Snap! What was that?
That was the jaws of the bear trap snapping shut on traders who ventured back into the market on Friday morning. Yes boys and girls, the rally failed and failed miserably. We gapped down to 10721 and then immediately rebounded to 10818 for almost a full 100 point spike on strong volume. This was just the first 45-min and analysts were grinning broadly. The next 45-min brought about an even bigger decline to 10706 for a -112 drop. In just the first 90 minutes we had a -73 point drop, +97 point gain and then a -112 drop. Are we having fun yet? If you were riding the advance/decline line you would need a parachute!
The Dow appears trapped in a trading range between 10800 and 10650 and with my current negative market outlook I can't see it breaking out on the upside. The Nasdaq held 2550 on Friday but it is very unstable and could drop again in a heartbeat.
The biggest problem is still the interest rate scenario. It is a given that the Fed will raise rates on Aug-24th but now the market is worried about the next meeting as well. The non-farm payrolls came in much stronger than expected with +310,000 new jobs and an upward revision for June of +40,000. The unemployment rate stayed level at 4.3% but the hourly earnings rose +.5%, the largest in 18 months. Manufacturing picked up +31,000 jobs for the biggest increase in 12 months. Although the reported unemployment rate was only 4.3% the real rate for skilled workers is now hovering at about 3%. This worker shortfall is causing havoc in the labor markets. Signing bonuses are raising the costs of goods and services but the real impact will not be felt until the end of summer and return to school by the high school/college work force. We could then see a serious drop and serious implications.
Everything about the report was inflationary and it does not take a genius to imagine Greenspan chalking up the reasons for a rate hike. It is ironic that the man that has done more for the economy than anyone in the last ten year could be shooting himself in the foot with another rate hike now. His term is expiring and election year politics could keep him from getting renominated by the president if the market tanks after another rate hike.
The bond yields soared on Friday to 6.18% and home mortgages are now solidly above 8%. The slowdown in housing should begin soon but not soon enough for the Fed. The economic reports out next week will only be icing on the inflation cake with the PPI and retail sales taking center stage.
The dog days of August are definitely upon us and many retail investors are feeling like hamburgers on the grill. With the recent drop in the Internet sector many online brokers were increasing margin requirements on Internet stocks to as much as 100%. Many brokers reported margin calls were up from 75% to 100% over normal. This margin call induced selling was just another reason for continued market weakness.
The "no reason to buy now" mentality has taken hold across the board. Advance/declines completed 15 straight down days on Friday with decliners soundly beating advancers 2:1 on the NYSE and 5:4 on the Nasdaq. New lows also are increasing their lead over new highs with 211 new lows against 37 new highs. As if to further pound another nail into the bulls coffin the transportation index has rolled over and appears to be accelerating downward.
Dow theory suggests that the transportation index must confirm any Dow move and it just confirmed to the down side. Do you see the drop last Aug/Sep/Oct to confirm the Dow crash?
The rebounding brokerage and Internet sectors on Thursday got hammered again on Friday as investors sold into the rallies and took profits ahead of the weekend. The Internets appeared to only give back about half of their Thursday gains but most finished at their lows for the day.
I would like to be positive and think that maybe the sell off Friday afternoon was just profit taking from the big Thursday rebound. I would also like to think that Monday will be positive as this money comes back into the markets but I can't believe that the outlook has changed. The Fed will meet and raise rates. That is already priced into the markets. The PPI will be a non- event unless it is a disaster. BUT I really think we are locked into a trading range between 10800 and 10650 and if we breakout it will be to the down side. I would still recommend extreme caution if you are a call player. I would only play calls on a bounce off 10650 and I would sell them and switch to puts on a bounce off 10800. Be highly skeptical of any strong morning moves upward of +100 points or more. Use them as signals to buy puts or sell calls.
Most of our readers did very well with the June/July rally and from the emails we are receiving there are many of you doing really well on the put side during the last three weeks. The number one thing I wish I could get across this week is YOU DO NOT HAVE TO TRADE ALL THE TIME. If you do not like to play puts then SIT OUT when the market is weak. There is no reason to waste money trying to force call plays. If you only invest when the market is on your side you will do much better. Remember you have to make a 100% profit to make up for a 50% loss. The talking heads on CNBC keep talking about fear in the market (or lack of it). I don't want our readers to be in this fear group. We should be sitting on the sidelines and waiting for our chance to score. Let the linemen fight it out. Like the receiver on the sidelines sucking oxygen we need to be on the sidelines planning our next play. When the quarterback calls our play we want to be ready to go long with a full bank account. If you are too beat up from fighting the market on a daily basis you will not be able to see the good plays coming or have enough reserves to take advantage when it does come.
The next rally point in our play book is the week before Labor Day. The week after Labor day is normally an up week so we want to be able to take advantage of any buying opportunities the week before. We could get a bounce after the Fed meeting but don't count on it.
Good Luck, Definitely sell too soon.