple of languid weeks could offer value for the savvy investor.

The 1,255 is an extremely strong support level. Since the FBM KLCI broke out in March 2009, it has always held above this level despite various corrections. It’s important that the market doesn’t fall below this level.

However, if these markets continue to correct further, then the index too may crack. His next support level is at 1,248 points, which is the low seen on Nov 30 2009 when the Dubai financial crisis came to light.

Investors can take their time buying in January and February 2010. We will probably see a more convincing recovery in March 2010

The FBM KLCI has appreciated by some 45% on a year-to-date basis.

Meanwhile, based on the recent strength of Asian equity indices, global markets are likely to see a resurgence soon. In the next one to two weeks (late Dec 2009), the market should be telling us where it wants to go.

Over the week, investors in Asia were rattled after Japan reported that its economy grew far less than originally expected in the third quarter, at an annualised 1.3% instead of 4.8%, as cautious companies slashed spending.

Greece’s credit rating was lowered because of growing debt. Ratings agencies also cut ratings on state-linked companies in Dubai, the massively indebted Gulf city-state, and raised concerns about heavy public debt loads in the United States and Britain.

Undermining Factors

1. Fear, Uncertainties, Global Liquidity Crunch & Economic Fallout (Dubai’s Debt Crisis
Stabilizing)
2. Volatile Foreign Exchange Market (Volatile Due To Dubai’s Debt Crisis … Stabilizing)
3. State Of The Global Economy (Though Recovering Since March 09 But Dubai’s Debt Crisis
Added To Uncertainty … Stabilizing);
4. Commodities Prices (Volatile Due to Dubai’s Debt Crisis … Stabilizing);
5. A Global Deflationary Threat -> Hints Of Recovery – > Fear Of Inflation;
6. Threats Of High Commodities Prices And US Dollar Crisis;
7. Tightening Of Global Monetary Policy & Unwinding Of US Dollar Carry Trade

Unpredictable Risks/Surprises

1. Terrorist Attack –
2. Oil Supply Disruptions –
3. A Pandemic Disease – Swine Flu
4. Financial Crisis – Dubai’s Debt Crisis (Stabilizing)
5. Major Social And Geopolitical Upheaval –

Equity Strategy: Easing Malaysia Political Uncertainty, Outcome Of The Credit Crunch And Subprime Loans Crisis Stabilizing, Strengthening Commodities Prices, Stable Global Growth, Moderating Inflation, Easing Monetary Policy & Fiscal Stimulus Measures …

Recession – Recovery – Growth – Boom – Burst

(With Global Valuations Fair To Approaching Expensive, Investors Should Begin Shifting Focus To Corporate Earnings)

a. One Of The Greater Risk For Emerging Equities Market – Unwinding Of US Dollar Carry
Trade … Spot For Bernanke’s Statement On Monetary Policy
b. State Of The US (Jobless Recovery), Japan (Recovering Stage But Still Uncertain), China
(Gaining Momentum) & The Middle East (Dubai’s Debt Crisis … Stabilizing) Economy as at
Dec 2009
c. Shifting Focus From Economic Growth Surprises (which drove upgrades to earnings and
valuations) To Other Factors To Drive (or protect) Returns Going Into 2010. (Latest)
d. Global Equities Outlook …
e. Global Monetary & Fiscal Policy (The Exit Strategy): Recovering Economy, Weakening US
Dollar, High Commodity Prices & Inflation Expectations Building Up
f. The US Equities Market: A Bubble Is In The Forming
g. The Malaysian Equities Outlook: 6 (Optimistic), 7 (Neutral), 6 (Pessimistic)
h. Global Inflation Outlook: Controlled Versus High
i. The US Dollar Carry Trade, The Marriage of The Dollar And Oil Is Growing Estranged & Why
Dollar Is Weak Since Aug 2009
j. The Malaysian Equities Market By Nomura, Morgan Stanley & CLSA
k. The US Economy By Treasury Secretary Timothy Geithner, Warren Buffet, The Fed
l. The Good, The Bad & The Ugly Aspects Arising Since Sept 2008 …
m.Market Liberalization - Paring Down Of Government Stakes In GLCs … To Increase Their
Stock Liquidity
n. Betting On Next Leg Global Recovery (Sept 2009 Onwards) ... Transition From One With
China As Sole Driver To A More Balanced US/China Model
o. What’s NEXT For The Malaysian Economy … The Next Challenge Is To Sustain The Recovery & Investing In Equities On Expectation Of Second Round Recovery
p. What’s NEXT For The Global Equities Market … WHAT MATTERS MORE TO MANY
DEVELOPING MARKETS NOW (AUG 2009) IS WHAT CHINA , NOT US, DOES WITH
POLICY
q. What’s NEXT For The US & China Equities Market
r. Jims Rogers … Next Commodity Bull Run Had Just Begun, Bets In Airlines, Agricultural Land,
Water
s. The Asian Equities Markets … Investors Should Start Accumulating On Weakness During
3Q2009, To Position For Further Upside Later 2009.
t. What’s NEXT (2H2009) For The Malaysian Equities Market …
u. Carry Trades Are Making A Come Back Into Emerging Markets
v. High Commodities Prices & US Dollar Crisis Could Pose Threats To Global Economic Recovery
In Coming Months (June 2009 & Beyond).

Kindly Refer To Previous Report ...

Stock Market Leading Performance Indicator
5 (0-3-Bearish 4-6-Neutral 7-10-Bullish).