A Little Bit Of Everything
Mixed earnings reports and ugly economic data led to flat trading in the Dow Jones Industrial Average ($INDU) and S&P 500 (SPX.X). Meanwhile, big cap tech worked higher as measured by the almost three percent gain in the Nasdaq-100 (NDX.X). All the while, bonds advanced as measured by the decline in yields across the gamut of treasuries.
The Federal Reserve released its Beige Book report on the economy Wednesday afternoon for the period between September to early October, which revealed that the U.S. economy further weakened in the wake of the September 11 attacks. The report was expected to be weak, so it didn't do much to embolden the bears. The Fed reported that some businesses have recovered, but that retail and manufacturing remained weaker than during the pre-attack period. The Fed also reiterated that inflation remained in check as mounting layoffs have eased pressure on wages and prices.
Two old economy companies added to the layoffs that the Fed referred to. Eastman Kodak (NYSE:EK) - a component of the INDU - guided lower Wednesday morning. The company said that it may have difficulty meeting its fourth-quarter numbers, which would necessitate the elimination of 3,500 to 4,000 jobs, which is on top of previously planned job cuts. Shares of Kodak shed $3.46, or 10 percent.
The oldest U.S. department-store chain, Sears (NYSE:S), reported numbers that met estimates. In conjunction with its earnings release, Sears announced that it would undergo a massive restructuring over the next three years, which includes cutting 4,900 jobs. The stock finished fractionally higher by 1.37 percent.
What's the Catalyst?
With dismal economic and earnings reports filtering out over the past two weeks, I've been wondering what's been driving stock prices higher. Going into September 21, the market was so historically oversold that it had nowhere to go but up. But, the rally over the past five days has been somewhat perplexing insofar as the driving force behind it, especially in technology (NDX).
I, by far and away, give the most credence to price action, or supply and demand, but still like to form a market thesis based upon fundamental findings. Naturally, I've been curious about the recent moves in Broadcom (NASDAQ:BRCM), QLogic (NASDAQ:QLGC), Brocade (NASDAQ:BRCD), and the like.
The recent moves in the aforementioned stocks, and others like them, have been illogical to me because they are expensive stocks; their current earnings don't justify their valuations. That's not to say that I haven't tried to take advantage of recent rallies in the aforementioned because, in the end, I defer to supply and demand. But the moves just haven't made sense.
My good friend and colleague, Jeff Bailey, quite often curls up his nose and adopts a funny little accent and says, "Trade what you observe."
I've been observing a dynamic demand situation, especially in big cap tech, over the past five days. I suppose that there are myriad justifications for the rise in stocks, such as the massive amounts of liquidity that the Fed has pumped into the system, the historically low level of rates, and the accompanying low level of interest bearing cash accounts, to name just a few. More concrete, perhaps, are the current goings on amongst U.S. politicians.
Late Wednesday, the House narrowly passed a $100 billion economic stimulus package. There are several facets to the package, but the important parts of the package are the ones aimed at stimulating business investment because the current recession, unlike so many others, has been a business-led contraction.
The bill proposes to repeal the corporate alternative minimum tax, or AMT, refunding payments dating back more than 15 years. The refunding of past payments would "give back" billions to corporate America. For instance, some estimates have suggested that IBM (NYSE:IBM) would get a $1.4 billion refund. Suddenly, the $2.60 move in IBM Wednesday doesn't seem all that illogical. In addition to the repeal of the AMT, the bill proposes to temporarily increase business capital loss deductions, which would expedite the write-down process and clearing of inventories.
I don't know if the package will eventually pass, nor do I know if the news of the House passage has already been factored into stock prices. What I do know, however, is that bringing biases to the trading terminal is awful costly. Very few individual traders are privy to the information that the large institutions are, such as whether or not a certain economic package will receive the necessary votes in the House. Because of that fact, it's paramount for individual traders to "trade what [they] observe."
The Big Three
The INDU and SPX made no progress in either direction Wednesday. For its part, the INDU continued to churn around the 9300 retracement level that I've been writing about. Meanwhile, the SPX closed at 1085.20, need I write more? Check out Tuesday's Market Wrap if these levels are unfamiliar.
The "Pullback or Push Higher" thesis is coiling with anticipation. I don't think that the INDU and SPX are going to spend the next several weeks toying around their retracement levels. When least expected, the INDU and SPX will either breakout or breakdown. The way to trade any forthcoming move, like I wrote Tuesday, is to have the appropriate levels in place to detect a change in price patterns. Or, in the words of my partner in adventure, Austin Passamonte, "watch for the wedges."
It could be argued that the NDX is forming an ascending wedge with a top around the 1440 level. The NDX did snug right up to its short-term resistance at 1420 near the close Wednesday, reaching as high as 1430 earlier in the day. But there are two problems I have with trading a breakout above 1440: First, so far, there's really only one reference as resistance at 1440 from last Wednesday. Second, the 1460 (38.2 percent retracement level) level sits just above the upper-end of the wedge.
For bullish plays, ideally, I'd like to enter on a pullback down to the NDX's ascending support line with an ultra-tight stop. That way, I can easily manage risk and be in ahead of any breakout attempt above 1440. Also, if the breakout fails, then I have some room to manage positions.
Tech Sector Take
The Networking Sector Index (NWX.X) has out performed the NDX to the downside for the past year-and-a-half. But starting back on October 11, it began to out perform to the upside. In fact, the NWX.X out performed again Wednesday. Its strength may be stemming from the proposal to temporarily increase write-downs for businesses.
The index could breakout in the coming days above the 284 level. A breakout attempt is worth watching in here in the NWX.X because the index really doesn't have much resistance immediately above current levels. From where I sit, the NWX.X's next major resistance area lies between 308 and 314. CIENA (NASDAQ:CIEN) and Juniper (NASDAQ:JNPR) have been two of the stronger stocks in the group.
The Software Sector Index (GSO.X) gave a buy signal Wednesday with its advance past the 156 level, albeit only fractionally. It could have 10, or possibly 16, more points of upside if they keep buying tech stocks. Notice the similarities and differences between the GSO.X chart and the NDX chart above. Of the components of the GSO.X, Symantec (NASDAQ:SYMC) and Intuit (NASDAQ:INTU) have been two of the stronger performing stocks in the group.
The GSO.X and NWX.X could serve as leading indicators of the NDX over the coming days. If we witness follow-through in the two sectors into Thursday's session, then we could see the next wave of short capitulation, which would carry the tech sector higher. Then again, Wednesday's late-day pop could've been a head fake. In either case, "trade what you observe." And for profit's sake, be objective about it.