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Market Wrap

Point of No Return?

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02-12-2003                   High    Low     Volume Advance/Decl
DJIA     7758.17 -  84.94  7854.62  7753.71   1474 mln  277/1170
NASDAQ   1278.97 -  16.49  1301.11  1278.74   1191 mln  189/956
S&P 100   413.61 -  4.97    419.95  413.45    totals    466/2126
S&P 500   818.68 -  10.52   832.12  818.49
RUS 2000  355.38 -  4.58    360.50  355.38
DJ TRANS 2100.67 -  27.61   2136.02 2100.67
VIX        39.10 +  1.75    39.42   38.11
VIXN       47.49 +  0.59    48.84   47.48
Put/Call Ratio 0.90

Point of No Return?
By Steve Price

We continue to ratchet down in the broader markets, as buyers continue their strike in the face of war fears. Alan Greenspan continued his testimony before Congress, sparring mostly over the how the President's tax-cut plan will affect the economy. By mid- morning, we had taken out relative lows and each day continues to bring signs of a further weakening stock market. It was not a massive sell-off and volume remained on the light side, but we continue to push the envelope to the downside and today brought further evidence that the bounces we are seeing on a technical basis continue to be short entry opportunities.

The last couple of days have been a prime example of the short- entry theory. The news out of Iraq on Monday, that the country would allow U2 fly-overs (old news now) gave us a big rally as we tested new lows. That rally continued on Tuesday ahead of Alan Greenspan's testimony. As the Fed Chairman spoke, the rally eventually faded, possibly due to the comments that the President's dividend tax-cut plan, while fundamentally sound, would be a better idea if it did not result in deficit spending to finance it. The rally may have also faded as short-covering that began on the Iraq announcement on Monday afternoon, finished off when Greenspan didn't say anything earth-shatteringly positive, or imply further immediate rate cuts. After all, if he doesn't necessarily think we need a stimulus package before we know just how much the geo-political concerns are affecting us, it seems unlikely that he would be in a rush to lower rates below already historically low levels. His take on the deficit that would result from the dividend tax cut did not sound supportive, even though we continued to hear that the cut was a good idea on a policy basis. Greenspan said he did support the President's plan, but his comments about deficit spending in general did not echo that sentiment. He talked about it being possible to maintain flat debt to GDP ratios while running small deficits of of 1-2%, but the president's plan exceeds that, likely crossing over the 3% mark. Greenspan said, "But if we get into a position... where we are finding that the debt-to-GDP ratio begins to accelerate, we have to be very careful because there is no (self-correction) mechanism when that is occurring, because a rise in the debt increases the amount of interest payments, which in turn increases the debt still further, and there is an accelerating pattern after you reach a certain point of no return." His description of a point of no return certainly does not sound like he thinks the president's stimulus plan requiring larger deficits than he is comfortable with is such a hot idea, in spite of his statement of support. President Bush spent some time on air defending his plan, but there is no doubt the damage was done and the democrats will have plenty of ammo to counter with. That certainly could be another reason we are seeing selling over the past couple days, when combined with the ever- present geo-political problems.

The rally ahead of his testimony on Monday and Tuesday, however, was enough to turn the point and figure charts back up into columns of "X," which represent significant upward movement. A reversal requires three-boxes in the opposite direction of the downtrend and therefore is supposed to represent a reversal in sentiment. However, we have now seen the last four Dow reversals up indicate contrary profitable short entry levels. The last five reversals in the SPX and OEX have been short entry opportunities. What's even more impressive is that the last reversals on Tuesday not only failed, but failed at a lower level and were unable to move back above the previous breakdown levels. We continue to set lower lows, and we are approaching territory not seen on the way down since September, when were on our way to setting lows below even those seen in July. After consolidating between 7950 and 8150 in the Dow, we ratcheted down a notch and have been trading between 7800 and 8000. That is, until today.

The lows of the last few days had been 7830, 7801 and 7806, indicating the bulls were staunchly defending the 7800 support level. This morning, we broke down below 7800, reaching a low of 7753, and eventually finished the day at 7757. The pattern is becoming clearer each day. While we are getting bounces in the broader markets, those bounces continue to come at lower levels. We take out the floor of the previous consolidation range, get a bounce and then eventually collapse below that floor, establishing a lower range as bounces come at successively lower levels. This pattern has continued ever since the bullish percents began rolling over in December and January. Those percents measure the number of stocks in a given index currently giving buy signals. Right now the Dow bullish percent is the most extended to the downside, registering only 20%. The SPX sits at 42%, coming off a December high of 68% and the OEX sits at 38%, coming off a December high of 75%. The NDX sits at 38%, after coming off a December high of 82%. The Dow is the only index of these to have entered oversold territory below 30%, however we need to keep in mind that the last two bottoms came at 4% (July) and 8% (October)in the Dow, so it is still a ways from support. The sinking bullish percent has been a good indicator that bounces would be only temporary on the way down, just as a rising bullish percent in October and November was a good indication that pullbacks were temporary on the way up. Still, we must note that we are getting closer to the extreme bottom end of the range we have traded in over the last year and risks will begin to shift less in favor of bears as we continue to drop. It is true that the October drop took us below the drop in July and we certainly could be headed to sub-7000 Dow range on this drop. However, as we reach those bottoms, shorts would be best advised to tighten stops and take some chips off the table.

