Funds that invest in emerging markets in general have not held up as well as the Latin America region. The iShares Emerging Market ETF (EEM) fund topped out in October 2007, with the rest of the market and has not recovered yet.

The iShares Emerging Market ETF has Brazil stocks as it's largest country holding, but China and Korea follow as the largest representatives in the portfolio. The charts below show that China and South Korea have sold off in sympathy with the US markets.

Leading the way down with a 22% decline is the Natural Gas ETF

The Coal ETF which invests in coal mining stocks has seen better days:

Finally the steel ETF peaked in mid-May and has seen steady selling since that time.

However with the persistent selling in the market over the past few weeks, the failure of a high profile bank, and the solvency concerns surrounding Fannie Mae and Freddie Mac, I think we have entered the concerned phase. I am being asked by more friends and colleagues about the market and what they should do with their investments. The financial media officially declared we are in a bear market last week with the Dow Jones off 20%+ from its peak. The market now has investors attention.

I think the third phase is yet to come as the major indices are breaking major support levels. As I have pointed out in previous articles breaking of major support levels tends to trigger more institutional selling. 

A decisive close below the January and March 2008 lows will signal a fresh round of new selling. There are two key takeaways from this chart: the rally off the March lows has been erased and the volume for the last six weeks (all down) has been higher than the volume on the rally. This is a sign of professional institutional selling. What do I mean by institutional selling? I define institutions as the players who trade in large blocks and have the ability to move stocks up or down.

Take a look at the chart of the mortage lender Freddie Mac, down 23% today.

The stock has traded 200 million shares this week, way above average volume. A sign that institutions believe worse is to come and that they just want out of the stock.

The average american does not invest in commodities via futures contracts and is consequently not familiar with the inner workings of the futures exchanges. The New York Mercantile Exchange, Chicago Mercantile Exchange, and Chicago Board of Trade are not exactly household names. Senator Charles Schumer addresses this issue in a recent WSJ Article:

"Futures markets aren't some shadowy dangerous force, but are essentially a price discovery mechanism. They allow commodity producers and consumers to lock in the future price of goods, helping to hedge against future price movements. In the case of oil prices, they are a bet about supply and demand and the future rate of inflation. Democrats nonetheless now argue that these futures markets are generating the wrong prices for oil and other commodities...

And who are these "speculators" driving up prices? The futures market operator Intercontinental Exchange says that an increasing share of its customers are not financial houses but commercial firms that need to manage oil-price risks – refiners, airlines, and other major energy consumers. Another term for these "speculators" would be "American business.".

Southwest Airlines is one example of an American business that "speculates" in the energy futures market. Southwest buys jet fuel (derived from crude oil) at todays prices for delivery at some time in the future. Southwest does this to reduce the risk of rising fuel prices to it business. This process is known as hedging. This quote from an article about Southwest and its hedging program shows just how extensively it hedges in he futures market:

"The airline, one of the largest at Los Angeles International Airport, locked in more than 70% of the fuel it expected to consume this year at about $51 a barrel, far below Thursday's closing crude price of $126.62 a barrel. With the huge cost advantage, Southwest hasn't had to hike air fares or like other carriers impose new fees, including last week's decision by AMR Corp.'s American Airlines to charge domestic fliers $15 for checking a single suitcase and to increase other fees."

If Southwest did not hedge in the futures market they would have to pass higher fuel prices on to consumers.

The futures market in oil is working exactly as it was intended to: provide a free and open marketplace where buyers and sellers ultimately determines the fair market price. The high price of oil is telling is that we must ration this scarce resource, find cheaper alternative sources or pay higher prices. If only people would just listen to the market instead of shooting the messenger.

Industries that depend heavily on oil and gas have been hit especially hard. Fidelity Select Automotive and Fidelity Select Air Transport have been made new multi-year price lows, and are down 18% and 29% respectively year-to-date.

The second major factor impacting this market is the cratering of most stocks that are financial or mortgage related. Unfortunately for this market the financial sector ETF (XLF) has hit a new closing low. This new closing low fits the bearish scenario I presented in my entry "Has the Stock Market Bottomed?". Because financial stocks represent about 20% of the S&P 500, they are a drag on the broad market indexes.

As of today, June 11th, XLF has made a new closing low although not an all-time low.

Why is XLF making a new closing low? In the past few weeks a large number of financials companies including Wachovia, Washington Mutual, and Lehman Brothers have announced  larger than expected losses. And they have been punished by the market as the charts below show.

The rest of the market has not fared too badly (yet). We need to watch the rest of the market very closely. If XLF closes below the 22 level made in March of this year, and more importantly stays there, it may drag the rest of the market with it. 

There a several things to note from the chart:

1. There is a significant amount of buying interest (demand) at the $24 price level
2. When XLF fell below $24 the week of March 17th (red arrow), there was enormous buying interest:
1. XLF began the week at $22.11 which was also the low for the week
2. XLF finished the week at $26.32, a 19% increase from the open of $22.11
   
3.  As long as the $24 and $22 levels hold, XLF and the market will probably go up from here
1. The area between $24 and $22 are objective price (demand) levels created by the market; if prices fall below these levels then demand has dried up
2. If demand dries up, means price must move lower to attract new demand
   

The chart far right shows the growth Of $10,00 through Feb. 2008.
 

"The Standard & Poor's 500-stock index, the basis for about half of the $1 trillion invested in U.S. index funds, finished at 1352.99 on Tuesday (March 25, 2008), below the 1362.80 it hit in April 1999. When dividends and inflation are factored into returns, the S&P 500 has risen an average of just 1.3% a year over the past 10 years, well below the historical norm, according to Morningstar Inc."

Some might quibble and say that nine years is not a long term period of time. They neglect research that shows that most investors only save for retirement for about 20 years. Given this fact, the nine year return is fully half the 20 year retirement savings period. An investor who started saving nine years ago and is planning to retire in eleven years will not be able to meet their retirment obligations.

The point of this post is not to suggest that stocks are not a good investment, but to point out the fallacy of simply buying and holding and hoping the market will come back. There are times to be in the market and there are times to be on the sidelines in cash.