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Market Wrap

Not What I Expected

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01-28-2002                  High    Low     Volume       Adv/Dec
DJIA     8088.84 +  99.28  8144.00 7991.07    1438 mln  2091/1189
NASDAQ   1342.18 +  16.91  1346.50 1321.44    1381 mln  2064/1237
S&P 100   434.65 +   5.18  436.15  429.47      totals   4155/2426
S&P 500   858.54 +  11.06  860.76  847.48
RUS 2000  373.17 +   4.59  373.44  366.59
DJ TRANS 2165.44 +  21.43 2172.09 2141.26
VIX        35.74 -   4.03   38.68   35.52
VIXN       46.75 +   0.34   47.52   45.82
Put/Call Ratio 0.62

Not What I Expected
By Linda Piazza

Good news! The Commerce Department tallied new home sales at an annualized rate of 1.082 million, rising from November's revised rate of 1.045 million. Inventories fell to 3.8 months' worth from November's 3.9 months' worth. The median price rose.

Looking beneath the numbers, however, showed flat sales in the South and declining sales in the West and Northeast. Only the Midwest saw increased sales, with that region's surge offsetting the troubling results in other regions.

Looking beneath the numbers proved advisable when studying the durable goods number, too. The 0.2% increase in December orders disappointed economists who had expected a 0.8% gain, but the number was even worse than it appeared on the surface. Commercial aircraft accounted for much of the 0.2% increase, but aircraft orders can be volatile. Positive December ISM numbers had led many to expect stronger growth in durable orders, with some forecasting a 1.0% rise.

Many look to the non-defense capital goods portion of the durable goods number as a better measure of economic strength. That component showed a 2.85% gain, but commercial aircraft orders contribute to this component, too. With aircraft orders backed out of the non-defense capital goods component, it fell 0.1%. Orders for cars and communication equipment declined. Inventories rose, perhaps indicating that capital goods aren't being shipped as orders slow.

The day's release of economic numbers also included the consumer confidence number. That measure slipped to 79 in January from a revised 80.7 in December, meeting forecasts.

Again, it proved important to look beneath the headline numbers. While the component that measures current conditions rose from December's 69.6 level to 75.4, the portion that measures expectations for the next six months plummeted to 81.4 from December's 88.1. Some blamed the 6% unemployment rate for the decline in consumer confidence.

How did the markets react to these numbers? Markets climbed into the 10:00 ET time period, but began falling toward the day's lows as markets digested the numbers. Most markets then traded in a tight range until late in the session when short-covering drove them up toward new highs. Markets closed slightly off those highs. Moderate volume levels registered 1.45 billion shares on the NYSE and 1.41 billion on the Nasdaq.

With markets showing short-term oversold conditions, I expected stronger short-covering today ahead of Bush's State of the Union address. Perhaps shorts were enticed to hold their positions by rumors that Bush will use tonight's forum to unveil evidence that Iraq possesses weapons of mass destruction.

Others discount that possibility, saying that Colin Powell will reveal the evidence within the next several days. The U.N. Security Council begins debates on Iraq tomorrow, with France, Germany, Russia, and China urging that the inspectors be given enough time to complete their work. Russia reportedly hinted that it might change its position if evidence of Iraqi duplicity were presented. The outcome of the debates should prove interesting. On Wednesday, Hans Blix surprised many by the frank tone of his address to the U.N. and by his enumeration of instances in which Iraq had failed to be forthcoming.

The FOMC meeting concludes tomorrow. While few suggest that interest rates will change, CNBC and Bloomberg guests speculated today that market participants will pay special attention to the bias statement. Currently, the Fed maintains a neutral bias.

Ahead of the U.N. Security Council debates and the FOMC statement, the world's attention focuses on Bush's address tonight. Today saw the FTSE 100, the CAC 40, and the DAX post small gains, but markets across the world have plummeted lately as they react to fears that the U.S. will immediately engage Iraq in a war. Powell set out a timetable yesterday, saying that Bush would spend this week conferring with world leaders and that a decision on the appropriate next step would be made the following week.

