So Much News, So Little Time
Anybody looking for followthrough on yesterday's short covering rally was sorely disappointed. Count me among them. Was it the news, or are people just plain wrung out from last week's attack in an already souring economy? Ummm. . .yes. Follow along as we dive in.
First, foreign markets did not respond to our rally off yesterday's lows. Japan's Nikkei 225 was down 154 to 9785 with the Hang Seng down 240 to 9317. Europe fared no better with Britain's FTSE down 164 to 4556, its lowest close in four years.
That was shortly followed up with this morning by the pre-market release of new home starts, which showed a decline of 6.9%. Adding insult to injury, the decline was made prior to the murderous attack on the U.S. We can be certain the incident did not send people rushing to build new homes, which sets the stage for a major decline in coming months. Publicly traded homebuilders were a poor performing lot giving up nearly 28% of value in the last eight trading days. Is real estate still propping up the consumer? I doubt it, and would hate to back in that business right now.
Dow Jones U.S. Homebuilders chart (DJUSHB):
Support? Maybe mildly so at 175, but 125 is more likely if the markets decide to test the 1998 lows. This index was not even invented then.
OK, here is one more ditty about analysts that just don't get it. Anybody notice that JDSU (you remember it - has been momentum stock, $5.72, $50 bln writedown of good will - yep, that's the one) got an upgrade today? That isn't really the amazing part. CSFB, who raised it to BUY from HOLD cited a high risk/reward ratio. So too is buying tulips should they catch on first thing tomorrow. CSFB figures the downside at $3.80 based on semiconductor levels in 1991-1992, "just 30% below current levels"!!! If an analyst (and I use the word loosely in the same manner I would call Attila The Hun a real estate developer) says that GE is a BUY, not a HOLD, because it only has 30% to fall until it hits bottom, what would you think of their integrity, let alone the value of the information? Never mind that value is based on earnings capacity. From where does CSCF think that earnings will spring? That kind of advice creates a stench a mile away.
Following up, this next one gets the self-inflicted black eye award. It belongs to none other than Disney (DIS). Not widely reported but true according to the news is that DIS sold $1 bln worth of its corporate bonds to Goldman Sachs so that it had more cash to purchase shares in a buyback program. With over $2 bln in cash on hand, what does that say about the state of their stock price? Overvalued? Or did they know Sid Bass was going to cough up 135 mln shares in a margin call and wanted to defend the price? No matter how you slice it, Mickey is going to have to sell many pairs of ears to cover that debt service - a particularly difficult task for a highly visible tourist attraction following the attacks in NYC and Washington DC. Business does not look good for them now and using cash to buy shares is nothing more than a smoke and mirror trick to support an undeserved price. Current P/E is 92.
Personally, I am taking a dimmer view of stock repurchases on almost every company right now. I don't consider it good news in this environment because it weakens the cash position that most companies will need to weather the economic storm. Profits will be slimmer in coming quarters, and wasting cash to prop up stock is a veiled attempt to hoodwink investors into thinking that companies perceive their stocks as great values. Buybacks are a great use of capital when their stock is cheap based on earnings. But where is the benefit if stocks are expensive based on earnings? P/E's are high and about to get higher due to shrinking E. How will investors value those stocks then? Much less I'd bet.
Back to economics. The Philly Fed failed to spark any bullishness even as it reported a number a full 16 points higher than last month (-7.3 compared to -23.5 last month). Why? It is still negative indicating that the manufacturing slowdown still has a tightening grip on the economy.
As noted in the first paragraph, those looking for a rebound have been disappointed by this week's action, including us. But there is simply no catalyst to push equities up. Earnings are soon to come in and warnings will precede them. Witness GE already lowering by $0.04 for insurance payouts for last week's terror. That is just the tip of the iceberg. There will be plenty more. On the other hand, there is major pain and fear in the markets right now, which almost always presages a reversal even if only temporary into the next failed rally. So what do the charts say?
Dow Industrials chart (INDU):
The Dow has covered roughly 2000 points to the downside in the last five trading weeks, 1700 of them in the last seven days. When will the selling stop? Who knows? But retracement levels have held true since June, which tells us that 8150-8200 is the next likely stop. Wait it gets worse. On the weekly chart spanning back to 1998, the INDU is in no man's land. The next level of support on a weekly basis is roughly 7600. While fear is high, there is no panic, which suggest we can go lower despite the incredibly oversold condition.
Nonetheless, the days of pain are numbered and getting shorter with a bounce sure to come at any time. Similarly, there is no limit to what constitutes a bottom until that moment. The magnitude of the daily moves has been so great as to render nearly useless the 60/30 charts. Hindsight will one day show us how profitably we could have traded. But the signals to entry have been obliterated making any long call or put play extremely dangerous in the heat of market battle.
NASDAQ-100 chart (NDX):
"Daddy, are we there yet?" I respond, "Honey, when I was your age, we never got there and we were grateful". . .that is unless I made a long term bet on puts! Honestly, every market pundit calling a bottom at the beginning of every failed rally will become a running joke. But for now, it is no joke, as the NDX is taking on the values of the SPX in the not so distant past. 1166 is the lowest close on the NDX since June 1998. There is no support between here and the October 1997 levels at 950. While there is no guaranty that NDX gets there this time, it is the target on the next failed rally. Resistance is currently at 1200, just 42 points away. Following a common theme, the only bullish part of the chart is that every time frame is oversold and begging for a bounce. Of course, that has been the mantra for the last four weeks and has been wrong. We may not be there yet, but if not we are darn close to a near-term destination.
S&P 500 chart (SPX):
The SPX is no better off. We don't include the daily or weekly charts tonight because they look so much like the others. Instead, check out this monthly retracement bracket on the SPX going back to 1990, which was brought to my attention by LEAPS Editor Mark Phillips of our sister site, OptionInvestor.com. Note the support at the 38% retracement level that ultimately failed. Now note where the 50% retracement lies. 900-950 range, which also happens to be support from 1998. Under the economic conditions, it's possible to see something under 800 at the 62% level, but not likely on this cycle down. From the other charts we can see the stochastics deep in oversold on all time frames just begging to be set free in a relief rally, which could arrive at any time.
Uncertainty is beyond the door, and certainty is the key to unlocking it. The longer the political and international situation lingers, the more nervous investors become in the absence of any action. That might help explain why the VIX spiked up today to 49 by the close. Fear of the unknown is big right now, but has always been met with relief. What that event will be to set relief in motion is unknown. But it will happen. Just as we cannot cheer for our team indefinitely at a sporting event (pretty soon scoring becomes mundane), we cannot remain emotionally charged in the negative direction either. We become tired and that negative emotion too dissipates with time.
As we noted in Tuesday's wrap, "A sinking VIX and a simultaneously sinking market usually means look out below. We will rue the day as bulls, should fear actually reassert itself to a greater degree than it already has over the past two weeks." That day was today. Fortunately, it gets us closer to the next failed rally and ready for another round of profitable put plays.
As for tomorrow, with the VIX so high, vega and theta (volatility and time) will decay options like a carnival balloon. As noted all week, we would not be buyers of premium without a corresponding sale to balance it out unless you possess excellent day-trading skill. Even then it is tough to earn a buck.
Take heart, this too shall pass. The VIX will fall, prices will rally, and stochastics will emerge from oversold. These events seem so improbable at the darkest hour, but rest assured the sun will rise again and so will markets. As we noted last night, sometime the best decision is to do nothing.
See you at the bell.