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Market Wrap

Brokers, retailers, airlines form partnership to sink market

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        5-25-2000           High     Low     Volume Advance Decline
DOW    10323.90 - 211.40 10558.60 10266.00   981,372k 1,261  1,607
Nasdaq  3205.35 -  65.26  3967.71  3196.36 1,562,481k 1,729  2,264
S&P-100  736.95 -  10.15   753.89   731.95    Totals  2,990  3,871
S&P-500 1381.52 -  17.53  1411.65  1373.93            43.6%  56.4%
$RUT     456.17 -   5.57   469.92   456.16
$TRAN   2717.77 - 111.30  2828.77  2715.68
VIX       28.00 +   0.13    29.12    26.57
Put/Call Ratio       .56

Brokers, retailers, airlines form partnership to sink market

After a strong start for the Nasdaq this morning, the analysts ganged up on the three sectors above and the markets went down for the count. The triple whammy turned into more than the fragile Nasdaq rally could bear and although it was a valiant struggle, the index gave up half of yesterday's gains at the close.

To begin, the pain we saw the backlash from the Costco earnings shortfall yesterday. Costco posted lower than expected earnings and warned that rising costs, partly from higher wages, would slow profit growth in the current quarter. COST was hit with a drop in their stock price from $42 to $26 but the damage did not stop there. Other retailers also were hit by customers returning their stock and this caused losses across the sector. Best known stores like Walmart lost -1.88 and Federated lost -1.81. Costco set a new 52 week closing low at $30.06.

The dogpile in the transportation sector came in the form of multiple downgrades on the heels of the United/US Air deal. Most analysts fear the combination of the two will cause ripples in the highly competitive space and lead to more and higher offers for the remaining regional carriers. Also, there is a rumor that American will make a higher offer for US Air and spark a bidding war. The regionals all soared with speculation yesterday and then gave back some gains today as cooler heads prevailed. This caused the transports to drop -111.30.

The most damaging attack was on the brokerage sector. It started with a Merrill Lynch analyst who made negative comments about Goldman Sachs. The range of earnings estimates was $1.36 to $1.65 with the average of $1.47. The Merrill analyst was already the lowest estimate at $1.36 and all he did was reiterate his number and suggest that the other analysts rethink their numbers in light of the much lower trading volume of late. Immediately two other firms lowered their estimates to $1.30 and $1.33 and expressed concerns about the entire sector. This was like yelling fire in a crowded theater or sell in a weak market. The Dow plunged to a session low of -260 and the farther the Dow dropped the harder it was for the Nasdaq to stay positive. The major brokerages all took losses with MER -5.81, LEH -5.19, MWD -4.25, GS -7.

Also helping to drive down both the Dow and Nasdaq was MSFT. One analyst announced that the possibility of a breakup of Microsoft into three companies would actually make the company less valuable instead of more valuable. This outlook was contrary to most which expect a breakup, however unlikely, to release hidden value to stockholders. The analyst felt that as separate companies, the revenue stream would be much less dependable. With major operating system releases only every 2-4 years the huge influx of cash would be very sporadic. Same with the office products. With Office 2000 the first major release since 1997 the cash surge would not occur again for several more years. An Internet browser company would have a tough time since the trend has been free. Add these factors together and the analyst felt the public would not want to pay much for revenue streams that fluctuated over a 3-5 year cycle. Historically companies with this type of cash flow carry low stock values. With the judge currently on the MSFT warpath, it is becoming increasingly more likely that MSFT will win on appeal since any observer can see a clear bias by the judge. Still MSFT set another new 52 week low of 61.50 with a loss of -4.06.

The economic reports today were mixed with Existing Home Sales posting a greater than expected -6.2% drop for April but a revised March at a huge +9.2% gain. The revised GDP was unchanged at +5.4% even after several economists expressed lower targets. These results had no impact on the market but Friday we have another chance for disaster with the Personal Income/Spending and Durable Goods Orders. These are not normally market movers. The next big report will be the May Non-farm Payroll Report next Friday. This will be the next major inflation gauge before the June Fed meeting.

Until the brokerage downgrades this afternoon, the advancers were actually beating decliners for a change. This was not much of a life preserver on the sinking ship but it did give us cause for hope for several hours. Still, the quick drop by the market on a minor news event shows that there is no strength in the market. While the day traders want to bid everything up each morning in anticipation of a coming rally, the institutions are still selling into rallies or simply standing on the sidelines. There are rumors of several funds with weak results being deluged with redemption requests. The Cendant CEO was on CNBC today and also said fund managers were apologizing to him for selling his stock but blamed gross redemptions for the need to lighten up in all areas. This is not a good sign.

The Memorial Day weekend ahead could cause Friday to be a rough day. The strong rebound rally Wednesday afternoon just ran out of steam and lacked any follow through. For four days now the Nasdaq has stopped dead on upper resistance at 3365 which means there are still sellers at that level. The low of almost 3000 on Wednesday could be seen again if there is no good news to power the market on Friday. With a long weekend in front of us there will be a tug of war between the traders who do not want to hold over the holiday as summer begins and those who are looking for an entry point for a possible rally next week. Either way the volume is likely to be very low and part of the drop at the close today was likely a sign of many traders leaving early. At this point, I would like to see a sub 3000 intraday dip and rebound. I think there is a psychological bottom at 3000 and even if we eventually broke it I think it should provide another chance for a current rally.

We are only five weeks away from YHOO earnings and the start of the July period. If there is going to be an earnings run then next week would be a good place to start. If you are waiting patiently for 3800 again I think I would take a portion of your risk capital and open a couple positions on any bounce from under 3000. I would wait until the Nasdaq is over 3000 again before opening the positions. These would be speculative and should be exited on any drop under 3000 again. Who knows, we may not see 3000 but if we do I think it would be worth the risk. You saw how fast the leaders rocketed Wednesday afternoon when volume returned and I would expect the same on any sub-3000 bounce. The Nasdaq big caps have given ground recently and some analysts are claiming this to be a sign of a possible rally soon. The Dow traded as low as 10266 today and came close to breaking down. It closed near the bottom range of support and teetering on the cliff. A break under 10250 could put us under 10000 real fast.

Good Luck

Don't buy too soon!

Jim Brown
Editor

Current long positions include:

VOD, NOK, MSFT, VIGN, GLW, MLNM

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