How To Recognize a Financial Mania When You're Smack Dab in the Middle of One

By Susan C. Walker, Elliott Wave International
November 12, 2007

When you're caught in the middle of a bad storm, you don't really care whether it's a tropical depression or a full-strength hurricane. You just know you're hanging on for dear life. The same idea applies to financial markets. When a market is trending up strongly, it's hard to tell whether it's just a bull market or a more dangerous financial mania.

The recent tremendous ride up for global and U.S. financial markets, including the Dow, looks and feels more like a mania than a mere bull, says Elliott Wave International analyst Peter Kendall. This distinction is important to recognize in the rising stage, because manias always result in a crash that takes them back beneath their starting point.

Kendall recently published his research into current financial manias throughout the world in SFO (Stocks, Futures and Options) magazine. The article, titled "Financial Manias and the Trade of a Lifetime," suggests an even more stunning finish for the current manias: "The speed and global scope of the unfolding credit crisis suggest that most of the fast-rising markets of the last decade will crash in unison," he writes.
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Editor's note: Elliott Wave International invites you to read the full five-page article with charts from the October 2007 SFO magazine by Elliott Wave International's Pete Kendall called "Financial Manias and the Trade of a Lifetime."
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As co-editor of The Elliott Wave Financial Forecast, Kendall searches for trends that help traders to move in and out of markets. By comparing other historic manias with the impressive rise of the DJIA since the late 1970s, he focuses on the skyscraper pattern that they all have in common. The four historical manias are the Dutch Tulip mania of the 1630s, the South Sea bubble of 1720, the U.S. stock crash of 1921-1932 and the dot.com bust of the 1990s and early 2000s. Once you can see the similarities, you will be better prepared to face the music when the crash comes. As Kendall writes, "once the belief that the markets will always rise becomes widespread, it actually signals the start of a price swing that tends to be a career-breaker for any trader who tries to oppose it."

He also discusses current manias, such as the Nikkei, which has yet to return to its start after a manic rise to its all-time high in December 1989, and the Dow, which reversed from its rise in 2000 but made a U-turn in 2002. The starting point for the Dow's mania as shown in the chart included in the article is at the 1000 level.

Kendall, who is also writing a book about financial manias, titled The Mania Chronicles, describes five telltale signs that help an investor to tell the difference between a regular bull market and a mania. It's a mania if:

1. There is no upside resistance, and rising prices seem to be perpetual.
2. Everyone in the market looks like an expert.
3. There is a flight from quality investments to riskier investments.
4. As financial bubbles pop in one area, they bubble up in others.
5. The crash after the peak takes back all the gains the mania made.

No. 5 can be viewed only with hindsight. But the first four signs provide essential clues to what's shaping up in the markets.

"By studying past mania experiences, traders can gain valuable insight into the collective emotions that drive their markets," writes Kendall. "It's possible to make significant money in the advancing stages of a mania with no knowledge of its existence. But there is nothing like recognizing a mania for what it is in real time to help a trader keep those gains and deal with the relentless crash after it peaks."

In the last part of the SFO article, he asks the key question, Are we at the peak yet? Find out his answer by reading the whole article for yourself.

Susan C. Walker writes for Elliott Wave International, a market forecasting and technical analysis company. She has been an associate editor with Inc. magazine, a newspaper writer and editor, an investor relations executive and a speechwriter for the Federal Reserve Bank of Atlanta. Her columns also appear regularly on FoxNews.com.

Linear Regression Changes In Trends

The previous post covered using a linear regression line with standard deviation channels. This is helpful to define the trend and to statistically define where the underlying stock or index is in relation to the trend. Below is a three day chart with the same linear regression and standard deviation lines used previously.

MER - Merrill Lynch & Co.(click charts to enlarge)


In this chart the red line running up the center is the linear regression line(377 period). The blue lines are one standard deviation above and below the regression line. The yellow lines represent two standard deviations. Two standard deviations should include 95% of prices. Any price outside this area should be looked at as an extreme in relation to the trend, and should revert back to the mean. If prices stay outside these areas, it signals a change in trend.

As can be seen, one standard deviation acted as support for most prices. Recently prices broke through this area and went straight to the two standard deviation line, where prices paused before breaking strongly lower. This is a great visual picture of the change in the state of affairs for companies with exposure to the sub-prime lending issues. Below is the same chart of Merrill Lynch except it is a daily chart as opposed to the three day chart.

MER - Merrill Lynch & Co.


The daily chart shows more volatile price movement. The three day chart takes some of the noise out of the price movement and smooths the data. The daily chart is helpful for looking for entry points for those who trade more actively.

Below is a chart of Roper Industries Inc. It might look like a pretty boring chart, but is one that has been very profitable.

