Weekly Recap - November 23, 2008

A guy falling down a high rise thinks to himself “so far so good, so far so good” as he passes each floor on his way down. But is not the falling that counts, is the landing. The market is looking for any good news in this environment to stop the falling. Friday, the markets cheered the nomination of Timothy Geithner as the new Secretary of the Treasury, and rebounded about 6%. Who is Timothy Geithner? He is currently the head of the New York Federal Reserve, but I don’t think it would have mattered for the markets. Just the idea of change is enough to get them started.
However, the major indices are still down for the week, even with Friday’s nice rally. Dow Jones Industrial Average sits at 8,046, down 5.3% for the week, S&P500 dropped 8.4% to 800, after hitting 741 early Friday, and Nasdaq Composite Index lost 8.7% to 1,384. One of the interesting facts of this week is that S&P 500 dividend yield, about 3.79%, exceeded the 10-year Treasury yield, about 3.20%, for the first time in half a century. While many dividends will likely be cut next year, which will send the equity yields back down, the cross suggests that stocks are cheaply valued. The bear camp simply says that it means no more earnings growth for a while. One bearish indicator: the insider buying and company buybacks. With stocks almost down 50%, many would think that the companies are scrapping up cash in order to buy back their battered stock, but that’s not the case. For the 10 days ended November 19, announced new stock buybacks averaged $420 million a day, down almost 90% from $3.6 billion in November – December of 2007. Insiders follow the same pattern, buying back $3.4 billion in the past two months, down 24% from the year-ago period, when stocks were double than they are now.

There are not many places to hide these days. Strong health-care stocks, usually a defensive group, are getting thrown out with the financials. So far, they are down 35%. One of the companies being in this situation is Medco Health Solutions (MHS), the country’s biggest pharmacy benefits manager, which is down a third from its highs of $37.32. The indiscriminate selling has gotten Medco at a PE of 14 times forward earnings, lower than its growth rate, which is rare. The numbers look good: for the first nine months, Medco sales rose 17% to $38.3 billion and profits 25% to $829 million, or $1.74 a share. Medco expects 2008 earnings of $2.30 - $2.33 a share, up 20% from 2007, and $2.67-$2.77 next year, up 15%. It also plans to buy back $3 billion of shares.

Wild VIX
We are heading towards the most volatile market ever. The S&P 500 three-month realized volatility is now 66%, within striking distance of the 68% peak of the 1929 crash. We will likely pass it in short time, making this market the highest sustained volatility environment in S&P 500 history. No one trading options these days has experienced situations like this one. The average peak in volatility during the last nine bear markets since 1950 was 30%, with a high of 64% in 1987. The options market’s fear gauge, the Chicago Board Options Exchange’s Market Volatility Index (VIX) which is calculated by measuring the implied volatility of certain S&P500 index options expiring in 30 days, set a new all-time closing high of 80.90 on Thursday. This spells trouble for stocks. VIX at 80 implies a S&P500 average daily move of about 5%.

Other news:
- Detroit automakers failed to secure $25 bil in loans from Congress as lawmakers required a business plan to return to profitability. I wonder how could the Big 3 go to Capitol Hill without a plan.
- Citi and JP Morgan Tumble – As a proof that we still don’t know how many more losses are to come from the big financials, Citi and JPM shares plunged 60% and 34%, respectively, as concerns grew that the banks will be forced to write off billions of dollars in losses in the coming quarter.
- New jobless claims hit a 16-year high of 545,000 while continuing claims topped 4 mil for the first time since ’82.
- Housing starts in October fell to their slowest pace going back 50 years