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Market Wrap

What do you think, Bob?

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        10-25-99           High     Low    Volume Advance Decline
DOW    10349.90 -120.40 10469.30 10315.10  772,200k 1,195   1,822
Nasdaq  2815.95 -  0.57  2832.66  2793.54  928,583k 1,873   2,137
S&P-100  682.38 -  3.25   687.01   678.29   Totals  3,068   3,959
S&P-500 1293.63 -  8.02  1301.83  1286.08           43.6%   56.4%
$RUT     417.76 -  0.93   418.69   415.46
$TRAN   2870.59 +  7.44  2875.22  2821.35
VIX       24.42 +  1.53    25.83    23.59
Put/Call Ratio      .62

What do you think, Bob?

While no slight to Bob Pisani, CNBC's NYSE reporter, you know floor traders just shattered the glass of their crystal balls when they start asking Bob where HE thinks the market is headed. In all fairness, this market has been range-bound for the last 6 months since the threat of Fed interest rate hikes began to grip traders and investors with fear. Fortunately or unfortunately, the "deer in the headlights" fear has been replaced by "analysis paralysis", where the hesitancy to place big bets is more technical rather than emotional. Although there appeared to be a de-coupling of the bond/equity behavioral relationship last week, rate-increase fear is clearly driving both the bond and equity markets. It is the cause of current investor behavior, not the result, and has a direct effect on how the stock market moves in the course of a trading day.

Sounds reasonable. . .so what's the big deal? Let's go back for a quick economics lesson. First, it's not really interest rates that are in control here. Interest rates are just a reflection of investors' perception of future real rates of return - that is a risk free rate of return, plus the rate of INFLATION. After all, why would you want to earn $50 per year on every $1000 (5% return) if a 6% inflation rate creates the requirement for $1060 at year end to preserve the buying power of that original $1000? In short, you wouldn't. So you increase the yield to cover for anticipated inflation. The risk free amount remains roughly the same. It's the inflation factor tacked on to it that causes real rates to fluctuate. That's why everyone is so concerned about the FED's next move. Do they see inflation, or don't they?.

That's also why the price of oil, PPI, CPI, GDP, and employment/wage data are so important for investors to keep on their radar screens. Though no factor by itself can tell us "there is definitely inflation", each is useful to some degree in indicating its presence, and thus will influence Federal Reserve to change rates accordingly. This is ultimately all reflected in the 30-year bond rate, which has lately influenced the stock market to keep the "irrational exuberance" in check. (the theory here is that as interest rates rise, it costs businesses more to borrow, which decreases profits, which lowers the value of the stock - when rates go up, values go down and vice-versa)

Got all that? Great! Here's rundown on influences in today's bond market: bond yields spiked up this morning to 6.40%, a level not seen since October of 1997, thanks to a reversal north in the price of oil, where it's supposed that it will retest $25 per barrel again. Some analysts quickly dismissed it as temporary. Conversely, the Oil Minister of Qatar stated last week that he sees no reason why the current production quota can't be sustained past March, 2000, the next OPEC meeting date. In our book, the guys with the oil usually know more than the analysts - bet on the Oil Minister. Second, there is still an underlying fear that GDP numbers and the Employment Cost Index (ECI) will come in higher than anticipated on Thursday morning, rattling the market into thinking that the Fed is 100% certain to raise rates at the next FOMC meeting on November 16. Currently the market gives "just" a 60% chance of that happening. Nonetheless, both of these are enough to keep buyers away from bonds until a clear direction is established. From reports we've read, the ECI will be the most watched figure this week, with the market expecting a .9% increase over the last quarter. The market will likely consider this a non-event (or maybe a mild rally? - hey, we can dream!) and refocus on the FOMC meeting if the numbers are near the target, keeping us in the current trading range. However, if it comes in at 1.1%, that may set us up for the next leg down, testing a 6.5% bond rate. Anyway, that's why the bond rate spiked today.

It should be noted however that late in the day, bonds made a great recovery (thanks to a FED Board Member cooing like a dove in comments today). The market thought that maybe the sky wasn't falling after all, which cut the equity market losses too. More on that in a minute.

Yes, the bond rate put a crimp in equity traders' style today. The weak bond carried over sending the DJIA gapping lower this morning at the open; NASDAQ too. While earnings at AT&T came in a penny ahead of estimates and 3M came in 8 cents ahead, Chevron and Exxon came in 2 cents ahead each, but got clobbered as analysts assumed that revenue wasn't rising as fast as anticipated and profits may decrease. Go figure. AT&T and 3M couldn't spark an upward move, but it's interesting to note (a bit inspiring too) that two-thirds of companies reporting earnings are showing an average 24% gain over last year. Growth of earnings is clearly alive and well and shows no signs of letting up. If you take one thing from the Wrap tonight, take this: there is a war going on between increased earnings (stocks want to rise) and rising interest rates (stocks want to fall). That's the crux of trading behavior over the last six months.

