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Market Wrap

Economy Stupid or Stupid Economy?

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      02-20-2003           High     Low     Volume   Adv/Dcl
DJIA     7914.96 - 85.60  8027.35  7893.74 1.39 bln 1478/1723
NASDAQ   1331.23 -  3.10  1344.29  1329.09 1.29 bln 1635/1598
S&P 100   424.29 -  4.51   430.63   423.70   Totals 3113/3321
S&P 500   837.10 -  8.03   849.37   836.56 
W5000    7931.61 - 64.10  8032.12  7928.01
RUS 2000  359.74 -  0.54   360.94   359.07 
DJ TRANS 2084.91 - 20.50  2114.07  2082.63   
VIX        35.67 +  0.45    36.77    35.38   
VXN        48.56 +  0.93    49.18    47.68 
Total Volume 2,834B
Total UpVol  1,098B
Total DnVol  1,660M
52wk Highs  115
52wk Lows   193
TRIN       1.68
PUT/CALL   0.86

Economy Stupid or Stupid Economy?
By Jim Brown

Economists were run over by the economic bus this morning but the markets barely reacted. The markets shook off the bad news as just more evidence that the stupid economy is still wandering aimlessly in the soft patch. President Bush took to the stage today to warn that the economy could get worse if his stimulus package was not passed soon. Based on the volume nobody believed him.

Dow Chart - 10 min

Nasdaq Chart - 10 min

There was a flood of economic reports today and none of them were positive. The Trade Deficit hit a record low in December at -$44.2 billion and over 10% deeper than the prior month. This shows that world markets are still in decline and will probably remain weak through the first quarter. It appears that weak global demand is slowing manufacturing around the world. Global sentiment is falling and with it global markets. The deficit is going to be a drag on the 1Q-GDP and more analysts are now worried that it could be negative.

The Jobless Claims rebounded over 400,000 and layoffs appear to be growing again. Continuing claims rose to 3.44 million from 3.29 million. This number is nearing the 2001 high of 3.5 million. Without job growth any recovery is still months away. Any initial recovery will be seen in signs of increased productivity as manufacturers produce more with existing workers until physical limits are reached. As demand picks up we will see slowing jobless claims before we see an increase in jobs. To date this has not happened. The four-week moving average also rose to 395,000 and very close to the critical 400K level.

The MBA mortgage application index was flat for the week due to a decline in refinancing applications being offset by a slight rise in new purchase activity. Refis represented 72.5% of applications and will be the hardest hit by any rate increase. The current 30yr mortgage is 5.69% and with the PPI exploding today that number is at risk.

The Philly Fed Survey surprised analysts considerably at 2.3 compared to estimates of 10 to 12 and inline with Dec/Jan numbers of 11.2. The numbers showed weakening demand and slowing shipments. Shipments fell to 0.0 from 21.3 in January. This is very bearish. Inventories are continuing to fall and prices paid rose sharply from 11.6 to 16.2. Prices paid are rising, prices received are falling and demand is evaporating. Does not paint a very pretty picture.

The Conference Board Leading Indicators came in a -0.1% after being revised intraday. This dip ended a three-month string of gains with November the highest at 0.5%. The decline is increasing and only four of the ten components made any improvement in the last six months. This shows there is no recovery expected any time soon.

The biggest economic problem for the day was the PPI report which came in at +1.6% compared to estimates of +0.4%. The majority of the gain came from increases in energy/oil prices but even without food/energy, the "core" rate still rose more than twice the estimates at +0.9%. This shows that producer prices rose on all levels and there is suddenly real fear that the inflation monster is returning. Like a preview of a Godzilla movie with the monster quietly swimming under the ocean toward some distant shore, the ripples on the surface are growing while unsuspected civilians go about their lives. When he arrives at the shore and suddenly stands up to his full height it is too late for action and something is going up in flames. That something for us is prices and interest rates. Neither of which will help the economy. The Fed is busy shoveling money into the system by the truckload to prop up the economy and ward off deflation but with inflation suddenly appearing they will have to rethink their plan. Yesterday there was a 24% chance of another rate cut at the FOMC meeting on March 18th but with numbers like these those odds may shrink significantly. Most feel that this number is a statistical error which will be corrected next month. Others feel that it is indicating rising demand pushing up prices. I fail to see that demand in any other report. The PPI number was the largest jump in 13 years.

About the only good news today came from Merrill Lynch which upgraded the chip sector based on oversold conditions and low inventory levels. They raised the sector from negative to slightly positive. They feel that without another significant drop in demand the sector is reasonably valued. The research note suggested there could be a +10% increase in demand in 2003 but they were not basing the recommendation on that possibility. They said the very low inventory levels could prompt a reasonable bounce if there was any demand increase. The SOX has rebounded from 260 to near 300 in the last four days and has been instrumental in holding up the Nasdaq.

