Option Investor
Market Wrap

Two days in a row! You can exhale now!

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       WE 10-20         WE 10-13          WE 10-6          WE 9-29
DOW    10226.59 + 34.41 10192.18 -404.36 10596.54 - 54.38  -196.45
Nasdaq  3483.14 +166.37  3316.77 - 44.27  3361.04 -311.78  -130.94
S&P-100  738.16 +  9.15   729.01 - 21.96   750.97 -  8.86  - 14.25
S&P-500 1396.93 + 22.76  1374.17 - 34.82  1408.99 - 27.52  - 12.21
W5000  13057.40 +253.90 12803.50 -338.60 13142.10 -471.30  - 64.80
RUT      487.45 +  7.06   480.39 - 10.63   491.02 - 30.35  -  2.55
TRAN    2469.07 + 38.89  2430.18 -113.47  2543.65 + 22.01  - 75.50
VIX       27.42 -  3.56    30.98 +  5.31    25.67 +  1.82  -   .32
Put/Call    .50              .76              .75              .59

This was a week full of thrill, chills, excitement and drama. What a week to be in the stock market. Capitalism is wonderful! Of course it helps to have a +500 point gain from Wednesday's lows! The Nasdaq high on Friday was +509 points off that low and the Dow high was +573 points up from that low. There are entire months that the market does not move that much and we saw it in three days. Almost two weeks in a row! The real miracle was not the bounce from the 3026 low on Wednesday but the failure to sell off late Friday afternoon. With the Middle East flaring up again, and oil heading for $35, traders would have loved to go flat for the weekend and take some profit off the table from the big rebound. There was a little pull back but the sentiment was so strong that the normal flood of sellers did not show.

October is over, almost. Only one week left and historically this is an up week. Options expiration week is over. Those weeks can be extremely volatile and this week would qualify except none of it was option related. The "teens" of October are typically the worst third of the month due to earnings warnings and just plain missed earnings reports like the Chase report on Wednesday. We got out alive with the Nasdaq only a handful of points away from 3500. 3500, seems like forever since we were here last but in reality it was only October 6th. That was a rough two weeks! If the low this week on the 18th is really the bottom then that makes the fourth year in a row for the low to occur on a day ending in 8. In 1997 it was the 8th, 1998 28th, 1999 18th, 2000 18th. Stop right here. Just knowing that the low for the fourth quarter is in October, and as you can see by those dates it is true, what are you going to do next September? Do you wonder now why Austin Passamonte kept telling you for the last eight weeks in the Market Sentiment that the institutional traders were short the S&P at 10 year highs? They have long memories and big bank accounts and they are seldom wrong.

Actually since 1945 the average drop to the October lows for the Dow is -19.75%. This year from the September high to the Wednesday low the Dow only dropped -15.3%. It just happened all at once and seemed like -50%. As a point of note the average gain from those same Oct lows to the December highs is only +12%. The VIX hit a high of close to 36 and that is a range not hit but four times in the last three years and three of those were in Octobers.

When the market opened Friday the tension was so thick you could feel it in the air and in every commentary by market reporters. Everyone, if given the chance would have simply opted to not open and take the day off and resume trading on Monday. It was not to be. The rally sellers showed up in force at the open and the Dow dropped -80 points almost immediately only to race back into a positive +40 and then back to negative in only minutes. Finally a floor was found at 10085 and everybody held their breath. After holding for two hours the momentum returned and both indexes headed higher. With only one week left in October it appears the bottom has been found. Money is coming back into the market even on a Friday with violence in the Middle East.

Oil was not a real factor after Greenspan tried to talk it down yesterday. Traders were still watching it creep towards $35 again but if Greenspan is not worried why should traders be concerned. This attitude may come back to bite them when they are not looking but that was the sentiment today. The news reports were full of increasing violence in Israel and every time they broke for an update I kept expecting the market to crater again when the ticker returned. It never happened and that shows you just how strong the positive sentiment was. Having said that, the advance/declines were not especially positive. The NYSE advances only beat declines 15:12 and the Nasdaq 23:16. That is not very comforting but it was a Friday. There was some profit taking all day and that contributed to the weak numbers.