ROP - Roper Industries Inc.


Applying linear regressions to Exchange Traded Funds can be a helpful tool in identifying leaders. Below are charts of the XLE Energy ETF and the XLB Basic Materials ETF.

XLE


XLB

Smoothing Data and Using Linear Regressions

Linear regression analyzes the relationship between two variables, X and Y. For each subject (or experimental unit), you know both X and Y and you want to find the best straight line through the data. In some situations, the slope and/or intercept have a scientific meaning. In other cases, you use the linear regression line as a standard curve to find new values of X from Y, or Y from X.

In most instances when it comes to trading it is best to keep things as simple as possible. It is possible to write intricate formulas for analyzing and back-testing data with linear regressions. Through personal experience it seems best to focus on the time frame or the length of the linear regression and the overall slope of the regression line. Below is a chart of the S&P 500 with a longer term linear regression line. This regression line is shown as the red straight line that bisects the prices over the past 377 days. On either side of this red line are lines which show one standard deviation (blue lines) and two standard deviations (yellow lines). These lines run parallel to the linear regressions and act as channels.

S&P 500 Index


This is a longer term view of the market, but it does help in showing when the market is at mathematical extremes. It can help in knowing when not to fight a trend and when to expect support to possibly help adding to a position. It is important to note that the entire slope of the linear regression is positive. Creating long positions when the market is 2 standard deviations above this line could prove to be positive, but looking for better entries on pull-backs to the regression line or to the one standard deviation line could be significantly safer.

The chart below further smooths the data by using a three day chart. This is a custom time frame that is longer than a daily chart, but is shorter than a weekly chart. When using the 3day chart, most of the data will stay within one standard deviation of our linear regression line.

S&P 500 Index 3 Day Chart


Looking back to the late 90's, it is possible to see how the market reacted to these levels as the trend changed. This chart below is a three daily chart with the same linear regression line.

S&P 500 Index 1997-2002

Leading Sectors And Volume

As everyone is anticipating what the next Federal Reserve action might be, volume is becoming lighter as the market drifts higher. This is nothing shocking, but when looking at the energy sector one might expect volume to be greater with the strong move that Light Sweet Crude has had over the past week. Below is chart of Light Sweet Crude, followed by charts of the OIH(oil service holder) and XLE(energy ETF).

Light Sweet Crude(click charts to enlarge)


OIH - Oil Service ETF


XLE - Energy Sector ETF


As the charts show, Crude Oil is making new highs, yet stocks in related sectors are struggling to attain new highs and have been trading with low volume. This does not mean that these companies shares won't catch up and make new highs on strong volume, it just means currently the commitment isn't there. This could change, but it could also mean that conventional thought is oil has gotten ahead of itself and is due for some profit taking. If this is the case, stocks should drift lower. Below is one stock which is making new highs with increased volume.

FTI - FMC Technologies


FMC Technologies, Inc. engages in the design, manufacture, and servicing of systems and products for the energy, food processing, and air transportation industries. It operates in four segments: Energy Production Systems, Energy Processing Systems, FoodTech, and Airport Systems. The Energy Production Systems segment designs and manufactures subsea production systems, surface production systems, and separation systems for companies involved in land and offshore exploration and production of crude oil and gas. The Energy Processing Systems segment designs, manufactures, and supplies high pressure valves and fittings for oilfield service customers, as well as manufactures and supplies liquid and gas measurement and transportation equipment, and systems to customers involved in the production, transportation, and processing of crude oil, natural gas, and petroleum-based refined products. This segment offers various products, such as fluid control, measurement solutions, loading, material handling, and blending and transfer systems. The FoodTech segment designs, manufactures, and services food processing and handling systems used primarily for fruit juice production, frozen food production, shelf-stable food production, and convenience food preparation. This segment offers citrus juice extractors and related citrus processing equipment, and aseptic juice and pulp systems; freezing systems; coating and cooking systems, portioners, and continuous batter-breading, frying and oven-cooking equipment; and commercial sterilization systems used for the production of shelf-stable and pasteurized packaged foods. The Airport Systems segment supplies passenger boarding bridges, cargo loaders, and other ground support products, as well as provides airport management services primarily for commercial airlines, air freight companies, and airport authorities. The company was founded in 2000 and is based in Houston, Texas.

Below is a chart of the S&P 500 Index with indicators showing the performance ratios of both the energy sector and the basic material sectors. This year both have been among the leadership groups pulling the market higher. This makes it very important to watch these groups and volume relationship of the leaders in each sector as new highs are approached.