Point and Figure Chart of the SPX

Point and Figure Chart of the Dow

Dow Bullish Percent

We spent some time talking about head and shoulders patterns over the last couple of months and so far those patterns are bearing fruit to the downside. We saw the similar pattern over the summer and fall end up very close to its downside objective before bouncing, with the Dow actually coming within just a few points of its objective on the July drop. The target of the current Dow head and shoulders pattern is 7500, while the SPX is targeting a low around 785. Those would both be higher than the October lows and if we get there we can then decide just how significant a higher low would be.

Daily chart of the Dow

Daily Chart of the SPX

Notables: The COMP closed well below previous support at 1300, finding resistance there once again on an intraday basis. Its mid-morning rebound high was 1301. The VIX is again testing the 40% level that has signaled short-term rebounds, although those rebounds have continued to eventually fail. The ten-year yield took out recent lows, but has yet to approach the low from late January or late February. The five-year yield finished up on the day, in contrast to the ten and thirty year.

This morning's testimony from CIA chief George Tenet that North Korea has an untested ballistic missile capable of reaching the U.S. and likely has as many as two plutonium based nuclear weapons, which came alongside the International Atomic Energy Agency's 35-nation executive board's citation of Pyongyang for being in breach of U.N. safeguards, also weighed on markets. In the end, it turns out the news of the missile had been known to U.S officials for a couple of years, but the splash across the news screens certainly made buyers think twice about buying a dip. Most of the blame for today's drop has fallen on concerns over a war in Iraq. Whatever the reason the market continues to be sold, the Iraq concerns are as good a reason as any. However, we are not exactly getting positive news from the corporate sector either.

General Motors saw its price target cut at Banc of America Securities from $32 to $28. B of A cited a lower rate of free- cash-flow growth, saying the new target reflects 23% downside from current levels. It also said that if GM's pension fund assets were marked to market right now, the price target would drop to $24. The big concern for investors is also B of A's assertion that the company will be forced to cut its dividend. GM finished down $2.03 on the day. The analyst cited cash-flow growth problems at all big three U.S. automakers, which are being hurt by increased foreign capacity in the truck market. He mentioned increases for Toyota pickups specifically. Ford's price target was lowered from $13 to $11.

Viacom also released earnings that showed improved profits, after a year ago loss, but also found only sellers. In spite of beating estimates by three cents per share, the company's cable and video results fell short of expectations. The lower than expected cash flow in those areas gave bears all the ammo they needed in a market that seems to be looking for the bad news in just about any earnings release. We have seen a slew of stocks sold-off in spite of beating forecasts and this was no exception. The stock started off the day sinking over $2 before rebounding to show a loss of $0.98 for the day.

One sector that showed surprising strength was the semiconductor group. Last night, AMAT missed profit and revenue estimates, as well as said, "In the near term, we do not expect to see a significant upturn in capital spending and will continue to implement cost-cutting measures, as necessary, to better align our operations with business conditions." It also said it would shut down for two weeks this quarter. These comments followed a warning at the end of January and only added to the bearish evidence piling out of the sector. However, the Semiconductor Index (SOX) actually spent most of the day in the green, as investors were apparently expecting even worse things from AMAT. The SOX eventually gave in with the broad market sell-off, dropping two points on the day, but if not for that heavy pressure, very well could have ended positively.

After the bell, TMP Worldwide, parent of Monster.com, pulled its guidance for 2003, saying, "The fragile economy and the unpredictability of world events make it imprudent to discuss specific guidance. Any prior guidance is therefore not applicable."

While we have seen nothing to make us anything but bearish, we have to start thinking about a bottom. Things looked awfully ugly before big rebounds in July and October, as well. Those bounces both eventually failed, as we are approaching the lows once again, but after a sell-off of over 1000 Dow points, a bounce making up less than 1/2 of that drop can whip us around by 500 points very quickly. I am not predicting that bounce in the immediate future, but the possibility grows greater with each leg down. Bears can be comforted by the fact that we did consolidate for a while in the 7950-8150 range and that could have been our bounce. If that is the case, then the drop could be much steeper than the H&S patterns indicate. However, my guess is that when it comes, it may run a little more than 200 points. For right now, any short-term rallies have been good shorting opportunities and until that trend changes then we should go with it. Traders should continue to watch the bullish percents, because if we do reverse up at the same time we begin to bounce, then that may be our first signal that the tide may be turning. Until then, lean short, but stay cautious.

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