The Consumer Hangs in there/Derivative Traders are betting that the Credit Crunch will worsen

Well we got more benign data this morning on the health of the economy and the consumer. Stocks breathed a sigh of relief and bounced as the ISM data showed that the economic growth has slowed, but still barely remains positive.

Minus any Lehman news, expect a little relief rally today as the data released this morning showed that housing to date hasn't forced the economy into a free fall.

Here is economic data from Bloomberg:

"June 4 (Bloomberg) -- U.S. service industries expanded at a faster pace than forecast in May, signaling the economy is weathering the effects of the housing slump and record gasoline prices.

The Institute for Supply Management's index of non- manufacturing businesses, which make up almost 90 percent of the economy, decreased to 51.7 from 52 in April, the Tempe, Arizona- based ISM said. A reading of 50 is the dividing line between growth and contraction.

The report, combined with the group's manufacturing survey earlier this week, indicates``This report is consistent with very sluggish overall growth, but not anything resembling a free fall,'' said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc., a New York forecasting firm. `The economy will basically bumble along for the foreseeable future, growing by little, but also avoiding collapse.'' the worst real estate slump in a quarter century hasn't caused the economy to weaken further."

Quick take:

There is no reason for the markets to rally on such sluggish data, but as we all know, the markets are acting irrational right now. Our economy is basically at a zero growth rate. Why would you rationally take stocks higher without any economic growth?

The risks for contraction remain

Credit availability is tightening, HELOC's are disappearing, and housing values continue to drop. This housing crisis will take years to work through, and to say that we have weathered this housing storm is surely premature.

The last couple of red days and the Lehman panic tell you that investors are not confident that the credit crunch is over. Apparently, the derivative traders agree.


Derivative Traders bet the Credit Crisis will worsen

I thouhgt this was an interesting article from Bloomberg on how derivative traders are betting on the credit crunch.

"June 4 (Bloomberg) -- Interest-rate derivatives traders are betting banks' difficulties obtaining cash to fund holdings and shore up balance sheets will worsen.

The difference, or spread, between the three-month dollar London interbank offered rate and the overnight index swap rate on contracts beginning in three months and trading now in the forwards market is greater than spreads on those starting this month, according to data tracked by Credit Suisse Holdings Inc.

``The movement in the forward Libor-OIS spreads is telling you that the market is concerned that things can get even worse before they get better,'' said Carl Lantz, an interest-rate strategist in New York at Credit Suisse, one of the 20 primary dealers of U.S. government securities that trade with the Federal Reserve. ``Until all banks' balance sheets are cleaned up and they've re-capitalized, there is going to be funding pressure.''

My take:

The traders know that there are still many skeletons in the bank closets that have yet to be revealed. Billions of losses in housing have continued to be hidden by the financials, and until these are revealed, the financials cannot begin to heal.

Bottom Line:

Wall St. is getting up off the floor and buying today after having a Lehman heart attack yesterday. There was nothing bullish in any of the data today in my opinion. What I see is a slowing, sluggish economy that is slowly sinking into a recession.

Expect this relief rally to be short lived.