S&P 500 Index with Energy and Basic Material Performance Ratios

Channels

The chart below is of the S&P 500 Index. The index has broken back above its 50 day moving average, but it is also approaching the bottom channel line from the previous short term trend. This will be an important area to watch. If the index can re-establish its previous channel, the market could continue to churn higher. However, most times after the market has broken down out of a previous channel, it will rally and "kiss" the bottom of the channel before going lower. The 50 and 200 day moving averages should act as areas of support if the market decides to test its lower levels. 1500.43 and 1476.76 and then 1453 should be important areas.

This week with the Federal Reserve announcing its decision on interest rates on Wednesday, the market should prove one way or another if it can re-establish its previous channel.

S&P 500 Index


Below the chart of the Nasdaq Composite shows that it is still in its channel. The high close is 2811. The market has traded above this number multiple times, but a new close above this number should gain some attention. It is important to watch the volume associated with any new highs.

Nasdaq Composite Index


Dow Jones Industrial Average

Measuring Risk Tolerance

One way to measure the fear or risk tolerance for lenders, is to compare the difference between the Fed Funds Rate and the 3 Month Libor Rate. Six months ago before the calamity in the sub-prime market came to a head, the difference in the two rates was 0.11%. This was the same difference 3 Months ago, 0.11%. However, a month ago the difference jumped to 0.45%. This increase showed just how great the uncertainty and fear lending institutions had. They are comfortable keeping what they have in order service the loans and holding requirements for loans they hold themselves. This change in the willingness to lend effected many of the "shadow" banking industry companies that do not have direct access to the Federal Reserve System. Today the difference in the two rates is still 0.23%, more than twice it was before the bright light of reality was shown on the many creative financial instruments created to manufacture greater and greater levels of financing. The difference has come down from its high, but it is still double what it was. Below is a speadsheet showing these rates. Look for the narrowing of this spread to gauge the built in concern and fear in the market. A widening of this spread, will mean that things are getting worse, and will foreshadow more rate cuts by the Fed.

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Will Buying The Dip Work Again?

S&P 500 Index


The next area of support looks to be the 1476.76 area. This will coincide with the area around the 200 day moving average. A group discussed earlier could hold some clues to if buying the dips is a method that is going to work again this time. The is group is a basket of multinational stocks that are benefiting from the lower dollar along with the strong global economic growth. Below is a chart comparing the performance of this basket and the S&P 500 Index going back to 2003. The multinationals have outperformed the overall market by almost 2:1 since the 2003 low.

S&P 500 Index vs Basket of Multinational Companies


Some of the comments made by Caterpillar during their earnings release Friday have shed some light on the potential problems with earnings growth. If sales in the United States slow too much and foreign sales can not make up for this slowing, more and more companies will use this as an excuse when they miss earnings or want to lower expectations. Below is a chart of Caterpillar which shows that it is at an important juncture, testing its 200day moving average for the third time. Is the third time the charm?

CAT - Caterpillar


The next chart compares this basket of multinational stocks with the U.S. Dollar index. It shows the steady decline of the dollar and the strong move of stocks benefiting from this event. It is important to watch the data of foreign investment in the United States. As the dollar goes lower, at some point it is going to lead to less investment or net selling of U.S. assets.

Dollar vs. Multinational U.S. Companies


This weakness will eventually carry over to technology stocks. They were the last group to get attention from the 2003 low. This does not mean that all stocks should be sold, it does however mean that there will be headwinds and any doubt or questionable comment during earnings could lead to strong selling.

NDX - NASDAQ 100 Index


With a 1000+ companies reporting earnings this week, one thing is certain - it won't be boring. Future posts this week will include spreadsheets with moneyflow changes in various sectors. This could help set up some ideas for what groups could gain some attention IF there is a rally closer to the end of the year. Currently though, the focus should be on preservation of capital and proceeding with caution.

Oil Stocks Vs. Crude Oil Trading Above $90

As crude oil continues to go higher and higher, the debate about the price of oil helping energy related stocks earnings is balanced out by the concern that the price of oil will stall global economies. One method to gauge the strength in individual oil companies is to analyze the relationship between their price and volume. One way to do this is to take the daily pivot and look for where this pivot is in relation to the entire trading range of the day. A pivot in the higher third of the day, would signify a positive day, since the stock did trade lower, but rallied to finish above its midpoint. The next step would be to compare volume.

One formula that seems to keep things simple and make sense is to take this pivot number( ((High + Low + Close)/3) ) and subtract the daily midpoint( (H+L)/2) ). Then multiply this number by the volume for the day. A positive day with a pivot above the midpoint, with strong volume, would have greater weight compared to a negative day with low volume. The next step would be to add a moving average to smooth the data.

