Don't Fight the Fed
Score one for Greenspan and company today. And to think, we all figured that this meeting would be a non-event. In fact, I had to remind myself that there WAS an upcoming FOMC meeting. Well, it seems the FOMC intends to keep the lid on the market for now. It was no surprise that interest rates were left unchanged, but most traders were caught a little flat-footed when it was announced that they were remaining in a defensive mode against the inflation threat.
With recent economic data indicating that a slow down is occurring, it was reasonable to expect that the FOMC would at least adopt a neutral stance in regard to inflationary pressure. The primary reason they gave for continuing their hawkish tone - high energy prices - may be the very reason they should consider lowering interest rates. Yes, high energy prices do lead to inflation, but they can lead to recession in the long term as well, since consumers have less discretionary spending. Warning signs of possible trouble were reported just this morning, with the 5th consecutive decline in the Index of Leading (sometimes misleading) Economic Indicators. A set of 3 has historically been a precursor to a recession, but the previous string of 5, which occurred in 1995, was of the soft landing variety, so we can't make a solid conclusion yet.
So, we ended with a big minus 114-point day on the Nasdaq Composite and the Dow lost most of a 138-point gain to finish up only 20 points. For the Nasdaq, it's the third straight day of big "gap up" mornings, followed be a close near the bottom of the day. Is it time for an up day? Maybe, but we may be due for some pain first thing in the morning.
With today's slip below the 3521 level and 3500 for that matter, we now have an official confirmation of the double top formation on the chart. We were hoping for a double bottom at 3521 to build a base. Unfortunately, that support was broken. I guess we shouldn't be too surprised though. I just never felt fear gripping this market. Sure, the "generals" were beginning to fall, but the Volatility Index was not moving toward 30 and these "gap up" mornings were just too optimistic.
When the climatic selling starts (as if today's volume of 1.9 bln shares weren't enough), I look for a pivotal turnaround in this downtrend - that day could be Wednesday, but it may take longer than that to truly put in a bottom. Late today, we saw sell stops and margin calls dragging this market lower as it passed under 3500. If we get a gap down in the morning, we could see the same type of capitulation selling that would be a buyable event, at least for a one-day play.
But the outlook isn't so bad for the longer term. Our old friend Abby Joseph Cohen of Goldman Sachs kicked off today's early morning bullishness. Remember her? She set the bearish wheels in motion last March, when she said she was un-weighting techs and moving heavily into financials. The market did likewise. She's the E.F. Hutton of the millennium - when she talks, people listen. The good news is that she likes technology again. Couple that with the historically strong season of November through March and we are likely to see the bull market return soon. It appears she particularly likes the storage, network equipment, and Internet infrastructure software companies - no surprise there. They've been the strongest stocks all summer. Names mentioned were EMC Corp. (EMC), Network Appliance (NTAP), Juniper Networks (JNPR), Cisco (CSCO), Oracle, (ORCL) and BEA Systems (BEAS).
Despite Abby's friendly words, the tech sectors suffered, some more than others. B2B stocks took it on the chin in a major way today. Ariba (ARBA -14.59) and i2 Technologies (ITWO-17.88) continued yesterday's sell off on the news that their "alliance" had lost a major customer - the Global Healthcare Exchange. Joining those two unfortunate stocks today was IBM - the third member of the alliance. IBM had some trouble of its own as rumors circulated the trading floor that the company could pre-announce an earnings warning, but no confirmation as of yet. Add to that a downgrade of Commerce One (CMRC -13.62) and the B2B sector was down for the count.
Also hurting was the Software group - particularly stocks engaged in B2B software. Leading that group was Oracle (ORCL), which tanked a full 9.50 points. Many related stocks followed suit and the Goldman Sachs Software Index took a massive 7.5% blow to the downside. Of course, the standout in the software industry was tiny Corel (CORL +2.09), maker of WordPerfect and Linux operating system compatible software, which just signed a $135 mln deal with rival Microsoft (MSFT +2.54).
Thank Xerox, the world's top photocopier maker, for at least part of today's selling. The company warned AGAIN, that it would not make earnings forecasts for the upcoming quarter. Bad news from XRX has come to be expected with their current mismanagement, but the company's comments placed blame on a slowing U.S. and European economy. Those words made the entire tech sector uneasy, since there are already plenty of worries about revenue growth rates.
A yellow flag should be thrown at Wit Soundview for a late hit on the chip equipment stocks. We can trust analysts to help us run up stocks, but not to get us out in a timely fashion. The brokerage firm today downgraded the industry, citing slowing growth prospects. Falling into disfavor with Wit was Applied Materials (AMAT), Brooks Automation (BRKS), Semitool (SMTL) and Nanometrics (NANO). In the chip sector, the equipment stocks are generally the last to be upgraded and the first to be run back down. If that is the case, the worst might not be over for the semiconductors.
But the carnage of the tech sector didn't carry over to the old economy. Banks finished well for a second day in a row, with stocks like Citibank (C) looking pretty healthy. Also looking good is General Electric (GE), which finished up 0.54 points, accompanied by some of the cyclical stocks, which buoyed the Dow Industrials.
Institutional equity traders looking for a flight to safety had limited opportunities today, since bonds were also trading lower after the Fed announced a hawkish stance toward inflation. With the FOMC finger on the interest rate trigger, bond traders looked for the exit doors as well. The ten-year note lost 10/32 to $99.09 and now yields 5.94%.
Looking again at the charts, the Nasdaq Composite could be targeting a follow through of the double top formation, which is twice the distance from the tops to the trough. That would put us at the May low near 3050, which would be tidy enough. I'm not sure it will get that bad though. If the market gaps down huge Wednesday morning, day traders are likely to step in and buy it up. Of course, further weakness could set the margin calls and sell stops in motion and we could get to the bottom rather quickly.
The INDU is still forming a base in the 10,600 region. Today's early strength was encouraging though, so if the tech components of the index can just get their act together, the index is looking relatively strong.
Looking at tomorrow's action, the most likely event would be sell at the open orders which take the market down while stopping out many traders. After the first thirty minutes, that trend could reverse, especially if the value guys step in with the intention to buy at sale prices. Of course, the other scenario is that the value players could begin talking before the market, causing a gap up at the open, which would likely be faded out further in the day. Either way, it's going to be fun from a trading perspective.
As for the longer term, the move below support is discouraging. The May low is a possibility, but not a certainty. We all know that October is a time for disastrous sell offs, but it's also a bear killer. I'm betting that in just a few weeks the bears will be hard to find again. Also - keep in mind that there are two jokers with a lot of influence debating on television tonight. Oil, drugs, healthcare and the economy are going to be hot topics - I would expect a reaction of some sort in the markets tomorrow. Good Luck!