Option Investor
Market Wrap

Bulls Regroup On Sidelines After Bear Attack!

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        WE 7-06          WE 6-29          WE 6-22         WE 06-15
DOW    10252.68 -249.72 10502.40 -102.19 10604.59 - 19.05  -353.36
Nasdaq  2004.16 -156.38  2160.54 +125.72  2034.82 +  6.39  -186.67
S&P-100  612.95 - 19.07   632.02 -  4.13   636.15 +  9.52  - 25.29
S&P-500 1190.59 - 33.79  1224.38 -   .97  1225.35 + 10.99  - 50.60
W5000  11059.56 -347.59 11407.15 + 94.70 11312.45 + 74.45  -498.70
RUT      483.26 - 29.38   512.64 + 23.99   488.65 -  6.48  - 16.51
TRAN    2748.92 - 81.04  2829.96 +153.47  2676.49 - 17.13  -188.47
VIX       24.97 +  3.34    21.63 -   .87    22.50 -  3.83  +  4.92
Put/Call    .90              .58              .69              

The positive sentiment that was gaining ground during the Russell shuffle a weak ago is nowhere to be found this weekend. The bears came out in force and took advantage of the low holiday volume to maul any tech buyers that dared nibble at the dip. Ugly, very ugly, was the best thing I can say about the market on Friday. The only saving grace was the very light volume, only 1 billion on the NYSE and 1.4 billion on the Nasdaq. It was not a selling frenzy but simply a buyer boycott. Traders were still enjoying the long holiday, at least those who were not in front of stock TV, and the market on Monday will look significantly different than the one they left a week ago.

EMC was cursed, beaten, battered and sold to the tune of 70 million shares and over an -$8 loss. Dip buyers avoided EMC like a week old picnic lunch and threw it out of their portfolios while holding their noses. Is this the same "can do no wrong, storage will never shrink" company that investors loved in the past. Investors might do well to consider that regardless how many layoffs occur, every day a company is in business it requires more storage than the day before. Eventually EMC will ride the economic wave again. Those who bought EMC today are most likely long term investors who have made a habit of buying stocks when everybody else is selling.

The tech sector in general was hammered by sellers and there were no pockets of strength. About the only stocks in the green on my watch list were energy, some health care and a couple of drug stocks. Only 26 stocks were positive out of the almost 400 I watch.

For a low volume day the loss in market cap from the major names was staggering. EMC lost -$18 billion, AMD -$2.5B, IBM -$8.5B, GE -$13B, MSFT -$12B, INTC -$6B, CSCO -$5B, ORCL -$3B. That is almost -$70 billion in only eight stocks.

The impact of the multiple major tech warnings from Thursday night was exaggerated by the jobs report on Friday morning. The economy lost -114,000 jobs in June which was much worse than estimates of -25,000. The unemployment rate rose to 4.5% which is still low compared to prior recessionary cycles. The only good news in this report is the likelihood that the Fed will continue to lower rates. The majority of the job losses were in the manufacturing sector and shows there is still no recovery under way. The average hours worked declined during the second quarter and suggests that output also declined. Consumer confidence cannot continue to climb with more and more workers losing their jobs. Consumer spending has been strong but there are signs that even that is starting to cool. There was another round of layoffs in the last week and every indication that it will not improve soon.

The drop in consumer confidence and cooling of spending was evident in the warning by Harrahs Casinos on Thursday. Room occupancy is down drastically and gamblers are harder to attract. Sales of pre-owned luxury cars has slowed significantly and high priced toys like motorcycles, jet skis and boats have reached drought mode. Robert Mondavi, the wine maker, warned that sales had slowed and they would miss their profit targets for 2002. Even Starbucks got hit with a downgrade because fewer consumers are spending big bucks for fancy coffee drinks. The Fed is very concerned with the consumer but after the recent series of rate cuts they don't have much left in their arsenal. Greenspan is hoping the tax refunds will fuel a buying binge but if consumers simply pay down credit cards instead, he could be in trouble.

The sell off in the Russell followed the runup just like night follows day. The profit taking from the annual pump and dump is continuing and the Russell has lost almost -30 points since last Friday. I mentioned last Sunday that the Russell shuffle had created an artificial bullish sentiment bubble. The bubble was lifting all stocks, not just new Russell candidates, and it has burst. Reality bites and it bit investors with the AMD, EMC, MONI, FD, BMC warnings on Thursday.