The spreadsheet below shows a custom basket of oil stocks. The column market M1 is the value described above. The next column is the value of M1 five days prior. The column market DiffM1 is the change in M1 over the past week.



This is the same basket of stocks with data from October 18th.



There are two features to watch with the M1 indicator. The first is if the value is greater or lesser than zero. Finding stocks that are shifting from negative values to positive, usually are worth owning. The second feature is to watch for divergence in price and value of the indicator. If the price is making new highs, and the indicator is falling, it means it is time to have tighter stops. Below are some stocks from the first list above. The first three have strong DiffM1, while the second two have weaker values of DiffM1.

SNP - China Petro & Chem


HES - Hess Corp.


XOM - Exxon Mobil


VLO - Valero Energy


NOV - National Oilwell Varco


Telechart 2007 is probably the easiest software to set up scans to filter data. They offer a 30day free trial for their $29.99 monthly service. The software they office is free, the user only pays for the data feed. It is well worth the free trial. If anyone wants some of the scans and formulas I use, email me with the button just below the Fed Funds Rate poll on the upper right. I can email you formulas and they are easy to cut and paste.

Arch Chemicals Inc. -Triangle Patterns

Arch Chemicals Inc. - ARJ


ARJ - Arch Chemicals, Inc., a biocides company, provides chemistry-based solutions to control the growth of harmful microbes worldwide. The company operates through two segments, Treatment Products and Performance Products. The Treatment Products segment manufactures and sells water treatment chemicals; biocides and personal care specialty ingredients; and wood treatment and industrial coatings chemicals. Its water treatment chemicals include chlorine-based products, and non-chlorine-based products for sanitization and treatment of residential and commercial pool and spa water, drinking water, and water used in industrial applications. This segment also manufactures biocides that control dandruff, and the growth of fungi and algae; and biocides for anti-bacterial applications. In addition, it offers wood treatment chemicals to protect wood against rot, fungal decay, termites, insects, and retards the combustibility of wood. This segment also offers industrial coatings for the surface decoration and protection of wood, including stains, polyester- and polyurethane-based coatings, and water-based coatings. The Performance Products segment provides urethane intermediate products, such as specialty polyols, which are used as ingredients for elastomers, adhesives, coatings, sealants, and rigid foam; and glycols and glycol ethers for use as ingredients in cleaners, personal care products, and antifreeze. This segment also supplies hydrazine hydrates and hydrazine derivatives for use in chemical blowing agents, water treatment chemicals, agricultural products, pharmaceutical intermediates, and other chemical products. The company's customers include pool and spa retailers, consumer product companies, big box retailers, furniture manufacturers, chemical and equipment distributors, wood treaters, sawmills, other chemical manufacturers, and the U.S. Government. Arch Chemicals was founded in 1998 and is based in Norwalk, Connecticut.

Earnings November 2nd.

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CPB - Campbell Soup


CPB - Campbell Soup Company, together with its subsidiaries, manufactures and markets branded convenience food products worldwide. It operates in four segments: U.S. Soup, Sauces, and Beverages; Baking and Snacking; International Soup and Sauces; and Other. The U.S. Soup, Sauces, and Beverages segment offers condensed and ready-to-serve soups; broth and canned poultry; pasta sauce; Mexican sauce; chili; canned pasta, gravies, and beans; meal kits; juice and juice drinks; and tomato juice. The Baking and Snacking segment provides cookies, crackers, and bakery and frozen products in the United States; biscuits in Australia and the Asia Pacific; and salty snacks in Australia. The International Soup and Sauces segment offers soup, sauce, and beverages in Europe, Mexico, Latin America, and the Asia Pacific, as well as in Canada. The Other segment involves in Godiva Chocolatier business worldwide, as well as engages in the distribution of various products, such as soup, specialty entrees, beverage products, other prepared foods, and farm products through various food service channels in the United States and Canada. Campbell Soup Company markets its products directly, as well as through broker and distributor arrangements. Its customers include retail food chains, mass discounters, mass merchandisers, club stores, convenience stores, drug stores and other retail, and commercial and non-commercial establishments. The company also markets the Godiva Chocolatier's products through a network of company-owned retail boutiques; third-party retail boutique operators and third-party distributors; and through major retailers, including department stores and duty-free shops, as well as through catalogs and on the Internet. Campbell Soup Company was founded in 1869 and is headquartered in Camden, New Jersey.

