A day late and a dollar short?
After five positive days in a row and over 500 points later, profit taking finally reins in the recent bull charge. The Dow industrials came within 1% of reaching their old high with yesterday's close of 11,117. This morning the markets opened slightly lower and the Dow promptly fell to a trading range between 11060 and 11015 for most of the day. Many of the veteran traders were not surprised to see some selling. Market pundits argue that there really isn't any major news or events to sustain an upward bias between now and the FOMC meeting next Tuesday.
The buzz word today was the dollar. While many investors fail to see the relationship between the currency markets and the stock market, others saw it as merely an excuse to cash in on the recent run up. Whatever the case, investors should be aware of how other markets affect our own field of choice. Here is what happened: Last night the U.S. dollar fell strongly against the Japanese yen bringing it to a six month low. This in turn ignited a move in foreign investors to get out of our bond market. This sudden selling of bonds pushed the yield higher to 6.04%. For those of us who have been around awhile, we know that a yield above 6% tends to pull buyers from the stock market and into the bond market. Still a little confused?
We don't have time for a term paper on the relationships between equity/bond/currency markets and how foreign/domestic investors react to both; so we'll keep it brief. As our dollar slips weaker against the yen, it makes U.S. securities look less attractive than securities in other (foreign) markets. Foreign investors may then decide to pull their capital from the U.S. bond market and purchase securities else where like Japan. A sudden sell off in the bond market off will raise yields pulling investors from our equities markets into our bond markets to take advantage of the "safe" returns. In addition to the foreign investor move out of our bond market and domestic investors out of our equity market and into the bond market (are we getting dizzy yet), those same foreign investors may decide to sell their U.S. stock portfolios to re-invest them abroad or back home (in this case, Japan). The Japanese own a very large amount of U.S. bonds (close to 30%) and a large amount of our stock market (around 10%). Any broad based selling by Japanese investors could provoke a significant sell off with the rest of the investing public in our domestic markets...ad nauseam.
However, there are both good and bad effects of the dollar falling against the yen. A higher yen actually hurts most of Japan's larger exporters making their prices more expensive overseas while in turn making our U.S. exports more competitive and increasing exports and reducing the trade deficit. Now I'm sure that some of our more learned readers who have doctorates in economics may feel that I've butchered the above example of why the falling dollar affects the stock market; but as I said, this was supposed to be brief.
To recap what happened today, the initial move against the dollar via the yen spiked the 30 year bond up to 6.04% before regaining its composure and actually closing the day with a yield just under the important 6% level to close at 5.996%. This is a good sign. However, the dollar continues to look weak and may continue to be some influence on where investors, both foreign and domestic, place their money. Enough said...back to stocks.
The Nasdaq, who has also enjoyed quite a run these last few days, actually held up pretty well. Considering that the tech laden index gained over 200 points from its August 10th low (or the equivalent of about 1000 Dow points), the fact that it was positive most of the day and only closed down 13 points is amazing. A lot of it may be contributed the Internet blue chips and Dell who alone accounted for about 96 mln shares traded today.
Internet stocks supporting the Nasdaq? Yes, with the blessing from one of the Internet sector's most visible heroes, Henry Blodget continued to fan the flames for this volatile sector. CNBC called it a "Christmas in August" for Internet stocks. Henry, an analyst for Merrill Lynch, made some very bullish statements and raised his ratings on eight stocks which he anointed as his "holiday basket". Henry marked YHOO, AMZN, AOL, BNBN, ETYS, ATHM, INKT, and LCOS as the biggest winners in what he expects to see as a remarkable increase in online shopping for the coming holiday season. His basic focus was on the largest most recognized Internet names whom he expects to draw the most consumers as more and more shoppers go online. His chosen eight all closed positive on the session although all of them were significantly off their intraday highs.
Not everything is jolly in tech land. Investors in Applied Materials (AMAT) punished the stock despite an 8 cent blowout over earnings estimates after the company announced that new orders showed much slower growth in the coming quarters. Bad news was not new to the semiconductors. Yesterday, Micron (MU) released news that they would cut DRAM (chip) spot prices due to weaker demand overseas. AMAT finished down 6.69 while most of the semi's closed negative as well. MU, strangely enough, finished positive on the session.
Another weak sector for the markets today were the online brokers. Investors are concerned that E*Trade may be setting the stage for a price war over commissions. Great news for us as traders, bad news for investors in the brokerage camps. E*Trade announced that they would offer stock trades for $4.95 a trade for those that qualify as an active trader. We wanted to know what an active trader was plus we thought $4.95 sounded pretty good so we gave E*trade a call. Unfortunately, option trades do not qualify for the discount. They are still charging $29.95 an option trade for the first five contracts and $1.75 a contract after that. However, for those E*trade users out there, your option trades do qualify toward the 75 trades a quarter that keep you in their active trader status. You may have also noticed that E*trade and Datek are moving to after hours trading for their customers. It appears the fight for your commissions has just jumped to the next level. Analysts are already worried that trading volume is falling off and a price war will be a heavy weight for most of the stocks to carry.
So what does the battlefield look like tomorrow and the rest of the week? Tomorrow will see the weekly initial jobless claims come out about 8:30 am ET. Current estimates are near 290K. As long as the number comes in near expectations it will most likely be a non-event. For most of the market, the focus will be on the FOMC meeting next Tuesday, August 24th. Confusion appears to be growing as to what the Fed may actually do even though most traders expect the Fed to raise rates by 1/4 point next week. Debate continues over whether the Fed will move from their current "neutral" bias straight to a rate hike. Some see that as quite a jump since normally the Fed moves in stages with a move in their bias first to tighten and then to a hike. On the other hand, analysts are saying that if the Fed does not tighten then the investing public may lost faith in the Fed after this giant increase in expectation of a hike. Further more, the question remains as to what the Fed will leave their bias at after the meeting next Tuesday. Arguments that the recent economic data has derailed any second rate hike for the October 5th meeting are growing. How Greenspan chooses to use this opportunity for a rate hike and the Fed's bias while under the shadow of Y2K will certainly be interesting.
The charts on the major indices do not present a very confident picture. Since there are only 3.5 trading days left before the FOMC meeting next week, most of the major markets could be stuck in a trading range while investors sit on the sidelines ahead of the Fed chairman's appearance. On the other hand, technicals for the market have not been strong internally and we may be due for a couple more days of profit taking. The Dow has hit resistance at 11100 and closed near the low of the day. The Nasdaq made a steady climb but stopped short at the 30 dma yesterday. The same proved true today, but its 50 dma may prove to be support. Look at the OEX. This index has also climbed up to its 30 dma and rolled over while managing to hold support at its 50 dma. The SPX (S&P 500) looks even worse. Two weeks ago the SPX bounced off its 200 dma and has managed to climb right up to its 50 dma. It proved to be a strong ceiling and the index bounced right off of it and has closed below its 100 dma as well. I'm sure some of you are asking yourselves, "what do we do with this information?" Well, as traders we want to place all the clues we can before us before we make a decision to trade or not. Sometimes these chart patterns and their appearances may be just a fluke. What I do see is a strong reason to be cautious. We could still see another day or two of profit taking and there really is no reason to go long ahead of the FOMC meeting next week. I would rather our readers accuse me of being redundant versus not making a point.
When in doubt, sit out.