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Market Wrap

Ho Ho Ho

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12-16-2002                  High    Low     Volume Advance/Decl
DJIA     8627.40 + 193.69 8627.54 8434.74    1497 mln  1223/254
NASDAQ   1400.33 +  37.91  1400.49 1365.66   1375 mln  1018/342
S&P 100   463.26 +  11.45  463.27  451.81    totals    2241/606
S&P 500   910.40 +  20.92  910.42  889.48
RUS 2000  394.90 +   6.92  394.90  387.98
DJ TRANS 2359.00 +  40.53 2359.65 2318.04
VIX        29.98 -   2.14   32.73   29.83
VIXN       49.84 -   1.08   52.15   48.81
Put/Call Ratio 0.98

Ho Ho Ho
By Steven Price

Did Santa Claus come early? It certainly appeared that way, as we got a broad market rally heading into the year-end stretch. We have seen a historical up trend in the final weeks of trading in recent years. However, after Friday afternoon's sell-off, traders were left doubting whether we would see a repeat, of if the economy had been crippled to the point of no return.

We got an intraday bounce off of the 50 day moving averages in the SPX, Dow and OEX on Friday, which would be a logical point for an end of year rally to begin. That being said, those rallies looked weak, as they rolled over and headed south into the close. However, with today's action, the market appears as though it may be ready for that end of year rally, as it coincides with a bounce point that came after an extended sell- off. Certainly if we had continued to drop through those 50-dmas today, there was additional support not far below, at the late- October, early November lows. However, if we can break above last week's highs, we may not get another look at those levels before January. Last week's highs coincide closely with point and figure reversal levels in the Dow and OEX, while the S&P 500 reversed itself today. The PnF reversal level in the OEX of 464 is just above the December 11 high of 463.87. The Dow PnF reversal level of 8600 was hit today and comes close to the December 11 high of 8625. The SPX reversed at 905 today, but still has that December 11 resistance of 910 to deal with. The high that day was 909.94. If we can break through those levels, we may see another test of Dow 8800, which coincidentally would appear as a possible right shoulder in a new bearish head and shoulders formation. The last time that pattern appeared to be forming, we instead got a failed right shoulder and big rally up to 9043 in the Dow. So this time around I'll wait for another shoulder and a neckline break before declaring that the sky has fallen. The skinny on today's action is that we certainly ended toward the high end of the recent range, but have yet to break resistance and the pattern of lower highs.

Chart of the Dow

Chart of the SPX

Point and Figure chart of the Dow

Point and Figure chart of the SPX

A look at the tech indices' point and figure charts, however, paints a different picture. Those indices are actually still in a bullish column of "X" and bounced above their downward reversal levels. The NDX would have reversed down on a trade of 1000, yet reached a low of 1005 before reversing up today. The Nasdaq Composite would have reversed into a bearish column with a trade of 1350, but bounced from 1362.

Chart of the NDX

Chart of the COMPX

The chip stocks, which tend to lead those tech indices, have been range bound for the last several days, with the Semiconductor index (SOX) finding a top at 330 and a bottom at 307. Today's bounce also put it in the top end of that range, but never really tested resistance.

There wasn't any official economic data, but we did get some industry signals from which to draw inferences about the economy. First was news from Wal-Mart that sales last week were once again at the low end of its expectations. This has been a trend ever since the one-day revenue record set the day after Thanksgiving. That was most likely a result of the late Thanksgiving holiday and has been shown to be an aberration ever since. Federated declined to give sales results for last week, suggesting it was too early to make a prediction with a high percentage of sales still to come before Christmas. J.C. Penney (JCP) actually posted decent numbers, continuing its recent turnaround. However, JCP's same store sales are still only predicted in the low single digits and it is forecasting a 20% decline in catalog sales. Although I've mentioned this before, I think it is worth mentioning again - the late Thanksgiving pushes a higher percentage of sales toward the last two weeks before Christmas, when aggressive discounting digs into profits. My weekend trip to the largest mall in the Denver area revealed extreme markdowns, which are likely to eat into the retailers' bottom lines. If the same store sales numbers are already poor, then I'd be looking for puts in the sector at the tail end of the year if we get a rally. The earnings numbers should be disappointing when they are released around February and I'd probably look for puts out to March, IF we get the end of year run.

That doesn't mean I'd be shorting every stock in the sector, as the home-furnishing retailers still look strong. Last week's retail sales data showed that while mall-type stores saw sharp sales declines, furniture and hardware stores saw significant increases. This is consistent with housing data that shows that while the housing market may be slowing, it still remains strong. Today's release of the Homebuilders index of housing activity came in at 65, which is the highest level since November 2000. That tells us to concentrate short activity on stocks that are not tied to this still strong area of the economy. One other factor to consider is the credit portfolio of many large department stores. Sears (S) took a beating earlier this year when it revealed huge losses in its credit card division, due to under-performing accounts. We got another red flag over the weekend regarding similar problems for Target (TGT). Barron's reported this weekend that the company is seeing rising defaults at its credit card operation. Right now TGT earns a 4% return on its credit card portfolio, which is higher than most credit card companies. Those card companies see a return of around 1.5% and if TGT's portfolio was reduced to similar returns, it could shave as much as $0.15 per share from its earnings for 2003. During the fall, we saw the credit problem taking a bite out of both small and large banks, as companies that didn't make it through tough economic times defaulted on business loans. Last week, we got some comments regarding high net worth individuals suffering the same fate. With the Sears problem highlighted previously, this may be an issue that continues to poke its head out of the sand as unemployment continues at high levels and individuals that hold store credit cards get further behind on payments. Many stores have pushed these cards hard, offering credit to lower income individuals in an effort to boost sales. The higher interest rates looked like a great risk/reward scenario, but appear to have caught up to the issuers, since high interest is only profitable when cardholders actually make payments. The Retail Index (RLX.X) actually finished up on the day, benefiting from the rising tide and suggesting the results weren't quite as bad as expected. Still, I'll be watching that rising tide for short opportunities in the sector.

The Market Volatility Index (VIX) certainly indicated that option traders are growing more bullish in the near term. As we embark on expiration week, the VIX calculation discounts December options and shifts the calculation to January and February. Those January and February options lost some relative value today, as the VIX broke down below 30 for the first time since December 2. While some analysts use this reading as a contra- indicator, the 2.14 -point drop reflects a drop in the level of downside fear currently in the market. As technical resistance levels are taken out and we head into a traditionally bullish time of the year, we can expect this number to continue to drop if today's rally holds. One other factor to keep in mind is that a lack of trading will also lower the number, and today's light volume (1.2 billion shares NYSE/1.4 billion Nasdaq) could also be a contributor.

Now that we've seen some bullish signals on the point and figure and daily charts, it looks like the near term trend is up. Tomorrow's economic data, which includes CPI, housing starts, industrial production and capacity utilization, could throw a wrench in that prediction, since we had no data today to support the rally. However, from a technical standpoint, we have certainly cleared out some barriers to the formation of that right shoulder I referred to above. Traders can feel bullish for the time being, but that time being may still be pretty short.

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