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CPSL - China Precision Steel, Inc., a steel processing company, engages in the manufacture and sale of high precision cold-rolled steel products in China. The company produces and sells precision ultra-thin and high strength cold-rolled steel products with thicknesses ranging from 7.5 mm to 0.03 mm. It also provides heat treatment and cutting of medium and high carbon hot-rolled steel strips. The company's precision products are primarily used in the manufacture of automobile parts and components, plane friction discs, appliances, food packaging materials, saw blades, textile needles, microelectronics, packing, and containers. It sells its products in China, Nigeria, Thailand, Indonesia, and the Philippines. China Precision Steel was incorporated in 2002 and is headquartered in Sheung Wan, Hong Kong.

CPSL - China Precision Steel Inc.

The Land Of Misfit Trades

The idea of setting up a “super-conduit” to address problems with off-balance sheet units, such as structured investment vehicles and conduits, emerged three weeks ago, when the US Treasury summoned leading bankers to discuss ways of reviving the mortgage-backed securities market and tackling the threats posed by the vehicles. That situation posed wider concerns, as the SIVs and conduits are linked to some of the world’s largest banks and financial institutions. The issue was highlighted in August when it emerged that two German banks, IKB and Sachsen LB, had, in effect, imploded as a result of an inability to fund their SIVs.

Past experience at a proprietary trading firm sheds some light on to the downside of the creation of this type of vehicle. At this firm the two top traders had access to moving trades to an "error" account. Long before Enron, just after the market close, creative accounting on the fly would move some trades to this "error" account. The trades moved were at times errors. An error might be a trade that wasn't properly marked as a short sell, or if a trader oversold a position. The errors were few and far between. The majority of activity in these error accounts came from moving losing trades from firm accounts . This is really just the same as taking money out of your left pocket and putting into your right pocket, but it does serve a purpose. It makes it possible to show positive results in specific accounts, while hiding the truth to be dealt with at a later date. This was done to show an investor in the firm the success of the trading accounts on a day to day basis, and hoping that magic would occur and solve the deficit in these "error" accounts.

In the end, all things come out in the wash. Short term this might seem like a good idea for large banks to get together and pool assets to keep the commercial lending market liquid. It could lead to more bad lending which will just cause an even greater problem. It is also now going to add to uncertainty and confusion when evaluating the earnings of these institutions. Valuing these instruments now is very difficult. The idea of breaking them up and repackaging them seems like a nice idea, but it will lead to more and more creative accounting and earnings uncertainty.

Below is a weekly chart of the S&P Banking Index. It shows what looks like a heavy triangle that coincides with the uncertainty and weakness in the banking sector.

S&P Bank Index


The financial stocks make of a predominately large portion of the S&P 500 Index. Below is a chart of the S&P 500 showing the declining volume as the market has reached its July high.

S&P 500 Index


Another chart of the S&P 500 Index shows the advance decline moving average along with the percentage of stocks trading above their 40 day moving averages.



Three companies that could add some insight to when the mortgage market has bottomed are the mortgage insurance stocks. Below are three with brief descriptions and charts.

RDN - Radian Group


Radian Group, Inc., through its subsidiaries and affiliates, operates as a credit enhancement company that provides credit protection products and financial services to mortgage lenders and other financial institutions. It operates in three segments: Mortgage Insurance, Financial Guaranty, and Financial Services. The Mortgage Insurance segment provides credit-related insurance coverage principally through private mortgage insurance, and risk management services to mortgage lending institutions located in the United States and internationally. The Financial Guaranty Insurance segment insures and reinsures credit-based risks. It provides insurance of public finance obligations, structured finance obligations, financial solutions products, and reinsurance of domestic and international public finance obligations. The Financial Services segment specializes in credit-sensitive, residential mortgage assets and residential mortgage-backed securities, as well as in credit card and bankruptcy-plan consumer assets. The company's customers include mortgage originators, such as mortgage bankers, mortgage brokers, commercial banks, and savings institutions; and financial institutions. Radian Group was founded in 1977. It was formerly known as CMAC Investment Corporation and changed its name to Radian Group, Inc. in 1999. The company and is headquartered in Philadelphia, Pennsylvania.

PMI- PMI Group


The PMI Group, Inc., through its subsidiaries, provides credit enhancement products that promote homeownership. It operates in four segments: U.S. Mortgage Insurance Operations, International Operations, Financial Guaranty, and Other. The U.S. Mortgage Insurance Operations segment provides residential mortgage insurance and structured finance products to mortgage lenders, savings institutions, commercial banks, capital market participants, and investors in the United States. The International Operations segment offers mortgage insurance and credit enhancement products, including primary mortgage insurance, structured portfolio products, and reinsurance products to lending institutions, as well as for residential mortgage-backed securitizations in Australia, New Zealand, the European Union, and Hong Kong. The Financial Guaranty segment provides financial guaranty insurance for public finance and structured finance obligations; and offers credit enhancement solutions that enable municipal and asset-backed issuers to facilitate access to capital markets. It provides direct insurance to issuers and lenders, and reinsurance to financial guarantors. The Other segment engages in contract underwriting operations. The company was founded in 1972 and is headquartered in Walnut Creek, California.

