“Debt” looks like it will be the running theme for 2010. Just after mid-January, Greece’s debt woes, and by extension the debt problems of the EU members, became the catalyst for the market’s unraveling. It wasn’t so much Greece, per se, but the highlighting of debt by governments around the world, the impact of CDSs, and the impact a weak Euro on the Dollar Index. It was Greece that garnered the attention of Moody’s and Standard and Poors’ credit rating agencies to downgrade or threaten to downgrade the debt of many nations, including the United States. The cost to borrow suddenly rose worldwide, and that can have only one result in the equity markets. As Greece moved closer to seeing its situation get some sort of support from Germany and the EU, Dubai’s debt resurfaced to undermine the market’s attempt at a bounce. Dubai World may offer creditors 60% of monies owed on $22 billion in debt. The formal proposal isn’t due until March or April, but the markets responded to a much lower-than-anticipated projected resolution to Dubai’s debt crisis.

While Dubai’s debt woes may have come back to haunt the market on Friday, Greece’s problems are not getting better. The EU is demanding that Greece’s government do more to reach its 3-year goal to cut the government’s debt to 2.8% of GDP by 2012. Meanwhile, strikes and protests by unions within the country are making it difficult to achieve austerity measures. As Greece and the EU heat up discussions on a formalized plan, the Euro continues to feel the pressure of an uncertain future and the impact that it might have on the currency. That resulted in a slight new intra-day high for the Dollar Index, which precipitated our market’s morning decline. The Dollar Index rocketed to 80.748, just a hair above the high of the prior week, but enough to raise a red flag of caution and send the futures significantly lower at the open for the US markets on Friday. However, that was the low-point for the day, and the markets slowly recovered as the Dollar’s gains moderated. Still, the fact remains that the Dollar’s strength, albeit due mainly to other currencies’ weakness, is a negative for our equity markets.

Perhaps one of the saving graces for Friday’s market was the January Retail Sales Report. January sales rose an unexpected 0.5% versus an anticipated gain of 0.3%. December was revised up from a loss of 0.3% to a loss of just 0.1%. Therefore, it was a stronger gain on top of a stronger month of December. Even the ex-auto, ex-gasoline number was better-than-expected, rising 0.6%. Nine of the thirteen categories showed gains. Electronic stores showed a 1.2% gain and General Merchandise was up 1.5%. Non-store retailers, internet retailers, did very well in January, up 1.6%. Meanwhile, the Intl. Council of Shopping Centers, ICSC, said January sales were up 3% at the major chains. Expectations were for an increase of just 1%. There are a few numbers to add to this news to make it even more impressive. We have to look back at the ISM Index for January and take note of the fact that the “inventory” component was still below 50, suggesting further drawdowns at our nation’s factories. Wholesale Inventories in December were off by 0.8%. Friday’s report on December Business Inventories also posted a surprise decline of 0.2%. In short, sales are running at a better pace that expected and manufacturers are not keeping pace with new orders. The drawdown in inventories is a deduction from GDP. The increase associated with the fourth quarter GDP release was because the rate at which inventories were being depleted was far less than the prior three quarters. Since these are annualized figures, the adjustment added 3.4% to GDP. However, the real inventory rebuild cycle has been pushed out into the first quarter of 2010, which, when compared to the dismal circumstances in the first quarter of 2009, should result in growth in first quarter GDP.

This week, the market’s attempt at a bounce is facing more significant technical resistance, as the averages approach the level of the failed rally attempt from two weeks ago. That resistance is at 10,270 for the Dow, 1104 for the S & P, and 2200 for the NASDAQ. On the economic front, there is a lot of news out this week, although little that we would deem as “market moving”. The PPI and CPI should remain quite tame. Housing data may bounce after dipping on expectations that the government would let stimulus efforts expire. That expectation caused sales to drop dramatically, but then the government finally did extend the program. We don’t expect that there were significant numbers waiting to buy homes based on the second program, especially since many rushed to beat the deadline of the first homebuyers’ tax credit. Two numbers stick out as potentially interesting, Industrial Production for January and the Philly Fed Index for February. If Industrial Production continues to increase at the rate anticipated, with the consensus forecast for a gain of 0.8%, then it will bode well for first quarter GDP estimates. The Philly Fed Index is expected to push higher in February, also indicating demand to rebuild inventories extended well into the first quarter.

Investors will have to weigh the positive indications that the economy is still growing, albeit at a slow pace, against the global debt crisis, technical resistance, and FOMC minutes that might give us added insight to an exit strategy. It’s going to be tough for investors to get “inspired”, even by a week of good data. To end on a positive note, this rally has been led by strength in Technology, always a good sign. In addition, the Financials are trying to hold firm as the Financial Sector SPDR, XLF, has edged closer to 14. The index closed at 13.95, but is trying to make a run at getting back above the old support that broke down at 14. Unfortunately, we think the odds are stacked against a significant extension of this rally attempt. Therefore, despite the anticipated good economic news, we still advise caution until  we get into early to mid-March for a more significant and playable rally.