GE CEO Jeffery Immelt, was interviewed and said the US economy was still very challenging but if the consumer keeps spending we should not slip back into recession. That is a very big "IF" based on currently falling consumer sentiment and rising unemployment. In a rare break with consensus many of the CEOs at the summit in Florida said that even IF the war was avoided the economy would still be in trouble.

The FNM CEO offered a competing view that most companies were not holding up on spending. Hello, Franklin Raines, anybody home? After the close FNM reaffirmed that it would earn "about" what it earned in the 4Q or $1.66. According to First Call the consensus was for $1.74. Since FNM does not issue specific guidance it cannot be seen as a warning but it was clearly an indication that they were not going to meet the consensus numbers. FNM also said they saw the housing market slowing by 2-3% this year. The stock was down in after hours.

BEAS announced earnings after the close that beat the street but then gave guidance that was seen as negative. Revenue estimates for the 1Q were less than expected and they declined to give estimates for the full year and used the Iraq ate my earnings outlook excuse. BEAS was down slightly in after hours.

With earnings about over for the 4Q the outlook for the year has dropped significantly with S&P full year earnings now expected to grow only in the 8-9% range depending on who is adding up the numbers. 40% of the S&P companies have warned for the 1Q with only 23% giving positive guidance. These percentages are based on already seriously revised earnings estimates. The earnings hurdle is so low it is painted on the asphalt instead of rising above it and they are still cutting estimates. With the geopolitical concerns not likely to ease for at least another month I think it is safe to say the 1Q is already a loser.

After a substantial short covering rally which ended on Tuesday afternoon the Dow has resumed its previous down trend. There was a sharp spike at the close on Wednesday but that evaporated just as quickly at the open on Thursday. The Dow drop came to a halt at 7900 on Thursday and it resisted every effort to push it lower. The final tally was a -86 point close but considering the overwhelming negativity of the economic reports it could have been much worse.

The Nasdaq is the star of the show and is being held up by the semiconductor sector. The Nasdaq held onto 1330 support all day and is still positive for the week. With the SOX near strong resistance at 300 the odds of continued support are slim.

With the Dow having completely retraced its gap up on Tuesday and poised to break 7800 again there is real fear that last weeks low of 7629 could be broken. The problem is not a flood of sellers but lack of buyers. The volume is nearing record low levels for the year and barely over one billion each for the NYSE/Nasdaq. The Etrade CEO said in an interview that even small investors are moving to the sidelines and trading activity is slowing to a crawl. If there was any concentrated selling event we could be in serious trouble. We are drifting down due to lack of interest rather than the results of massive dumping. Mutual fund cash is nearing record levels and institutional traders have simply stopped trading.

The geopolitical concerns along with economic concerns have made trading about as profitable as a moonlight walk through a minefield. They don't know if the next new alert will be the one that sets off the panic drop. They are afraid to be in the market and afraid to not be in the market. This is why there is no selling. They are maintaining current hedged positions but are not committing any new funds to the market. Huge blocks of puts are trading on the indexes and I-shares as new money is being put to work as insurance instead of investment. In a nutshell traders are adopting a bunker mentality and while they are not selling they are not buying either.

The positive side of the equation is the lack of selling. Bears appear to be as reluctant to short as bulls are to buy. After the huge +450 point Dow romp from last weeks lows the bears are afraid to go short again in volume. They are nibbling but on a diet. With a Saddam retirement announcement a 450 point gain could be just the opening gap. The risk reward in this environment is just not conducive to big positions.

One reader who has been trying to short several stocks this week related that there was no stock available to short in the semi sector or in the Dow diamonds (DIA). I researched the diamonds and there was only three days of volume short as of Jan-31. That means a heck of a lot more people have shorted them since OR they have taken the shares out of circulation to prevent them from being shorted and putting pressure on the market. The reader tried to short them in accounts at Brown, InteractiveBrokers and CyberTrader with zero results. I would lean more to the "removed from inventory" thesis instead of all available shares shorted. The idea would be to not voluntarily give your last box of bullets to somebody that wanted to shoot back at you.

Friday is a tossup again. With the Dow five points above last Friday's close anything is possible. We could see buyers appear who missed last weeks rally. We could see sellers appear confident that the bulls could not hold the line and looking for 7500 next week. Tomorrow we have the CPI or Consumer Price Index. With the lack of attention the PPI got today the CPI should also be ignored if negative. Either way there is likely to be an afternoon bounce as everyone still trading goes flat for the weekend.

Enter Very Passively, Exit Very Aggressively!

Jim Brown


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