MTG- Mgic Investment Corp.


MGIC Investment Corporation, through its subsidiary, provides private mortgage insurance to the home mortgage lending industry in the United States. The private mortgage insurance covers residential first mortgage loans and expands home ownership opportunities by enabling people to purchase homes. The private mortgage includes primary and pool mortgage insurances. Its primary insurance provides mortgage default protection on individual loans and covers unpaid loan principal, delinquent interest, and various expenses associated with the default and subsequent foreclosure, and generally apply to owner occupied, first mortgage loans on one-to-four family homes, including condominiums. The primary insurance may be written on a flow basis, in which loans are insured in individual, loan-by-loan transactions, or may be written on a bulk basis, in which each loan in a portfolio of loans is individually insured in a single and bulk transaction. The Pool insurance is used as an additional credit enhancement for certain secondary market mortgage transactions; and covers the loss on a defaulted mortgage loan that exceeds the claim payment under the primary coverage. The company also provides various mortgage services for the mortgage finance industry, such as contract underwriting, portfolio retention, and secondary marketing of mortgage-related assets. In addition, it provides Internet portal that enables mortgage originators to access products and services of wholesalers, investors, and vendors necessary to make a home mortgage loan, as well as provides hosting, design, and marketing solutions for mortgage originators and real estate agents. The company serves originators of residential mortgage loans, such as mortgage bankers, savings institutions, commercial banks, mortgage brokers, credit unions, and various lenders. MGIC Investment was founded in 1984 and is headquartered in Milwaukee, Wisconsin.

Great article on Citigroup's conference call.

S&P 500 Index and Crime

Below is an updated chart of the S&P 500. It looks like there was not a whole lot of interest above the 1571.44 target level. The market has been extremely strong given the news environment. With more and more companies reporting earnings over the next few weeks, this was a place to take profits. Also included below is a chart comparing the percentage of stocks trading above their 40 day moving average and a chart showing the divergence with the transportation index.

S&P 500 Index


S&P 500 Index w/% above 40day moving average


Dow Jones Transportation Index


The market seems to perform in a healthier fashion when the transportation index is above its 50day moving average(dark blue line).

Below are some companies that profit from the growing prison population. This might just not be a play on domestic prison growth, as some deal with countries all over the world. The Pew Charitable Trusts recently estimated that the U.S. prison population could grow at 13% per year. That is a staggering pace. The Pew report estimates that the growth in the prison population will produce a five-year cost to taxpayers of $27.5 billion.





CXW - Corrections Corp Of America


CXW - Corrections Corporation of America engages in the ownership and operation of privatized correctional and detention facilities in the United States. It owns, operates, and manages prisons, jails, and other correctional facilities, as well as provides inmate residential and prisoner transportation services for governmental agencies. The company's facilities offer various rehabilitation and educational programs, including basic education, religious services, life skills and employment training, and substance abuse treatment. It also provides healthcare services, including medical, dental, and psychiatric services; food services; and work and recreational programs. Corrections Corporation offers its services to federal, state, and local correctional and detention authorities. As of December 31, 2006, the company owned 43 correctional, detention, and juvenile facilities in 14 states and the District of Columbia, of which 3 were leased to third-party operators. It also managed 24 correctional and detention facilities owned by government agencies. The company was founded in 1983 and is based in Nashville, Tennessee.



CRN - Cornell Corrections Inc.


CRN - Cornell Companies, Inc. provides correction, detention, education, rehabilitation, and treatment services to adults and juveniles in federal, state, and government agencies in the United States. The company operates in three divisions: Adult Secure Institutions and Detention Centers; Juvenile Justice, Educational, and Treatment Programs; and Adult Community-Based Corrections and Treatment Programs. The Adult Secure Institutions and Detention Centers division offers security incarceration and detention; confinement of juveniles adjudicated as adults; facility design, construction, and operation; education courses; healthcare services; substance abuse counseling; life skills training; religious opportunities and culturally sensitive programs; food and laundry services; and recreational activities. The Juvenile Justice, Educational, and Treatment Programs division offers residential, detention, shelter care, and community-based services, as well as educational, rehabilitation, and treatment programs to juveniles between the ages of 10 and 17. The Adult Community-Based Corrections and Treatment Programs division provides community-based correction services, including temporary housing, employment assistance, anger management instruction, personal finance management training, academic opportunities, vocational training, and substance abuse or addiction counseling to parolees and probationers. This segment also offers community-based treatment services, such as short-term and long-term residential care, counseling, HIV services, DUI services, detoxification, and methadone maintenance. Cornell was founded in 1991 and is headquartered in Houston, Texas.


