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Market Wrap

Let The Warnings Begin

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      12-03-2002           High     Low     Volume   Adv/Dcl
DJIA     8742.93 -119.60  8861.13  8721.88 1.79 bln 1234/1978
NASDAQ   1448.96 - 35.80  1474.69  1445.23 1.61 bln 1094/2300
S&P 100   469.62 -  7.57   477.19   468.57   Totals 2328/4278
S&P 500   920.75 - 13.78   934.53   918.73             
RUS 2000  400.83 -  7.71   408.54   400.83
DJ TRANS 2337.04 - 44.40  2381.82  2334.27
VIX        31.76 +  1.70    32.32    30.88
VXN        51.99 +  1.82    52.69    51.62
Total Vol   3,612M
Total UpVol   677M
Total DnVol 2,905M
52wk Highs   126
52wk Lows     73
TRIN        1.96 
PUT/CALL    0.89

Let The Warnings Begin
By Jim Brown

It is that time of the month, again. The first three weeks of last month of each quarter is chock full of earnings warnings, analyst meetings, mid-quarter updates and news events worded to cause investor guidance to drop. The is commonly know as the smoke and mirrors period. There is the official announcement, the official spin about the announcement and the analyst interpretation of the announcement. An example would be an analyst comment that HPQ was doing well because their printer business was healthy and they saved $2.4 billion from the merger.

Dow Chart - Daily

Nasdaq Chart - Daily

On the surface that HPQ comment sound great. The company is a year ahead of schedule to trim $3 billion in costs by merging CPQ/HWP into one company. HPQ has already cut -$2.4 billion in expenses or the translated version, "they merged two companies together and then cut half the employees." To say HPQ is doing great because the printer business is up +15% is also an error. The other five divisions lost ground. The leading losers were storage -13%, hardware -20%, Personal Computers -18%. Carly was positive in her spin but the company said technology spending was still tepid and they could not raise guidance due to the current uncertain economy. Translation, "the earnings gains have come from slashing employees and writing off merger assets and are not repeatable."

Just before the bell UAL announced that they were cutting more pilots in two more waves of cuts in Jan/Feb. There is just no pickup in airline traffic and the warning to American airports that Al Queda may have smuggled shoulder fired antiaircraft missiles into the U.S. will make even more travelers reconsider their trips.

Based on auto sales for the month they are not buying new cars for those trips either. Sales were up slightly from the terrible October levels but were significantly below levels from last November. This should not surprise anyone since November-2001 was a banner month with new incentives prompting many to go into debt for a new car since they were going to be spending more time closer to home. The greatly increased incentives this year barely increased November sales over the October drought period. This was likely a dead cat bounce as dealers reacting to the serious October drop pulled out all the stops to lure buyers back into the showrooms. The buy one get one free program by Ford did little to help with sales falling -20% in November. Ford said it would cut production by 25,000 units. The technical drop in November sales was the topic of many news stories today but the main point should have been "actual sales" did not drop from the October levels. If they can hold the current 16 million pace it will prevent a further decline in the sector.

Retail Sales rose for the second consecutive week but only enough to erase the -1.2% dip from the week of Nov-16th. While the sales were up they were only up +0.3% and this was supposed to be a huge shopping week. Reports generally indicated a strong Friday but weaker Saturday. This is not an exciting prospect for the seasonal trend. If shoppers have only four weeks instead of the normal five to complete the task then sales should have escalated more than +0.3%.

In the local parking lot indicator update, I visited a new one million square foot shopping mall here in Denver on Monday. At 6:PM there were less than 30 people in a food court that holds over 500. Most stores had less than 10 customers, many zero customers. I counted customers as we walked through Neiman Marcus. There were 12 in the entire store. The only stores with traffic were the toy stores and Target. I went into a video game store to look for a title on my list and I was the only customer in the store for the entire 10 min I was there. They claim there are 3500 employees in the mall and I would have bet that was twice the number of shoppers.

I dropped by Best Buy to get a DVD player and had five employees ask if they could help me before I made it 150 ft into the store and one was the manager. When I went to check out there were three registers open and no customers at two of them. However, as I drove by Wal-Mart two blocks away the parking lot was packed. It appears to me that sales are only good at the super discount general merchandise stores like WMT and TGT and bearish for everyone else. This may only mean that Denver is a depressed economic center and not a national trend. It does make me more wary about reading between the lines on future retail news.

I have had several emails tell me to stick to stock reporting and spare them the personal retail stories. If you feel that way I am sorry. I think as investors we should keep our eyes open to everything we can observe in the world around us. We should not depend on CNBC to deliver our economic outlook in a tidy package. I personally would rather have an opinion about what the next retail sales report might say BEFORE it is released. I want to know as far in advance as possible if we are going to fall back into another recession. I do not want to be led down the path with the rest of the sheep only to find out the yellow brick road led into a slaughter house. If my economic expectations are low then an upward revision is a pleasant surprise.

