US STRATEGY - FIREWORKS

Monday’s political undertone was that the Volcker rules could be significantly watered down in the Senate if not just DOA.  Today, Paul Volcker is scheduled to appear before a Senate hearing, with little expectations of presenting anything new.  Today’s set up in the Senate is for party-line grandstanding, with the possibility of a few fireworks from some of the more vocal members of the Senate. 

Yesterday, the S&P 500 finished higher by 1.43% on a 34% day-over-day decline is volume.  The upward move was helped by the weakening RISK AVERSION trade, as both the Dollar index and the VIX declined.  The VIX declined 7.9%, to 22.59 and is very close to the TRADE line of 22.51.  The Hedgeye Risk Management models have the following levels for VIX – buy Trade (20.56) and Sell Trade (28.12).

On the MACRO front, upbeat manufacturing data out of the US and China helped to underpin the RECOVERY trade.  Yesterday, the ISM manufacturing jumped to 58.4 in January from 54.9 in December, marking the highest level since mid-2004. The production component was a big contributor to the January increase, rising to 66.2 from 59.7. While the orders component only saw a slight improvement to 65.9 from 64.9, it remained firmly in expansionary territory.  Importantly Employment continued to improve, moving up to 53.3 from 50.2 in December.  

Nearly every up move in the S&P 500 in 2010 has been associated with very light volume and as I said earlier yesterday, was no exception.  The best performing sectors yesterday were the sectors that have decline the most year-to-date - XLB, XLE and XLF. 

Rebounding from an oversold condition, the Materials (XLB) was the best performing sector, rising 4%.  The XLB benefited from its leverage to the ISM manufacturing data and the support provided by the RECOVERY trade. 

The second best performing sector was Energy (XLE), up 3.3%.  While all the major commodities were strong yesterday, natural gas prices led the way with t 5.9% increase.  The integrated group snapped a four-day losing streak with help from the better-than-expected Q4 results out of XOM +2.7%. The coal stocks were also very strong following last week’s selloff.

The one sector that continues to underperform is Technology (XLK).  While there was some upside leadership coming from the semi space, with the SOX +3.1%, the balance of the group can’t get out of its own way despite the continued trend of better-than-expected December quarter earnings. 

As we look at today’s set up, the range for the S&P 500 is 36 points or 2.4% (1,062) downside and 0.8% (1,098) upside.  Equity futures are trading mixed to fair value following yesterday's strong gains with concerns over potential tightening in China, the US housing numbers due out today offset by recent economic data and the fact that most 4Q10 earnings continue to beat estimates.  

The Dollar Index decline 0.1% yesterday and the Hedgeye Risk Management models have the following levels for DXY – buy Trade (78.66) and Sell Trade (79.51). 

Copper rose for a second day in London on speculation that a weaker dollar will spur demand.  The Hedgeye Risk Management Quant models have the following levels for COPPER – buy Trade (2.99) and Sell Trade (3.13).

Gold remained almost unchanged over the past week, though a strong dollar is a negative for gold.  The Hedgeye Risk Management models have the following levels for GOLD – buy Trade (1,077) and Sell Trade (1,113).

Crude oil climbed for a second day on speculation that recovering demand in the U.S. is causing fuel supplies to drop.  The Hedgeye Risk Management models have the following levels for OIL – buy Trade (72.03) and Sell Trade (77.13).

Howard Penney

Managing Director

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