Bullish Sentiment Suffocating
During trading on Wednesday, the Dow appeared intent on breaking above 8800 and closing above its 50 DMA, currently at 8744. Just one day later, sentiment takes a turn for the worse as selling pressure intensifies and bulls run to the sidelines.
It all started on Thursday with a troubling Initial Claims report for the week of September 7th, rising 17,000 to 426,000 and placing this highly-watched indicator at its highest weekly reading since April 20th. This is the third week above 400k and a continued rise could begin to seriously affect the labor market going forward. The shortened Labor Day holiday work week could have been responsible for volatility within Thursday's report; however, the more reliable four-week moving average rose and diluted any possibility for a bullish spin. This labor report seemed to be the catalyst for traders rushing into US Treasuries and selling equity positions in order to raise cash.
It wasn't much longer when equity holders had to deal with more bad news. This time it was a report on the current account, rising a staggering 15.6% in the 2Q to a record 129.96 billion. As the report was read, fixed income traders began selling the US dollar and seeking bonds as a safe haven. Analysts commented later in the day that the deficit is unsustainable and poses a risk to the U.S. and global economic outlook. Analysts made it clear that negative implications if such a deficit continues include the dollar plunging.
What else did bullish traders have to contend with on Thursday? Former CEO of Tyco, Dennis Kozlowski, and others likely to face criminal charges due to millions received in unauthorized compensation. Shares of TYC fell fractionally, closing at 17.79 and still above both its 22 and 50 DMA's. The saving grace may have been JPM organ upgrading the company to "buy" before the day's session got underway.
More impacting news included Lehman cutting their 2003 forecast for revenue growth in the Semiconductor Equipment industry to 10-15 percent from their previous forecast of 27 percent. Also significant was shares of AOL falling 6 percent and closing under its 22 DMA, following Goldman Sachs cutting their EBITA estimates on the company due to unresolved issues. AOL is in the process of creating a less top-heavy management structure, as well as dismantling its business affairs unit. AOL's business affairs unit is currently getting Federal attention due to opaque accounting practices by the division.
Possibly as early as Friday morning, AOL might make the headlines of the Wall Street Journal. This will most likely be a headline the company would rather not see. Expected in the story are the aforementioned issues as well as AOL's cash flow expected to increase by only 2 percent instead of the 5-9 percent forecast by the company.
Continuing the theme of bellwether companies, shares of McDonalds (MCD) fell almost five percent on Thursday following cautious comments from Goldman Sachs. Inside the comments was skepticism over the company's quality and service initiatives; most likely reducing earnings growth in the near term. How does McDonald's five-percent loss and new multi-year low rank with other issues inside the Dow Jones? The company gets a bronze medal for worst session. See chart below.
Disclaimers: I do not like rumors, especially when it has to do with a company such as IBM. Nevertheless, shares did fall 3 percent to 71.87 and was recently a successful put play for the OI team (which includes myself). Therefore, to the rumor we go: Speculation that the company will lower their guidance for the near future. Defending the company was Soundview, noting that IBM has no way of knowing this early if the quarter will fall short of expectations. Also explained by Soundview was that both the CFO and head of Investor Relations are out of the country. Sound convincing?
Squarely on traders' minds as the trading session took hold was both President Bush's speech to the UN General Assembly and Alan Greenspan's talk before the House Budget Committee. President Bush said that "action will be unavoidable" against Iraq unless the U.N. takes a hard line forcing Baghdad to disarm. Overall, the speech appeared to be uninspiring to equity holders and the current selling pressure continued. Fed Chairman Alan Greenspan made it clear before the House Budget Committee that Congress needs to be more vigilant with fiscal discipline. His speech was focused almost entirely on the budget outlook and need to reenact spending restraint measures enacted back in 1990. These measures expire on September 30th.
After all of that, should any trader in their right mind be bullish? As losers outnumbered winners by a ratio of roughly 3:1 on the NYSE, the 201.76 point loss to 8379.41 might just be a sign of exhaustive selling. Therefore, Friday could be a victory for the bulls. Volume came in at a light 1.1 billion for both the Big Board and Nasdaq. Speaking of other indices, the tech-laden Nasdaq lost 35.77 points, or 2.72 percent, to 1279.68, the S&P 500 shed 22.54 points, or 2.48 percent, to 886.91, and the Nasdaq-100 (QQQ) fell 2.72 percent to close at 22.81.
Chart of Dow Jones Industrial Average Index, Daily
As the chart shows, price action on Friday might have some serious implications for traders wanting to remain bullish. Primarily, the blue trend line which was drawn on September 5th needs to hold. A move under 8330 should confirm a break in trend. Support underneath could be found at 8215, but then the double-bottom would become a triple-bottom and dilute its strength. If responsive buying does take place on Friday, the Dow is expected to test the 22 DMA (currently at 8589) once again. The bearish red trend line is currently at 8669. Of course, as Steve and Jim pointed out, the Dow might be in the process of forming a Head & Shoulders formation; projecting an objective (calculated by myself) of near 7300.
Without getting into the Intermarket Relationships to much, one concern today was the Dollar's failure to settle above its 50 DMA, currently at 107.45. Closing down 0.41 percent at 107.18, there is now a good chance (based on recent history) that the Dollar will weaken further towards its 22 DMA, currently at 106.92. A weaker dollar is good for gold and bad for stocks, in theory. Speaking of Gold, the 4.29 percent rise to 76.09 places the index that much closer to my 80.90 intermediate objective.
Oil, Utilities, and bonds all traded with a bearish slant towards equities. It is the significant drop in yields within the 30-year bond that might also be of concern for equity holders. The TYX.X index saw yields lower by 1.25 percent and, like the Dow, rests on a substantial area of support. It is my opinion that the Dow will lead all indices during trading on Friday.
Getting back to the major equity indices, a chart of the Nasdaq shows the possibility that the tech-laden index will go down and test the relative low of 1192 set during the week of July 21st. If this happens, there will be a good change that low will end up failing bullish traders and becoming resistance down the road.
Chart of the Nasdaq Combined Composite Index, Weekly
What could be the catalyst during trading on Friday? Well, the Producer Price Index (8:30 a.m.) should take a backseat to both the Retail Sales report (8:30 a.m.) and Michigan Consumer sentiment figure (9:45 a.m.). The August Retail Sales report is expected to show a rise of 0.8 percent, adding to July's 1.2 percent upswing. This key report on consumer spending should rise based on recent incentives by auto manufactures and buying of back to school accessories. The Michigan Consumer Sentiment report is expected to rise fractionally to 88 from 87.6, buoyed by higher growth expectations and hope business investment will turn around. Risks include possible war, recession, weak labor market, lower stock prices, and 10 percent fall in the index over last three months. Clearly there are more cons than pros.
With the potential for more downgrades, accounting concerns, terrorist threats, war, and weak economic reports looming large, deteroriating bullish sentiment can still be salvaged. In fact, if the major indices find support and further establish the established bullish trend line, it might actually be the bears hibernating early this winter.