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Market Wrap

Anyone's Guess

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02-19-2003                   High    Low     Volume Advance/Decl
DJIA     8000.60 -  40.55  8043.11 7935.27   1268 mln  382/864
NASDAQ   1334.32 -  12.22  1344.59 1322.12   1164 mln  359/790
S&P 100   428.80 -  2.68    431.48  425.13   totals    741/1654
S&P 500   845.13 -  6.04    851.17  838.79
RUS 2000  360.28 -  4.25    364.53  358.92
DJ TRANS 2105.39 -  35.26  2142.23 2097.15
VIX        35.22 -   0.34    36.40   35.07
VIXN       47.63 -   0.77    49.24   47.56
Put/Call Ratio 0.81

Anyone's Guess
By Steve Price

Time for some consolidation. After three days of impressive gains, the bulls finally took some profits off the table. This pullback came in spite of some generally positive news, but at this point, just how much financial news is affecting the markets, versus geo-political concerns, is anyone's guess.

The big economic item on this morning's agenda was the housing data. Housing starts rose a mild 0.2%, but this was an upside surprise after the consensus favored a drop after December's strongest reading in 15 years. On the flip side, housing permits fell 5.6%, which was a larger than expected drop. It is clear, though, that low interest rates continue to spur a strong housing market. While it seems that prices have begun to level off in many areas of the country, there is a backlog that has been built up over the past year that may continue to support the housing starts number for several months. Housing stocks such as Hovanian have cited that backlog as evidence of strength. Of course, if permits continue to fall, then the backlog will eventually dry up and the starts number won't look as good.

Speaking of interest rates, many Fed watchers will note the FOMC's reluctance to lower rates any further than they sit at this time. Specifically, Alan Greenspan's recent testimony before Congress indicated that we really won't know just how the current policy will affect the economy until the Iraq conflict is behind us. While it seems the Fed is a little uncomfortable with rates this low and would like to raise them, there are a number of concerns that are now actually beginning to favor another possible rate cut. First and foremost is the economy. Whether we'll have to wait until the war is behind us or not, things do not seem to be improving, with almost weekly layoff announcements. Even Greenspan has admitted that spending is pretty much on hold until the situation is resolved and if the Iraq situation continues to drag on, lowering once again may be the logical short-term step. The Fed Funds Futures have ticked to 98.78 (100-98.78 = 1.22 vs. current rate of 1.25), indicating a very little chance of the Fed lowering rates at its next meeting. The June Fed Funds Futures show a slightly higher chance, currently trading 98.85 (100-98.85 = 1.15). While neither of these are showing much conviction, the point is that they are still trading in favor of a cut, as opposed to a rise. The problem with lowering rates further is the fact that we continue to dig deeper into debt with each lowering, making it difficult to then raise rates when the economy does begin to get better. Total household debt is at record levels, both when compared to disposable income and in absolute terms. Right now those debt levels are not preventing consumers from spending - the one factor that seems to be propping up the economy, because the debt is serviceable at lower interest rates. Corporations are also carrying record levels of debt and its current interest payments are at all-time highs. If rates were to go up, an already weak business spending environment may get even worse. As of now, even the spending that is occurring is coming under continuously greater scrutiny due to credit concerns.

Financials also took a hit today. It seems the deteriorating credit issue just won't go away. J.P. Morgan started the concerns over bad telecom debt last year and those concerns have bled to almost every business sector. Today we got another downgrade based on credit concerns. MBNA said its net credit losses at Jan. 31 were 5.49% of loan receivables. Wachovia, J.P. Morgan, Goldman Sachs and Salomon cut estimates for MBNA, citing a significant deterioration in credit quality during January. It said the deterioration was concentrated in the consumer lending portfolio, so apparently businesses are not the only ones unable to pay their debts.

We got some news on the international front, but it didn't seem to have much of an impact. Turkey is still negotiating with the U.S. to allow troops to be based in the country for a possible move into Iraq. The U.S. has offered about $6 billion in grants and $20 billion in loan guarantees. Turkey has countered that it would suffer greater losses from tourism, higher oil costs and soaring interest rates on foreign debt. Turkey is asking for more money, saying, "If our support has value for the United States, then the United States needs to keep in mind our sensitivities." The U.S. would like to station 40,000 troops there for an invasion from the North that the U.S. says would shorten the war. Somehow it seems to me that if it has come down to a matter of dollars, an agreement will be reached at some point. After all, Turkey's concerns about higher oil costs and soaring interest on debt will affect them whether they allow the troops or not and an extra $26 billion for their permission will be difficult to turn away. The population of the country is already opposed to allowing troops, but apparently that hasn't stopped the government from putting a price on its participation.

After today's sell-off, we are left to determine whether we have seen a trend reversal and the drop offered an opportunity to buy a pullback, or if we saw the end of a short-covering rally and its time to jump in short and target new relative lows. It is not an easy question to answer since it seems hard to explain the rallies of the last few days to begin with. The fact that we were in oversold conditions according to bullish percents and also approaching July lows, certainly could have led to shorts doing some profit taking. The rallies of the past couple of days have also come on relatively light volume, which is a red flag for bulls.

