Option Investor
Market Wrap

A tale of two markets!

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         WE 1-20          WE 1-14          WE 1-07         WE 12-31
DOW     11251.71 -471.20 11722.98 +200.42 11522.56 + 25.44  + 91.36
Nasdaq   4235.40 +171.13  4064.27 +181.65  3882.62 -186.66  + 99.84
S&P-100   779.78 - 17.74   797.52 + 14.03   783.49 -  9.34  -  2.73
S&P-500  1441.36 - 23.79  1465.15 + 23.68  1441.47 - 27.78  +  7.81
RUT       533.95 + 25.84   508.11 + 19.80   488.31 - 16.44  + 26.81
TRAN     2751.49 -140.14  2891.63 - 73.09  2964.72 - 12.48  + 89.50
VIX        22.66 +   .53    22.13 -  1.07    23.20 -  3.51  +  3.59
Put/Call     .47              .42              .50              .51

A tale of two markets!

The picture painted by the two major market indexes last week was as different as night and day. Your view of the markets was probably colored by which market you follow and how many characters in your stocks symbol. The Dow came off three weeks of advances to lose -471 points. The Nasdaq continued to recover from the recent weakness to post yet another record high close.

The markets did exactly the opposite because of a polarization of investor sentiment across all sectors. The consumer groups, cyclicals, materials and most hard goods sectors were dumped as investors who had been waiting for the great "broadening of the market" finally gave up and started throwing money at the tech express. The Internet revolution is changing the way we research and value companies. The tech cycles of boom/bust four times a year may even be coming to an end. It looks like tech, tech, tech. A new cycle may be forming that has techs always up and everything else always down. That sounds stupid but the stocks your father bought are just not producing the gains that the tech/Internet sector has attained. Investors are fleeing fund groups that are value based and pouring that money into the aggressive growth tech funds and the many Internet funds popping up every week. Fund managers are forced to buy techs or lose customers. Dozens of tech/Internet funds turned in record one year results and many gained over 100% last year.

This liquidity driven tech rally is changing the way we look at market cycles. Fund managers have previously known that they could own tech stocks for only six months of the year and make a great return. They would buy in Oct, sell in Feb, buy in Mar, sell in July. Life was much simpler then. The cycles were as predictable as the sunrise. This paradigm is about to be tested. The normal February sell off is showing no signs of an early appearance. While the chart patterns are almost identical from this year to last year, the weakness you would expect to see creeping into tech stocks a week before the big event is nowhere to be found. There are a few Internets that are not taking part in the rally but they number just a handful.

Every dip is met with buyers and most fund managers are either praying for another 10% (even 5%) correction or have simply given up on waiting and are buying heavily to avoid the missed train syndrome. With the speculative bubble stage evolving into the "we must have been valuing them incorrectly" stage, even the hard core bears are quietly withdrawing from the spotlight to nurse their crippled brokerage accounts. Many have actually admitted that the tech rally could continue for years based on the technology improvements and giant leaps in consumer acceptance of the new Internet generation.

Many feared the Internet explosion would eventually run out of capital due to over supply of new and crazy Internet ideas with no chance of success. Instead millionaires are being created every day as new companies are started with just an idea and within months are hugely successful. The stockholders who were lucky enough to get an allocation at IPO time are now plowing those windfall profits back into the next name they can't pronounce IPO. Two years ago, nobody had ever heard the names Akamai, Arriba, Kana, Foundry, Redback, Redhat, Epiphany, etc and now they are throwing money at companies they can't even pronounce and some they can't even buy yet through their online broker. Companies like Pacific Cyberworks (PCCLF) and Softbank, the Asian equivalents to CMGI and ICGE, are not recognized as valid symbols by many online brokers.

There are 20 IPOs next week and the largest one is John Hancock at 102 million shares. Ironically this old, established, well respected company will probably be on the bottom of the list of top performers by the end of the week. After all, they are not a tech or an Internet so there is no pizzazz to the offering. The resurgence of the IPO market after the Y2K hiatus is likely to recharge the overall market.

The test of the February cycle theory is rapidly approaching. Many analysts are calling for a tech correction again and are baffled by the continued tech rally. Ironically, as long as everyone is expecting a correction it is not likely to appear. The contrarian theory would call for a continued rally and point to the wall of worry being built by these analysts as a motivating factor. The real worry is when these bears change their tune and start predicting the rally to continue. When everybody is standing on the same side of the boat it will turn over. The Dow has been weak from the sector rotation into the techs but it has failed to put a drag on the Nasdaq. Actually the Dow is now moving into an oversold condition and could turn positive next week on this sentiment alone. If the Dow does turn positive it could support a continued Nasdaq rally into the Fed meeting just at the time the Nasdaq should be pausing from its +171 point gain last week.

The Fed meeting (Feb-1&2nd) is the next major hurdle. There are no major economic reports until the Employment Cost Index on Thursday so all eyes will be focused on Fed week. Earnings are dwindling and the "reason for the rally" is almost over. Dell Computer is widely expected to warn next week that they will miss earnings and that could hurt the techs if the market is running scared. The Russell-2000 continues to be the measure of the broader market and contrary to the Dow actually set a new high every day last week. I think this is actually the foundation under the Nasdaq rally as well. As long as investors are buying the small caps there should not be any serious dips in the forecast. Just remember the tide can turn on a moments notice.

The bonds continue to be weak and yields are hovering around 6.73%. Many analysts fear the rising oil prices will eventually boost prices into an inflationary range. In reality oil prices only account for about 7% of the CPI and some analysts claim the price would have to stay above $30 bbl for several months before the impact would be severe enough to cause inflation trouble. The G7 meeting this weekend had also kept a lid on bond prices with some analysts expecting a call to rescue the Euro by the attendees. The market breadth continues to be negative. Even on the Nasdaq, which closed at a new high Friday the advancers only beat the decliners by 132 issues. Volume was incredible on Friday with over 3 bln shares traded. 1.9 bln on the Nasdaq and 1.2 bln on the NYSE. The extremely heavy NYSE volume on a down day is normally a bad sign. However Proctor & Gamble was the big loser on the Dow and accounted for -49 points of the -99 point loss. PG was making noises about entering into the Warner Lambert bidding war and investors were not happy. The point however was the Dow was only down -50 points if you discount PG.

About a third of the companies in the S&P 500 have reported their numbers. Growth has been strong: Earnings are better than 23% over where they were in the year-ago period, according to earnings-tracker First Call/Thomson Financial. Moreover, 69% of the companies that have reported have topped estimates, against the usual 54%.

Had you Greenspeak vaccination yet? Fed Chairman Alan Greenspan appears before Congress twice next week. He speaks to the Congressional Budget Committee on the budget Tuesday, and he will be grilled at the Senate Banking Committee's hearings to confirm him for a fourth term as Fed head Wednesday. While nobody expects any earth moving comments you can bet the markets will be watching carefully.

For those that emailed me about suggested big cap naked puts for February I have created a list of the top 50 stocks with the highest premiums and the best chances for expiring worthless. This list is simply based on high premium value and high volatility. I am making no claims about the stability of the stocks. You should look at a chart for each and decide if it fits your risk profile. The list is in my Options 101 article for today.

We will be announcing the guest speakers for the Denver Options Expo this week and you will not be disappointed. Watch for it!

Trade smart, sell too soon.

Jim Brown

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