Previous tech strongholds are being attacked on all sides. Goldman Sachs cut estimates for IBM, SUNW, NTAP and BRCD. They said the June/July quarter for enterprise systems companies is showing deteriorating trends compared to the prior quarter. They said that what few signs of stabilization that are occurring in the U.S. are occurring at very low levels. The analyst cut revenue estimates for EMC by -$900 million in 2001 and $1 billion for 2002. A major haircut! Credit Suisse First Boston cut IBM all the way to a sell above $100 saying that IBM was at risk for missing estimates due to the tech purchasing slowdown, European economy and currency issues. IBM has stood out from the crowd deriving a majority of its revenues recently from software and services instead of sales of hardware. The stock had been holding its ground until Friday when it lost -5.60 to 106.50. IBM may be giving us a glimpse of the future when it announced they were cutting -500 workers from a plant in Hungary. Just a trickle of news but most floods start with a single rain drop. They did say three times that is was not a warning but does that mean the real warning is being held for a better day?

The optimistic outlook that the worst is behind us is showing signs of fraying around the edges. The European economy is starting to accelerate downward. The Euro at .84 to the $1 is causing problems with multinational companies. Asia is weak and showing no signs of immediate recovery. Rumbling is now coming from South America where currency problems are growing for Argentina, Brazil and Chile. The Japanese market is trading at three month lows. The U.S. is not alone and should a couple of these other dominoes fall we could see an entirely new leg down. I am not claiming this will happen but the talking heads are starting to squirm as each news report describes yet another challenge.

Our own stock market is struggling to hold its ground. There have been 205 delistings of Nasdaq stocks so far this year compared to 69 at this time last year. The Dow is below the level where the Fed started its aggressive series of rate cuts. The semiconductor sector, the leading indicator for any tech recovery, is at a three month low. The biotech index is near a two month low. The networking index is at two year low.

Is that enough bad news? Are you ready for some good news? The jobs report is a lagging indicator because business must pickup before there is a need to hire more workers. The tech recovery is projected to return to profitability by 2Q of next year at the latest. That may be too pessimistic. The Fed has cut rates for six months and almost all those rate cuts have yet to be felt in the economy. There are signs of an economic bounce in the earliest stages and all investors need is a whiff of money in order to spend money. The Nasdaq is sitting dead on support at 2000 and is now very oversold and due for a bounce. Maybe just a trading bounce but a bounce. Skepticism in the markets is a good thing and we have plenty of it. Market internals were very bad with decliners beating advancers more than 2:1 but that was on a very light volume day. Many traders are still on vacation and the odds are really good they will come back on Monday and start shopping for bargains. There were no major warnings on Friday and that would have been a good day to report unseen at the close. Am I grasping at straws? Maybe, but I would rather have my finger on the trigger and ready to buy the bounce instead of being caught flat footed and whining about how bad things are.

The biggest problem was not that AMD and EMC warned but the severity of the warnings. Every investor knows that times are bad but they were not expecting things to be THAT bad. Investors got their earnings vaccination on Thr/Fri and will be a little less reactive to the next big warning or earnings miss. The medicine may be hard to take but the big dose we got last week will go a long way towards putting a bottom under the market. Big reactionary drops tend to clear out the weak holders and the investors that buy those stocks on very bad news are normally longer term investors with more tolerance for risk.

The warning season is now over. Sure there will be a few laggards but the 80+ warnings from last week represent the biggest portion of the end of quarter reporters and now we will move into real earnings reports. There is a growing opinion that many companies have warned to take the pressure off lagging sales and profits and are using the opportunity to write down/off all the skeletons in their closets. Real earnings may not be as bad as expected and lead to an upside surprise. Monday is the first real day of the quarter. This week was a throwaway and Monday will be decision day. Portfolio managers all over the country will be coming back from vacation and meeting to discuss new purchases. There are some bargains and they will start nibbling. While I would like to forecast a strong rally beginning on Monday I can't. Nobody can. I simply think the sellers are running out of gas and buyers have been waiting on the sidelines for two months to see if the April lows are really THE lows. Next week will be the true test. If we can hold 2000 and fund managers breathe a sigh of relief and start taking positions then we are safe. That would of course smack of a summer rally and you know I am not a fan of that possibility. They happen occasionally but not often and with no strength. The negative possibilities are still with us. GE, near a three month low. IBM, near a three month low. MER at a three month low. These are warning signs that the market may not simply sprout wings and fly away on Monday.

I have tried to paint both sides of the market outlook. It is definitely cloudy at best. As traders we should be ready for a possible oversold bounce and ready also for that bounce to fail. If real earnings next week start out with some decent announcements then we may have had a successful retest of 2000. If the first dozen or so announcements contain more negative statements of global doom and gloom then move to the sidelines and spend more time at the lake. Like I said last Sunday, the bottom may be behind us (April 4th) but that does not mean there are not some potholes left in our future. This past week is a prime example. Investing is a game and like a football game there are good quarters and bad quarters. We are currently in a bad quarter, deep in our own territory and defending our goal line (2000) against a determined attack by the bears. We need to hope for a fumble recovery by our team and then retain possession for a long time!

Enter passively, exit aggressively!

Jim Brown

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