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Market Wrap

The Great Rate Debate

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        05-14-2001        High      Low     Volume Advance/Decline
DJIA    10877.30 + 56.00 10878.80 10800.10 0.85 bln   1634/1421	
NASDAQ   2081.92 - 25.51  2105.38  2052.41 1.34 bln   1595/2208
S&P 100   647.47 +  2.04   648.17   642.98   totals   3229/3629
S&P 500  1248.92 +  3.25  1249.68  1241.02           47.1%/52.9%
RUS 2000  486.64 -  0.72   487.19   484.40 
DJ TRANS 2874.59 -  4.97  2883.79  2863.83 
VIX        27.17 -  0.31    28.04    27.13
Put/Call Ratio      0.63

The major market averages were on hold Monday ahead of the Fed's official announcement on interest rates Tuesday afternoon. The tepid volume epitomized the lack of commitment on the part of traders. Only 851 million shares traded on the NYSE while a mere 1.3 billion exchanged on the Nasdaq. For its part, the Nasdaq Composite (COMPX) drifted lower from the opening bell, ultimately bouncing from the 2061 level. A small, sharp short covering rally near the close of trading boosted the COMPX from its day lows, but could not overcome the majority of earlier losses.

The COMPX was led lower by weakness in the Philadelphia Semiconductor Index (SOX.X). The selling pressure in chip- related issues stemmed from bearish comments from Thomas Weisel Partners' Eric Ross, who lowered estimates on Intel (NASDAQ:INTC). Ross noted that Intel's shipments of its new Pentium 4 chips were coming in lower than previously anticipated. In addition, Ross said that Advanced Micro Devices (NYSE:AMD) is gaining market share from Intel and is likely to engage in a price war, which will further pressure Intel's margins.

Shares of Intel pressured the SOX early this morning, and weakness in others such as Applied Materials (NASDAQ:AMAT), Xilinx (NASDAQ:XLNX) and KLA - Tencor (NASDAQ:KLAC) combined to push the chip index below the 600 level intraday. Although the SOX bounced from its 50-dma at 593 Monday afternoon, we'll be monitoring it closely following the Fed's announcement for insight into the direction of the broader tech sector.

Despite the lingering weakness in the tech sector, the Dow Jones Industrial Average (INDU) managed to put together a decent day late Monday. Powering the INDU higher were shares of Alcoa (NYSE:AA), Boeing (NYSE:BA), Citigroup (NYSE:C), DuPont (NYSE:DD), ExxonMobil (NYSE:XOM), General Electric (NYSE:GE) and J.P. Morgan Chase (NYSE:JPM). These types of stocks (cyclical and financial) continue to trade well in the current market environment, which is why two cyclical plays are currently on the OI call list: Boeing and Caterpillar (NYSE:CAT).

The late-day advance in the INDU was likely a result of market participants placing small, but sure bets ahead of the FOMC's announcement Tuesday. Technically, the INDU bounced off the 10,800 level Monday afternoon, and that will be the support level to monitor in the very short-term. As for resistance, the INDU faces congestion just above at 10,900 and, of course, thereafter at the 11,000 level. We may soon get the answer to the question of whether another 50 basis points is enough to power the INDU above 11,000?

The consensus among economists and the market is for the Fed to cut interest rates by another 50 basis points to 4.00 percent. Along with the actual decision on rates, the market will be listening closely to the guidance given by the FOMC concerning its future policy on interest rates. Obviously the market wants to hear that the Fed will keep cutting rates, but many expect Greenspan & Co. to ease off the accelerator following its meeting Tuesday. What the market will be listening for is whether the Fed is done cutting in this cycle of benign monetary policy, or if the Fed will continue to cut, but at a slower rate (Read: 25 basis points). The most aggressive of economists expect the Fed to take its key lending rates down to 3.5 percent during this cycle, which would be accomplished with two more 25 basis point cuts, thus appeasing the market.

In short, the guidance given by the Fed Tuesday afternoon may be more critical than the official announcement on rates, assuming they cut by 50 basis points. If the Fed ONLY cuts by 25 basis points, I - along with the majority of traders - think the market, especially the COMPX, will sell-off and it might be prudent to hit some bids in four-letter names.

In addition, if the Fed cuts by 50 bps, but states that it is going to quit cutting, again the COMPX will sell-off as the market comes to the realization that the Fed is no longer on "The Team." If the Fed states that it's done cutting, the COMPX will be left to its own devices and will have to work higher on its own merits (Read: Fundamentals).

What we need to hear from the Fed is that it remains vigilant in its quest to stimulate economic growth through monetary policy - that's what the market wants! I think it would be a mistake for the Fed to stop cutting rates at this point in the cycle because banks are still too tight with credit, and the economy needs a loose lending policy in light of the current environment. If the Fed does deliver the 50 basis point cut and guides towards continued easings, I think the most interest rate sensitive names will work higher over the short-term. And those are the Caterpillars, Boeings, Citigroups and J.P. Morgans of the market.

In addition to the Fed's announcement Tuesday, there are several high-profile earnings numbers coming from the tech sector this week. Following the Fed Tuesday, Applied Materials will announce its fiscal second-quarter results. Amat's estimates have been in a severe downtrend for over three months, with the current consensus calling for the capital equipment giant to earn 33 cents per share. It's pertinent to note that shares of Amat were upgraded last week, so we'll find out Tuesday evening if that upgrade was warranted. We'll also be listening closely to the guidance given by Amat. As I've written in the past, the semiconductor business was the first turn down last year and is very likely to be the first to turn higher once business conditions improve. That said, the guidance given by Amat Tuesday evening will be crucial in determining the direction of the SOX over the short-term along with the COMPX. We'll be on the conference call and would like to hear the magic word that was whispered by Chambers last week: Bottom.

Thursday will bring two more BIG earnings reports. Dell Computer (NASDAQ:DELL) will report its fiscal first quarter number, with consensus estimates calling for 16 cents per share. The PC sector was also an early casualty of the bear market, so again with Dell, we'll be listening for an up-tick in business. But, there appears to be a price war in the making between the PC makers, so the Dell number may be somewhat muted by that fact. Nevertheless, Dell still accounts for roughly 2 percent of the Nasdaq-100 (NDX.X), and for that reason its number is very pertinent.

Our trifecta of big tech reports this week is rounded out by CIENA (NASDAQ:CIEN). The optical equipment maker has bested estimates during its last several quarters, which makes this report interesting due to the continued signs of slowdown in the telecom space. CIENA is set to report earnings after the close Thursday, with consensus estimates calling for 16 cents per share.

Lest we forget that it's expiration week for May options contracts. With the slew of tech earnings due this week in addition to the Fed announcement Tuesday, there's sure to be an increase in volatility this week. And the increase in volatility in conjunction with cheap May contracts will provide the recipe for big money-making moves this week. I hope ALL of my readers get in on some of those moves!

Eric Utley
Assistant Editor

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