Back to the market. Thanks to a lack of buyers (presumably suffering 6.4% bond rate shock), volume was only 772 mln shares today as investors shaved 120 points off the DJIA and kept their capital on the sidelines waiting for a better opportunity. On a gain of over 500 points last week, the market tested resistance just over 10,500, failing that level in today's action. It was only six trading days ago that everybody wondered if we were headed under DJIA-10K, wherein a strong rebound followed. Lo and behold - another bounce down - today to 10,349. We remain concerned about the advance decline line, which came in at 2:3 today, with 288 new lows trouncing 44 new highs. If there's any good news, it's that the FED's doveish cooing in late afternoon eased the loss from being down over 210 points earlier in the day. Nonetheless, that shouldn't inspire confidence to load up on a bunch of calls tomorrow. The trading range is stuck between 10,000 and 10,500, and we're in the middle, putting stock pickers in high demand. It's tough to make money when range-bound, thus we encourage you to do your homework and trade with levels of support and resistance consistent with your own time horizon.

NASDAQ too suffered at the hands of the bond rate spike, but like the DJIA, got a reprieve from softcore Fed-speak late in the afternoon. Though the NASDAQ gyrated up and down as much as 20 points in either direction, the close was nearly flat at 2815, with only a fractional loss on 933 mln shares traded. Volume like that following a billion share Friday shouldn't inspire any confidence for a breakout of trading range anytime soon. Decliners beat advancers about 7:6, while 116 new lows bested just 33 new highs.

These are not the signs of a market on fire. With a trading range stuck between 2700 (support) and 2900 (resistance), again, it's tough to make money unless you take small profits while trading at interval levels of support/resistance consistent with your time horizon. The NASDAQ isn't going over 2900 without the help of MSFT, INTC, CSCO and DELL. Despite MSFT's earnings, it isn't moving, and the others have delivered or are rumored to deliver financial gremlins, swaddled in a marketable spin blanket. To be fair, following Friday's "Cisco may miss earnings" rumor, CSCO did not change their guidance to analysts, and Morgan Stanley Dean Witter defended the stock today. Not even news that DELL has become the number one PC vendor in the US ahead of CPQ could ignite a rally in the 5 generals. We implore you again to pick your trades carefully, or to stay out if you can't find an entry.

OEX watchers too should note that the highs and lows are moving lower, which is a negative development, portending more descent.

(Just so you know, in the home office, though we're still trading, we pick 'em more carefully and we're getting out of plays a lot quicker to avoid market blow-ups or stock implosions. It's better to protect your capital and live to trade another day than throw it away on forced trades.)

Before we close it up, we have a few more news items that while they don't directly affect the plays, they are interesting to note: 1) Warren Buffet's Berkshire Hathaway group is getting into the energy business by buying Mid America Energy Co. (MEC) for $35 per share. It was up over $6 per share to $33.38. 2) Thanks to the FDA, soy will now take a place on the "health-o-meter" alongside oatmeal as a reducer of fat and cholesterol if consuming 25 grams of soy protein per day. Kellogg's responded by announcing new soy-based cereals. Somehow, it's hard to imagine our kids asking for more Chocolate Frosted Soy Bombs, but that's what marketing is all about. 3) AOL, along with Warner and Newscorp (among others) have taken the first major step in blurring the line between the TV and PC by investing in OpenTV, an interactive satellite bandwidth service to be delivered through Dish Network and DirecTV/DirecPC satellites. The IPO will occur within the next 6 months on the Amsterdam exchange. As we've noted before, AOL is solving the bandwidth dilemma with satellites. 4) Excite@home is buying Bluemountain.com, an online free greeting card company for $780 mln in stock and cash. Frankly, ATHM's strength is in cable broadband distribution, not content. This acquisition baffles us, while painting AT&T as a disjointed operation unsure of how to handle some recent prize acquisitions.

In condensed form, here are things to note for the rest of the week. EBAY, AMZN, WCOM, AMTD, and CPQ all report earnings. Look for sympathy plays that follow the news. Consumer confidence is reported tomorrow; durable good on Wednesday; GDP and ECI on Thursday (these are the biggies this week); followed by new home sales on Friday. These aren't nearly so critical as the NAPM, non-farm jobs, and personal income to be reported next week.

In conclusion, though DLJ stated today in a bullish note to clients that now was the time to take new positions prior to the FOMC meeting on November 16 in expectation of a breakout rally to follow, remember "the trend is your friend". You need to see it first. Don't try to catch the falling knife. Sitting out is OK while we wait for the trend to establish itself. Know your entry and your exit before you enter a trade (meaning check support and resistance), and then stick to it. Resist the temptation to swing for the fences at levels that have a slim chance of being hit ("cheap" OTM calls are cheap for a reason). Take a small profit over and over (sell too soon). We don't expect this week to be easy. Practice astute and prudent trading. Oh yes - if you are a floor trader, question your trading strategy if you are looking to Bob Pisani to tell you what will happen next.

As Ken Fisher notes, it's the market's job to humiliate as many investors as possible. Avoid being one of the humiliated

Buzz Lynn
Research Analyst

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