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Market Wrap

Lower Lows

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12-04-2002                High    Low     Volume Advance/Decl
DJIA     8737.85 -  5.08 8811.62  8653.38 1858 mln  619/1193
NASDAQ   1430.35 - 18.61 1444.18  1412.92 1856 mln  272/1566
S&P 100   468.03 -  1.59  472.46  463.86   totals   891/12759
S&P 500   917.58 -  3.17  925.21  909.51
RUS 2000  397.53 -  3.30  400.83  394.22
DJ TRANS 2345.48 +  8.44 2365.91 2318.16
VIX        32.14 +  0.38   33.14   31.23
VIXN       53.55 +  1.56   55.73   52.72
Put/Call Ratio 0.89

Lower Lows
by Steven Price

We tested some crucial levels today and the major indices left us questioning whether we had seen a trend reversal. We have definitely been seeing lower intraday resistance points for the last several days, but the big question is when it is time to turn around and go short. One of the indications I like to focus on is whether we continue to find buyers at successively higher levels on each pullback in a rising market. A series of higher highs and higher lows is certainly bullish and short plays aren't profitable for long. However, when those higher lows turn into lower lows, red flags fly and that is exactly what we saw today.

We started out in a downdraft this morning, following several announcements after yesterday's close. Hewlett Packard CEO Carly Fiorina said the company was ahead of schedule in trimming costs, but that the company could not raise guidance due to tepid technology spending and an uncertain economy. That weighed on the tech sector this morning, with the Nasdaq Composite dropping 36 points a low of 1412.92 early on, before rallying back to a close of 1430.34, down 18.62 on the day. The low of the day was below its last pullback, on November 26, and constituted the first lower low since the recent rally began during the second week of October. The most recent breakout level for the index was 1426, the August high, and led a powerful run to the recent high of 1521.44. After today's rebound took us back over that level, we are left deciphering the significance of a close back above the breakout level.

Chart of the COMPX

The Semiconductor Index (SOX) also fell steeply, following the Hewlett Packard news, along with a Morgan Stanley downgrade to the semiconductor capital equipment makers, based on their outlook for a muted cyclical recovery in 2003. As if that weren't enough for nervous stockholders, after the recent rally has faded, Deutsche Securities also downgraded the analog chip stocks, saying they expect fundamentals to become incrementally weaker. Software maker PeopleSoft also said it saw customer spending flat next year. While it is not a chip stock, I want to make readers aware that the spending issue is still alive and well across the tech sector. The SOX pullback was significant in that it also broke the trend of higher lows on each pullback during the recent rally. It established a lower low for the first time since the rally from 214 began in the middle of October and is now testing the bottom trend line of its ascending channel. What may also be significant is the bounce from a previous resistance point at 329, with an intraday low of 330. The chip stocks have pretty much led the tech sector and today was no different. If we get a drop under 329, 310 is most likely the next support line, with a trip back into the 200s not far behind.

Chart of the SOX

In keeping with the same theme, we also saw the Dow, OEX and SPX set lower lows this morning, followed by an afternoon rebound that took them briefly into positive territory, before falling into the close. The Dow fell out of its ascending channel when it traded under 8750 yesterday, and then broke the trend of higher lows when it dropped under 8670 this morning. The current trend reversal, if that's what it is, is fighting a number of factors. First, we have been trending up since the second week of October. Second, the bullish percentages are very high, with the Dow and NDX in overbought territory, and underscore both the current strong bullish sentiment in the market, as well as the risk to getting long in such overbought conditions. That bullish sentiment, however, tends to bring in dip buyers, even if the dips grow successively lower. A look at the point and figure chart shows that although the Dow set a lower low on the daily chart, it bounced just 3 points above the PnF sell signal. Traders looking to go short the broader market on a Dow signal may want to target that sell signal at 8650, which would confirm the lower low on the daily chart. Judging by the 2:1 decline to advance ratio, we may see that number soon.

Chart of the Dow

We got a couple of economic reports this morning. Non-farm productivity rose at an annual rate of 5.1%, revised higher from last month's estimate of 4.0%. This reflects the results of job cuts and was the highest gain since 1973. Fed Chairman Alan Greenspan warned last month that the gains we are seeing in productivity, resulting from job cuts, is not sustainable and will eventually drop off as we either stop getting rid of workers, or employees who are picking up the slack with longer hours eventually burn out and become less productive. Factory orders actually came in below expectations, although they still saw an increase of 1.5%. This was the first increase in three months, but September orders were revised downward, as were bookings at manufacturers for durable goods. The ISM non-manufacturing index also showed a gain, coming in at 57.4, considerably above expectations for 54.0. The ISM report resulted in a short-lived market rally after it was released mid-morning, but the Dow re-tested its lows after that gain.

As we head further into the official holiday shopping season, we got a couple of warnings about sales coming in below expectations. I have said before that one of the big wild cards in a continuing rally is holiday sales, which reflect consumer spending patterns. If consumers won't spend at this time of year, then any economic recovery could be a ways off. Federated, which owns Bloomingdale's and Macy's, said that even better than expected Thanksgiving sales did not offset weakness from earlier in the month and that it sees November-December holiday sales at the lower end of its previous guidance, which predicted sales flat to down 2.5%. That would indicate an even weaker holiday season than last year, when we were still recovering from 9/11. The sentiment was reiterated by American Eagle Outfitters, which saw its same store sales decline 4.9% in November. Office Depot, which relies more on the business sector than holiday shoppers, nevertheless also saw 4th quarter sales running below expectations. The Retail Index still managed to eke out a gain for the day, but the more reports we get of this nature, the gloomier my outlook gets.

United Airlines (UAL) plunged after the bell, falling from a closing print of $3.12, to a low of $0.80, before rebounding to trade just over $1 per share. The airline's application for a $1.8 billion loan was rejected by the Treasury Department's Air Transportation Stabilization Board and UAL will likely file for bankruptcy. The board said the company's business plan was not financially sound and based on unreasonable revenue projections. The board's statement said, "This plan does not support the conclusion that there is a reasonable assurance of repayment and would pose an unacceptably high risk to U.S. taxpayers."

With non-farm payrolls and unemployment claims out in the morning, we should get a good idea whether today's failed afternoon rally to 8800 in the Dow was bullish, after testing the new low mentioned earlier, or bearish, as we have a new ceiling in place. I'd be looking for a break back below 8650 as a sign to pile on short. If we break back over 8800, then the next pivotal level will be the August high of 9077. The market has been whipsawing us dramatically in recent weeks, so be careful to commit only levels of capital you are comfortable with, and don't be afraid to close out a loser for minimal cost. At some point, we should see a definable trend, but for the moment, staying lean seems the most prudent idea.

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