Rally still has legs after GDP tops forecast

Kevin Pendley | Oct 30, 2008 10:18am EDT | Comment

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Small-cap stocks stormed out of the gate with a flourish this morning, as buyers were enamored with yet another rally in overseas markets and happy that a sobering GDP report in the United States wasn’t even worse. At 9:51 a.m. ET, the Russell 2000 (NYSE:IWM) was up 16.79, or 3.42% at 507.67.

The GDP report this morning came in at minus 0.3%, which marked the steepest contraction in seven years and is consistent with recession-style growth readings. Despite that gloomy picture of the economy, it wasn’t as bad as feared, with the forecast pointing for a dip of 0.5% in economic activity. While GDP was on center stage this morning, the weekly claims figures also came out and were slightly above the forecast, coming in at 479,000 versus expectations for 475,000.

“Economic activity contracted mildly in Q3 with large gains in net exports, inventory investment, and government spending being more than offset by significant weakness in consumer spending, residential investment, and business investment,” Steven Wood, chief economist with Insight Economics, said in an email. “Economic activity was also dampened in September by Hurricanes Gustav and Ike and by the strike at Boeing. However, the full effect of the credit crunch has yet to be felt. While the economy slipped in Q3 it will fall much more sharply in Q4. Our early estimate for Q4 is a decline of 3.5%,” Wood said.

Consumer spending tumbled 3.1% in the third quarter, marking the first decline in 17 years, and the economy has been struggling even more since then, which is a scary proposition heading into the holiday buying season when the U.S. economy is driven heavily by consumer spending.

One has to wonder if some of the strength today also was tied to correcting back some of the late slide from Wednesday’s close, when a story about General Electric’s CEO talking about maintaining profits even if revenues fall 10% to 15% in 2009 appeared to be taken out of context and sparked a panic program trading sell-off in the Dow that also sliced away gains in small caps. There was talk of trading errors in stock index futures as well playing into the slide, but with today’s rise, the general feeling is that the sudden late pullback Wednesday was clearly overdone.

The energy sector should be a focal point today following Exxon Mobil Corp.’s (NYSE:XOM) quarterly earnings figure, which topped the forecast as the company reported record earnings of more than $14 billion. Royal Dutch Shell also beat the forecast and made some $8 billion in profits; also Apache Corp. (NYSE:APA) and Marathon Oil Corp. (NYSE:MRO) reported results today. Crude oil futures trimmed overnight gains and were hovering near steady levels on the stock market opening. Commodities in general stand to benefit for the second consecutive session by a dip in the U.S. dollar, which was down about 0.5% versus the euro.

Stock markets around the world were in rally mode overnight, with the world stock index up 2.5%, powered by steep gains in some Asian markets and also in emerging markets following news that the International Monetary Fund has approved a short-term financing facility for emerging market economies. Hong Kong shot up some 10% and Taiwan was up 6%, as those countries announced rate cuts following the Fed’s rate cut Thursday. Norway also joined in on the rate cut fervor as countries around the world toss cheap money at businesses in a drive to thaw frozen credit lines.

Individual small caps of note this morning included FreightCar America Inc. (Nasdaq:RAIL), which was up 27% after solid earnings news. LHC Group (Nasdaq:LHCG) jumped 29% as the home nursing services provider reported a quarterly increase in revenue of about 27% from the comparable quarter last year. Brush Engineered Materials Inc. (NYSE:BW) also got an earnings lift this morning, climbing 13%.

The chart picture for the Russell 2000 holds short-term promise, but still needs to extend this week’s recovery rally through Friday’s session to help turn the structure on weekly studies. Persistent action today above the key figure line at 500 would be an important show of strength. Above 500, there is minor resistance at Wednesday’s high of 509, but a better test is up at 514.50, then at 525. If the market starts to falter as the day progresses, look for support at 484, then down at 474.