Option Investor
Market Wrap

What was that noise?

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        12-14-99           High     Low     Volume Advance Decline
DOW    11160.20 - 32.40 11235.70 11143.00 1,027,880k 1,070   2,035
Nasdaq  3571.66 - 86.51  4127.38  3571.26 1,564,798k 1,492   2,710
S&P-100  758.62 -  4.51   765.99   757.37    Totals  2,562   4,745
S&P-500 1403.17 - 12.05  1418.30  1401.59            35.0%   65.0%
$RUT     462.75 -  7.63   470.86   462.40
$TRAN   2908.88 + 12.90  2918.14  2888.40
VIX       24.47 +  0.87    26.44    22.71
Put/Call Ratio      .49

What was that noise?

It was not a bump in the night that wakes you from a sound sleep with fears of monsters or burglars depending on your age. It was not the crack of thunder after a lightning bolt landing nearby. It was a horrible sucking sound as every trader took a deep breath as the tech market rolled over at 2 PM. Is this "IT"? Is this the "big one"? Millions of traders are going to have a sleepless night tonight as they wait to exhale. If the market opens up tomorrow and moves on up as usual then a collective sigh of relief will be heard across the country. If the market opens down then everyone who was bleeding at the close, and some I know were hemorrhaging, will need transfusions of cash to cure their broken accounts.

Remember on Sunday I talked about potholes on the rally road? We hit a big one today called the Retail Sales Report. The government caught you red handed spending those paper profits you made in the stock market this year. Retail sales were up +.9%, almost twice what analysts were expecting. At the same time the CPI was less than expected at +.1%. So why did the retail sales trip the bull? The rampant consumer spending is a major factor that the Fed watches for signs of the economy over heating. The formality of a Fed meeting in December had been ignored by many since there was no way the Fed would raise rates only one week before Y2K with no inflation in sight. All of a sudden the Fed meeting became a real threat. With the market still setting new highs, the economy gaining speed and no Y2K pull back in sight, there is no reason for the Fed to wait until spring to pull the trigger on another round of rate increases. OOPS! A rate increase next Tuesday? Yes, it may not be a sure thing but it does not have to be a sure thing to put fear into the markets.

All of a sudden locking in those 65% gains for the year looked real inviting to many traders. The prospect of closing positions and taking the next two weeks off to watch the Fed and Y2K from the sidelines took on a whole new perspective. Yes, they might give up another 5% or so and they may have to pay taxes on their gains this year instead of next but at least they would have profits and they could relax for Christmas.

Maybe we actually hit on the real reason for the sell off. Not the "excuse" of the retail sales report or the FOMC meeting next week. Maybe investors are just tired of looking around every corner for the next disaster. Maybe they are just plain tired of worrying about a possible Y2K drop at any moment. Maybe the increasingly bad market breadth is simply a leak in the dike holding up the rally and the huge gains made this year. Maybe all the tech bear warnings about excessive tech valuations simply awakened the sleeping investor subconscious's. Whatever the reasons the damage was sharp and swift. Tech stocks were hammered for big losses and it all happened in two hours. The traders on the sidelines bought the morning dip only to be blindsided by the severity of the afternoon selling. Intraday ranges were amazing. CMGI +$18 to -6, QCOM from a high of $437 to a low of $414 for a $23 spread. The QCOM chart here is an example of the night and day difference in market sentiment. Up +20 at 3:30 it dropped almost -25 points to the low of the day in only 20 minutes.

The semiconductor sector took some serious hits across the board from the Solectron numbers. The major names lost gains in the high single digits but the big gainers recently like MSTR just got killed as the momentum players fled the scene. Rumors that some companies had been hoarding chips in case of Y2K problems put first quarter earnings in doubt. This was a pure case of over reaction but remember if you want logic don't look at the markets.