Daily Chart of the Dow

A look at the point ad figure charts also shows that although we got a big bounce, making up much of the sell-off of the previous several days, we ended quite a ways from buy signals in the major indices. Combined with bullish percents that still remain in a sinking column of "O," these indications are that we are still headed lower and simply saw either a short-covering rally or an oversold bounce (or more likely a combination of the two). The fact that today's afternoon bounce found sellers at 8000 may be indicating that the bulls are running out of steam after the nig run. Of course, the fact that the Dow managed to close just over the mark, at 8000.60 could also indicate the bulls were able to muster enough strength to break that level after a bigger sell-off. If nothing else is clear, we seem to have a line drawn in the sand that we can focus on tomorrow. Certainly in the current geo-political environment, technical indicators cannot account for news risk, as they are numbers based only. However, they do measure the result of whatever action stems from that news risk and still provide a valuable tool to assess direction as well it is possible to assess under current conditions. Of course, we can technically analyze until our heads cave in and if Saddam Hussein flees into exile, we will most likely see a huge rally, at least temporarily.

Point and Figure Chart of the Dow

Bullish Percent of the Dow

The semiconductor stocks got a pat on the back, in spite of last night's disappointing book-to-bill number. Yesterday's info showed a drop of 10% in orders and 9% in shipments. The drop in the BTB number to 0.92 was below analyst expectations between 0.93 and 0.98. However, Morgan Stanley raised its rating on the entire sector, saying that the risk/reward parameters have become more attractive over the past few months and that the miss was a non-event. It expects the chip stocks to out perform the market over the next 12-16 months. Outperforming the market is a curious proposition, since following the upgrade, many of these stocks proceeded to wet the bed. Interestingly enough, this seemed to be the first group to find support last week, basically flat lining around 260, before heading higher. While the Dow and Nasdaq both sunk throughout much of last week, the SOX began to build a base and even creep higher. Was this really the first indication that we should have been looking for a turnaround? The index has shown a good correlation to the broader markets, as it reflects IT spending by both consumers and businesses and this time it does seem we should have paid attention when it began to bounce. Morgan also gave individual upgrades to Intel, Texas Instruments and Xilinx. Keeping with the same theory of this index giving us reliable signals, this morning, traders seemed to focus more on news from Micron that it was cutting 10% of its workforce and began taking some recent profits out of the chips. The SOX ended the day at 288.99, after pulling back 2.64 points.

The wireless sector also suffered the upgrade curse today. Credit Suisse First Boston raised their rating on the wireless equipment sector. The firm said trading opportunities exist over the next 3-6 months and that valuations now look attractive. It cited Nokia and Qualcomm as having the most upside. The upgrade was followed with a Nokia downgrade by Wachovia, based on the firm's Global Handset Sentiment Index, which indicated that demand for replacement handsets over the next quarter could be weaker than expected. On top of the dueling analysts, Nortel said that a price war in the wireless equipment sector could cause the entire market to drop 10% in 2003, which is worse than the predicted single-digit losses. Let's see, I don't recall my college economics classes teaching that lower demand and lower prices equal a stock buying opportunity.

Another indicator that has gotten some attention here at OI recently is the Market Volatility Index (VIX). Market Monitor subscribers will note the discussions from Mark, Linda and myself with regard to support and resistance levels that have given us advance clues and continue to do so. The VIX reflects option premium levels in the OEX and generally moves higher as the market sinks and lower as it rises. As it reaches resistance, it often indicates the end of a drop and possibility of a bounce and as it hits support it often portends a pullback after a rally. The 40% resistance level has served us well recently. It has predicted intraday bounces and the reluctance to break above that resistance level eventually foreshadowed a more decisive turnaround in the equities. The 35% level had served as resistance as the Dow dropped from January highs down to support in the 8200-8300 range. After the Dow broke that support, the VIX also broke resistance, and moved into the 35-40 range. The rebound of the past few days had driven the VIX back down from 40 at the recent equity lows, to support (previous resistance) at 35. When we hit that support, lo and behold, we got an equity pullback. While this indicator is not exact, it has been giving as reliable signals on a short-term basis.

Chart of the VIX

Today's trading still amounted to another low volume day. While the range seems large with a high in the Dow of 8043 and a low of 7935, only one stock managed more than a dollar's worth of movement. The moves we are seeing are almost always pegged to geo-political tensions. It's either renewed war fears or a possible delay due to some new factor. This afternoon we got conflicting reports about a second Iraqi resolution, with the White house saying it could come in the next week or two, contrary to reports that the soonest would be in March after the next Blix report. It is next to impossible to guess what will develop next. Let's do our best to trade what we see, but be ready to protect ourselves with tight stops ahead of whatever tomorrow's developments may bring. Right now, we are still seeing internal bearishness on the PnF charts, in spite of the rally on Friday and Monday. However, it was a big reversal, so we need to be cautious. I'd like to simply say "short any rally," and that is what I am personally looking to do. However, I am keeping it small, with mostly 1/2 positions, as the White House has yet to fill me in on the "real" schedule.

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