GEO - The Geo Group


GEO - The GEO Group, Inc. and its subsidiaries provide government-outsourced services in the management of correctional, detention, and mental health facilities in the United States, Australia, South Africa, the United Kingdom, and Canada. The company operates correctional and detention facilities, including maximum, medium, and minimum security prisons; immigration detention centers; minimum security detention centers; and mental health and residential treatment facilities. It offers correctional and detention management services, such as provision of security, administrative, rehabilitation, education, and health and food services, primarily at adult male correctional and detention facilities. The company's mental health and residential treatment services involve the delivery of care, programming, and active patient treatment, primarily at privatized state mental health. It also offers life skills and transition planning programs that provide inmates job search training and employment skills, anger management skills, health education, financial responsibility training, and parenting skills, as well as offer counseling, education, and treatment to inmates with alcohol and drug abuse problems. In addition, the company also develops new facilities based on contract awards, as well as provides consultation and management services relating to the design and construction of new correctional and detention facilities, and the redesign and renovation of older facilities. As of December 31, 2006, it operated approximately 62 correctional, detention, and mental health and residential treatment facilities, and had approximately 54,000 beds under management. The company was formerly known as Wackenhut Corrections Corporation and changed its name to The GEO Group, Inc. in 2003. The GEO Group, Inc. was founded in 1984 and is based in Boca Raton, Florida.

Some of our nation's most creative CEOs now reside in prisons. That thought sure makes us feel better about this kind of investing.

Wanted: Prime Suspect of Housing Market Murder

By Susan C. Walker, Elliott Wave International
October 8, 2007

Helen Mirren accepted her Emmy award for best actress in the mini-series, "Prime Suspect" with elegance and grace. Just the opposite of the tough detective superintendent character she plays who tracks down murder suspects in England. Who would Jane Tennison pick out as the prime suspect for the murder of the U.S. housing market and the resulting gruesome credit crunch?

Suspect No. 1 – Phil Spector
No – sorry, wrong case, wrong suspect. Spector has been on trial for the murder of a guest at his home (the judge declared a mistrial this week), but Spector has nothing to do with the subprime mortgage fallout and ensuing credit crunch. O.J. Simpson, who stands accused of trying to "recover" his sports memorabilia, is not the prime suspect either. If the crime doesn't fit, you must acquit.

Suspect No. 2 – Alan Greenspan
Says that he didn't catch on for a few years that subprime mortgages could create a problem for the economy. As chairman of the Federal Reserve, he let easy credit ride, which facilitated the housing bubble and the subsequent implosion. Could liken his behavior to supplying the gun to a rampaging murderer. Guilty of aiding and abetting, but he's not necessarily the prime suspect.

Suspect No. 3 – Angelo Mozilo
Angelo Mozilo, CEO of Countrywide Financial (largest mortgage company in the United States), says he kept his staff writing subprime mortgages day and night, because if they didn't, then home purchasers would just find someone else to give them a low-quality mortgage. Company went from writing 4.6% of its overall mortgages as subprimes and low-documentation loans in 2004 to 8.7% in 2006. Guilty of greed and a poor business plan but not murder.

Suspect No. 4 – S. & P. and Moody's
Oh, whoops, say these rating agencies, we thought that once you sliced up a BBB security thinly enough and packaged it with other more desirable collateralized debt obligations that we could call it AAA. Did we mislead anybody? Again, aiding and abetting but not a prime suspect.

Suspect No. 5 – Goldman Sachs and other investment banks
Says that their investors wanted higher returns and that collateralized debt obligations spiced up with subprime mortgages served the purpose. And besides, they say, the rating agencies gave them an excellent rating. Guilty of acting like a fence but not the prime murder suspect.

The True Prime Suspect
All of these are worth a look as suspects, but the true prime suspect has neither a first name nor a last. It's known as "social mood," and its m.o. is "herding behavior." That's our real murderer, the one that quashed the hopes and dreams of those who believed that house prices would always go up. Social mood changed, and with it changed the idea of what were smart financing moves to purchase a house. Suddenly, as house prices began to fall and subprime mortgagees began to default on their loans, the stick house built on low-quality mortgages seemed like a really bad idea.

Who knew? When social mood was positive, mortgage writers pushed people who couldn't really afford a mortgage into believing they could. Then they sold the mortgages to eager investment bankers who sliced them up into small packages of risk and re-packaged them with less risky securities. Then the ratings agencies gave their stamp of approval: AA? Why not AAA? And eager investors who wanted higher returns bought them up.