The results for the day probably would have been a lot worse except for a strong rumor that Microsoft and the government were close to settling their court case. Rumors started Monday and gained speed today. MSFT was up +$4 at the height of the speculation but both the government and MSFT eventually said that the rumor was false. With MSFT a major component of both the Nasdaq and the Dow both indexes were benefiting from the price run up as well as other tech stocks in sympathy.

What happened to the techs today has been happening to the broader market for months. CNBC had some interesting facts after the close. 52% of Nasdaq stocks are down for the year but 27% are up over 50%. The majority of the stocks up are the big cap tech stocks which are in the Nasdaq-100 and that is why the Nasdaq index is up +65% for the year. That means half of the Nasdaq stocks have been in a bear market correction while the rest were celebrating the coming of Y2K. On the NYSE the numbers were worse. 64% of the NYSE stocks are negative for the year. Last week there were 867 new lows on the NYSE accounting for 25% of all NYSE stocks. Today there were 567 new lows on the NYSE accounting for 15% of all NYSE stocks. Only 25% of the NYSE stocks are over their 200 DMA. At one time today there were more than 10:1 new lows to new highs. The ending number was only about 8:1 but still significant. The breadth that everyone talks about was very negative with decliners beating advancers by 2:1 on both the Nasdaq and the NYSE. This breadth has been bad and getting worse for several weeks which makes me wonder if we are really seeing that leak in the Y2K dike. Not only has the breadth been bad during the day but the last two days the "order on close" orders have been almost completely sell orders. Somebody, or more likely many traders wanted out of techs at the close today and wanted out bad. What had been orderly profit taking in the past with buyers at every dip turned ugly and nobody stepped into the gap today. Another bad sign was the flow of money into cyclicals. That is the kiss of death to a tech rally when stocks like MMM, IP and IR are up on a down day.

If it looks like a duck, walks like a duck and smells like a duck is it a duck? If it looks like a correction feels like a correction and sounds like a correction is it a correction? Or is it a cleverly disguised buying opportunity? The key here is 3520 on the Nasdaq and 11050 on the Dow. If we break through those numbers to the down side then look out below. We will be in a weak area on the Dow that could cost us a couple hundred more points. The Nasdaq could also wander aimlessly until about 3340 where it should find very strong support. Hopefully neither of these scenarios will come to pass but I think we need to be aware of the possible Y2K implications. If traders were slowly moving to the sidelines before, then any indications of panic, like the abrupt sell off today could be like yelling fire in a crowded theater. Once a panic sell off begins, previous support levels will have no significance. Could we see 10,000 again before Y2K? While I do not currently expect it, there is still that possibility. The way I see it we have two distinct possibilities forming.

1. This is just a normal profit-taking spell after a remarkable rally. We have not had any serious profit taking in so long that the sharp sell off today was simply the result of a hair trigger on the part of traders with a lot of gains to lose. Another -100 points max and we are off to the races again. After all, funds would rather not sell now and trigger a taxable event in 1999 when they can wait and have all of 2000 to handle the tax problem.

2. The trickle of bad breadth over the last several weeks was a leak in the Y2K dike. The leak could be getting stronger as we get closer to the magic event and today could have traumatized traders planning to hold into joining the flow. If we are going to have a group of investors move to the sidelines then their time is getting short. With only 12 trading days left, in reality only 7 days since they would probably want to be out before Christmas, then tomorrow will be key. We should watch for buyers coming in off the sidelines to buy the dip. If there are no buyers then we should be sellers and move to the sidelines ourselves and plan our strategy for the January bounce.

Another wild card here is the options/futures triple witching expiration on Friday. Normally the bias is to the upside during this week but the Y2K thing added an extra joker to the deck.

Staying invested, the rest of the year may take an incredible cast iron stomach and a case of Rolaids. Picking market direction in normal times should be left to the Psychic Hotline but uncovering the true direction for the next two weeks is something even Fox Mulder and Dana Scully would be hard pressed to resolve.

For me I think discretion may be the better part of valor and barring a resumption of the rally tomorrow I am going to unwind my trades and watch from the sidelines.

Good Luck, Sell Too Soon.

Jim Brown

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