While it's not certain that Bush will reveal his new evidence tonight, he will use his address to convince the U.S. public and potential allies of the need for action sooner, rather than later. Acutely aware of his father's perceived shortcomings when dealing with the U.S. economy, he'll also push his economic agenda. Aides claim that half his speech will be devoted to his economic package, including relief to the elderly facing expensive prescription medication costs. That economic package will assume greater importance as recession talk revives ahead of the expected flat GDP number on Thursday. Recession talk has swirled around Japan and Germany for some time now as the world's second and third-largest economies struggle with grim outlooks. Today, Taiwan Semiconductor (TSM), the world's largest contract microchip maker, reported an unexpectedly sharp fall in Q4 net profit, but insists that it will see a recovery begin by Q2 in 2003. When insurer Assicurazioni Generali announced earnings last week that included write downs of its stock investments, analysts concluded that other insurers could be suffering from disastrous stock investments. Trader talk this week concluded that worldwide, insurers were probably selling equities to preserve funds needed to pay claims. Today, Fujitsu, Japan's number one PC maker, reported losses that it attributed both to slowing sales and to the devaluation of its marketable securities. Why should we be concerned about what's happening in these economies? First, if companies throughout Europe and Asia suffer from devaluations of their marketable securities, that's likely happening in the U.S., too. In addition, insurers and other companies selling securities to maintain their reserves might be selling dollar-denominated assets, as has been theorized of late as foreign investors pull out of the U.S. market. Also, as these other economies weaken, our exporters and multinational companies suffer.

What do the charts say about our economy? Since we rarely look at the Wilshire 5000, let's take a look at the broadest of our markets. Because most of us are not as familiar with the Wilshire's chart as we are with others, we can view these charts with a less biased outlook and the other indices will be covered in the Index Trader Wrap.

First, let's look at the weekly chart, courtesy of Q-charts. Notice the green descending trendline, a line that has capped the Wilshire since early 2000. Notice that the 21(3)5 stochastics are just now rolling down from overbought levels while MACD rolls down from beneath the zero level. RSI also turns down. While some might argue that the Wilshire made a double bottom in July and August, note that the Wilshire failed in its effort to move above the peak between the double bottoms, failing to confirm that double-bottom pattern. The outlook is bearish.

Wilshire 5000 Weekly Chart:

Next, let's look at a daily chart. Although it's often possible to argue about the exact location of the neckline of a head-and-shoulder pattern, it's clear that the Wilshire broke through its neckline on Friday. I've marked that neckline in green.

Of special interest is the behavior of the RSI and MACD oscillators. Since late summer, these oscillators had been forming a series of higher lows. I've marked those higher lows in red. When the Wilshire broke through its neckline, these oscillators also fell through their ascending lines, confirming the weakness in the Wilshire. With that evidence and with the break of the H&S neckline, the intermediate-term outlook for the broader markets is bearish.

Note, however, that the 21(3)3 stochastics are buried at oversold levels and appear to be hinging up. RSI turned up, too, and faces the new resistance at that broken trendline. On the price chart, today's white candle is a harami, completely contained within the bigger red candle that preceded it. A harami indicates indecision, an inside day. It's possible that tomorrow could see an upside break of that inside day or harami, but that upside break should stop short of that broken neckline. Based on this evidence, selling rallies still seems the best policy in the intermediate term.

Wilshire 5000 Daily Chart:

What about the short-term outlook? For that, I've dialed down to a 60-minute chart. I've included both the 21(3)3 and 5(3)3 stochastics. The shorter-term 5(3)3 stochastics show that today's action relieved much oversold pressure, with the 5(3)3's moving all the way up into overbought levels. The 21(3)3 stochastics are just now moving up out of oversold territory, but note that the last move out of oversold territory brought these stochastics only up to current levels before they turned down again. RSI flattened today at a level near where it last turned down. MACD, however, dipped far into oversold territory and is clearly turning up.

What's happening to price while all this occurs? Today saw prices moving up in a regression channel that formed higher highs and higher lows. This regression channel moved counter to the prevailing move, which was sharply down.

That's bullish, right? Not necessarily. It fits the classic definition of a bear flag formation. We won't know for sure if it's a bear flag until it breaks out to the upside or breaks down out of that formation. Most often, bear flags tend to break down no later than halfway up the previous movement. I've marked the midpoint of the previous movement in red. The neckline of the H&S formation sits above that, marked in green.

Wilshire 5000 60-minute Chart:

I can see two scenarios tomorrow for the Wilshire 5000 and therefore for our broader markets. One is that the Wilshire confirms the bear flag formation by falling through the regression channel and then below yesterday's lows.

Another scenario sees the Wilshire push through the top of that channel, rising to test the midpoint of the previous decline, at 8230, or perhaps rising to test that broken H&S neckline. I would expect failure at one of those levels, however, with the ultimate direction being the same as that in the previous scenario: down.

While the COMPX and NDX charts show that they're outperforming the broader markets, charts of the two S&P's look similar to the Wilshire's.

Be careful trading ahead of Thursday's GDP number and geopolitical developments that might change the markets' outlook. Prepare for possible sharp short-covering rallies by determining your stops ahead of the trading day, but don't be fooled into believing that the longer-term outlook has changed. That outlook will change someday. I'll be watching the patterns I've outlined to pinpoint the moment when that outlook changes. Now you'll be watching, too.



 
 



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