But now the game is up. When social mood turns from positive to negative, fear replaces greed, and people begin to see the riskiness for what it is. When social mood changes from positive to negative, markets turn from bullish to bearish. And no one can stop it – not even the Fed.

This is how Bob Prechter, president of Elliott Wave International, describes the phenomenon:

"Like credit inflation, credit deflation is in fact an intricate, interwoven process, whose initial impetus is a change in social mood from optimism toward pessimism. If you are still on the fence about this idea, ask yourself: What changed in the so-called “fundamentals” between June and August? The answer is: absolutely nothing. Interest rates did not budge; there were no indications of recession; there were no changes in bank lending policies; there were no chilling government edicts.

"The only thing that changed was people’s minds. One day sub-prime mortgages were a fine investment, and the next day they were toxic waste. There was no external cause of the change.… According to socionomic theory, the stock market is a sensitive indicator of such changes in mood. This is why The Elliott Wave Theorist has continually said that the financial structure will hold up as long as the stock market rises. A downturn occurred in mid-July, and its consequences in terms of negative social mood are becoming swiftly evident. Remember, C waves (see Elliott Wave Principle, Chapter 2) are when optimistic illusions finally disappear and fear takes over. Sounds like now." [Elliott Wave Theorist, September 2007]

How To Protect Yourself from the Prime Suspect Who is Still on the Loose

Social mood has turned ugly and is likely to continue its murderous rampage, leaving the policymakers helpless. As analysts Steve Hochberg and Pete Kendall write in The Elliott Wave Financial Forecast: "The Fed does not "inject" liquidity; it only offers it. If nobody wants it, the inflation game is over. The determinant of that matter is the market. When bull markets turn to bear, confidence turns to fear, and a fearful people do not lend or borrow at the same rates as confident ones. The ultimate drivers of inflation and deflation are human mental states that the Fed cannot manipulate."

What should you do to protect yourself in this time of falling home prices, a powerless Fed and a contracting economy? Bob Prechter wrote one of the best how-to books. It's his business best-seller, titled, Conquer the Crash, How To Survive and Prosper in a Deflationary Depression. You might want to start there.

Editor's Note: You can read a FREE 9-page chapter from Conquer the Crash –
You will learn the implications of the massive credit expansion, what triggers the change from boom times to recession, and more.

Susan C. Walker writes for Elliott Wave International, a market forecasting and technical analysis company. She has been an associate editor with Inc. magazine, a newspaper writer and editor, an investor relations executive and a speechwriter for the Federal Reserve Bank of Atlanta. Her columns also appear regularly on FoxNews.com.

Earnings Start With Lowered Expectations

It is the start of earnings season. With the market in rally mode after a half point rate cut and the correction in the jobs number, the market looks to get stronger and stronger. Below is an updated chart of the S&P 500 Index with the opening range levels marked in the red dashed lines. The top pane compares two sets of indicators which measure different time frames of money-flows. The market is in bullish mode when the indicators are above zero and the blue histogram bars are greater than the red line. The next new target is 1571.44.

S&P 500 Index


NDX Nasdaq 100 Index


The potential target for the NDX-Nasdaq 100 Index is the 2218 area. The money-flow comparing pivots and volume show pretty good strength. With earnings estimates being lowered, it should be interesting to see the reaction when companies miss or beat their earnings estimates. Will their growth rates maintain or will people just be happy that they beat or match want analysts project?

Below is the VIX index which shows some of the fear has left the market. This could be a bad thing!

VIX CBOE Volatility Index


Below is something to think about when comparing stocks with the lowered earnings expectations over the next few weeks. Avoid pigs with lipstick.

Lowered Expectations

The New Quarter S&P 500 Index

The chart below shows the S&P 500 and levels based from the opening range from back in January. This chart is meant to be a map of potential target levels and support. The sell off in August seems like such a distant memory as the market approaches new highs again. Applying this opening range technique can be applied to just about any time frame. The longer term chart below shows the entire year to date, while the second chart focuses on ranges established by the start of the third quarter.

S&P 500 Index Full Year Levels(click to enlarge)


S&P 500 Index 3rd Quarter Levels(click to enlarge)


Nasdaq 100 Index


The opening range established by the start of the 4th quarter could provide a great pivot point to base trades from for the rest of the year. As bullish as things seem with the Fed cutting rates, it is important to remember there are reasons that they are cutting rates. These reasons are real and there is a cost to cutting interest rates. The market is focusing on the positives for equities currently, but this bipolar marker will again focus on the risks, and this is where these range levels can provide support and stop areas to prevent large losses.

The next post will deal with combining these levels with volume and where the actual daily prices closes to determine hidden market strength and weakness.