It was all earnings and the winners were big winners as the focus turned from warnings to those winners. SDLI was the big winner with a $.45 earnings for the quarter and that was four times last year and +.07 over analyst estimates. SDLI gained +49 on the news. Merck gained +4.31 to a new 52 week high of 81.88 after beating estimates by a nickel and posting a +25% gain in revenue. Microsoft continued to add points with +3.31 to 65.19 after trading as low as $48.44 on Wednesday. That is a +$17 gain in two days from the low. EPNY gained +$25 or +39% after beating estimates by +$.15 cents. You would think being an earnings investor and holding over was a good plan but the reason for the gigantic gains was the extreme pessimism just the day before. It was not all rosy, Ericsson warned that sales were weak and took a -16% drop at the open. The global mobile phone winner is clearly Nokia by a mile! Leaps on NOK anyone?

The soap opera for the week was the Honeywell, United Technology, GE saga. Evidently UTX made an offer for Honeywell of $50 in UTX stock and then UTX stock got whacked pretty badly making the deal not so appealing. The "done deal" then took a wrong turn when the bully on the block showed up and kicked UTX back into reality. GE knocked on the door on Friday and told UTX to pack up their marbles and go home. We are buying HON and you can't compete with us. UTX picked up their chips and left. End of story? After the market closed it was rumored that a third company had made an offer. I doubt they have more money than GE so that is a mute point. GE stock took a -$3 dive at the close on the prospect of a bidding war but the match of the two companies is almost perfect. It has been almost 100 years since two Dow companies merged. In 1903 U.S. Steel merged with Illinois Steel and Coal. UTX, HON and GE are all Dow stocks and should the deal go through we will be needing a new Dow component. Suggestions include the merged TWX/AOL combo. CSCO was also mentioned but the recent addition of INTC and MSFT have already added a strong tech component. Other possibilities include Lucent but after three warnings in four quarters they may not be high on the list. Also, since they were a spin off from AT&T they might not be politically correct. We are planning a "Name the Dow stock" contest if the GE offer is accepted. Put your thinking caps on and get ready to play.

Next week should be very interesting. We are not out of the woods yet. The +500 point gains of the last three days still have to be digested. There WILL BE some profit taking. This means that some of the high flyers will sell off. We could see a -25% to -50% drop or more from the THR/FRI gains. The hope of course is that buyers on the sideline will see this as a buying opportunity to get stocks they missed at a discount. There are still thousands of stocks that have not seen buyers yet. The main focus of the rally was in the highly liquid big caps. The cheaper stocks have not responded as well. Some of the profit taking should be rotation out of the big caps and into the broader market.

Not all big caps took part either. Buyers are being more particular in their purchases. CSCO for example lost ground on Friday. There is a lot more competition in that sector and many investors fear the CSCO growth rate may be under pressure. This same thing is happening in many places. Just throwing money at the same old faithful tech stocks is not going to reap the same rewards this time. Remember what happened to Dell last year when analysts and investors woke up to the fact that Dell could not maintain a 50% growth rate forever. It would have been heresy last year to say Dell would hit $23. Dell has not traded at that price since Oct 1998 but it did again this week. The same "it will come back, it always will" crowd bought the dip and ran it back up but it remains to be seen if it will hold.

The Nasdaq support level should now be around 3350. Hopefully we will not test that but another major warning from a big tech could still cause the Nasdaq to stumble again. Fortunately most of the big techs have announced. INTC, MSFT, EBAY, JNPR, ITWO, AOL, NOK, IBM and EMLX headed the list. The rest of the crowd are less important individually but could cause trouble if several miss at one time. The next big tech problems will be DELL and CSCO who both announce in November. We are approaching the warning period for each of them and investors will be holding their breath. This should keep them from posting any big gains the next two weeks and this will slow the Nasdaq to some extent. The October tax loss selling by fund managers should be about over but those hoping for one more bounce in their loser stocks before biting the bullet and dumping them have seven trading days left. This could also keep the lid on the current rally. October is not over until it is over and until then we can continue to see more huge moves both up and DOWN. The Fed is still on hold and the economy is still headed for that soft landing. The only major economic reports next week are the Employment Cost Index on Thursday and the GDP on Friday. Once out of October mutual fund inflows Like I said last Sunday, use any dip this week as a buying opportunity. If you followed my instructions you had a wildly profitable week. Keep those stops tight and look for another entry point!

The October Options Workshop in Denver is next Friday, October 27th. If you have not received your confirmation and directions please contact the seminar staff. If you have not yet registered you had better hurry. See you there! http://www.OptionInvestor.com/workshop

Trade smart, sell too soon.

Jim Brown

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