The Challenger Layoff report showed that mass layoffs had dropped slightly from the October high of 176,000 to 157,000. This was still the second highest month in the last ten and well above the average of 93,580. More than one third of the cuts were in the high tech industries with the computer sector leading the report with -25,000 layoffs. These job cuts are helping companies cut costs and post higher profits but are doing nothing to help consumers weather the storm. With higher productivity allowing companies to do more with fewer workers it means the eventual rebound may not produce more jobs. Technology improvements are increasing output but fewer consumers will have paychecks to spend. Since Congress failed to extend unemployment benefits for a second time there are more people dropping off the continuing jobless claims each month even though more people are unemployed. This makes the headline numbers even more deceiving. Friday we will get the nonfarm payroll report for November and there is a good chance that we will see a negative jobs number. This is not a sign of a recovery.

Nokia dampened hopes for a rebound in the cell phone market saying global phone sales could rise only +10% in 2003 and equipment for cellular communications would drop by -10% on fears of an uncertain market, war and the global economy. Nokia makes 40% of all cell phones and their forecast carries weight in the sector. This outlook was opposite the bullish forecast by Merrill on Monday, which estimated 474 million units compared to only 440 million by Nokia. TXN also said business in the mobile digital signal processors was on track to exceed expectations for the quarter while the analog competitors were seeing slowing of their business. This shows that only high end phones are in demand while the cheaper mass market models are slowing.

AOL shocked the markets this morning with estimates of revenue for 2003 well below their prior forecast. They put forth a get tough strategy going forward and began promoting their "AOL for life" campaign. Hopefully that does not refer to the time it takes to get connected and download email. They said they were going to concentrate on making a profit on their dialup customers, which translates to higher prices in my view. They are going to try and convert 10% of their 30 million customers to broadband at $15 a month for service plus the cost of the broadband. They are not expecting any sales growth in 2003 and sees earnings in the low end of the prior range. AOL dropped nearly -15% on the news to $14.

Cisco began it's analyst meeting by saying it had no plans to discuss guidance. Chambers said it was not company policy to discuss guidance unless it had changed materially. The analysts in attendance griped visibly that the speech by Chambers was the same speech he gave at the USB conference last month. The general opinion was that nothing positive had changed or Cisco would have tried to spin it to their benefit. Without any new information they theorized that the outlook was negative and the low end of estimates currently apply. CSCO fell to $14.40 on the news and traders were expecting further profit taking on the two month rally from the $8 October low.

We have had comments from HPQ, AOL and CSCO, all of which left us with a sour taste in our mouth and red candles on the charts. The next challenge is Intel, which holds it's update on Thursday. INTC fell to support just above $20.00 on worries that the Thursday meeting could show a lack of pickup in the PC sector. With HPQ showing strong drops in sales of computers and retailers for big ticket items not reporting any gains the outlook is grim. There is a very large replacement cycle looming in our future with software on 180 million computers going off maintenance by June 2003. That is when Windows-98, the Y2K upgrade product, will no longer be supported. This is not a big problem because 98 is very stable (all things considered) and companies with thousands of Win98 computers should have tripped over any problems long ago. The bigger problem is the upgrade path.

A new computer will be much faster but the software will be more expensive due to the new MSFT license program. Companies will hold off changing until the last minute due to cost and complexity and some analysts think they may try to generation skip the Windows-XP release and jump to the successor. If so then the brunt of the next upgrade cycle could be 2004 instead of 2003. The squeeze point is processor speed. Faster servers are being held back by slower workstations and companies may be forced to upgrade due to data constraints. There are as many opinions as there are analysts and all eyes will be on Intel on Thursday.

The markets cratered on the AOL warning this morning and never recovered. The futures after the HPQ announcement and Disney earnings warning after the close are hovering at -4.00 for the S&P and -7.50 for the Nasdaq. This is not painting a bullish picture for Wednesday. There is another flurry of economic reports on Wednesday. Factory Orders, ISM non-mfg, Mortgage Applications and Productivity. Not much in that list to hope for. Support for the Dow is now 8670 and 1440 for the Nasdaq. Both of these levels do not leave us much room to breathe before dropping into critical territory. The challenge is also strong overhead resistance which begins around 8800 on the Dow and 1460 on the Nasdaq. As you can see this is not a very big range and it will require much more effort to go up than drift down. Volume is the weapon of the bulls and it was absent today and will likely be absent until we hear from Intel.

Enter Very Passively, Exit Aggressively!

Jim Brown

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