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Uncertanity Reigns

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        WE 3-28         WE 3-21         WE 3-14        WE 03-07 
DOW     8145.77 -375.85 8521.62 +661.91 7859.71 +119.68 -151.05  
Nasdaq  1369.52 - 51.65 1421.17 + 80.84 1340.33 + 35.04 - 32.25 
S&P-100  437.94 - 18.43  456.37 + 32.30  424.07 +  3.95 -  5.24 
S&P-500  863.48 - 32.41  895.89 + 62.62  833.27 +  4.38 - 12.26 
W5000   8185.39 -277.93 8463.32 +566.83 7896.49 + 39.17 -115.30 
RUT      368.70 -  7.53  376.23 + 21.84  354.39 +   .21 -  6.34 
TRAN    2163.20 -100.29 2263.49 +236.40 2027.09 - 15.39 -  6.57 
VIX       32.18 -  1.44   33.62 -  2.71   36.33 +  0.68 +  1.50 
VXN       43.09 -  2.69   45.78 -  0.02   45.80 -  0.59 +  0.74 
TRIN       1.43            0.59            1.11            1.29    
Put/Call   1.31            0.63            0.70            0.75    


Uncertanity Reigns
By Jim Brown
Click here to email Jim

The markets roiled by uncertainty last week are on the verge of seeing things more clearly. Unfortunately what they are seeing is the possibility of coalition attacks on Syria and Iran for coming to the aid of Iraq. They are seeing the potential for a war that could last months instead of weeks and the economic impact of that revelation. Add in the delisting of two major NYSE companies and a flurry of new earnings scams and it is no wonder money is flowing into bonds and out of stocks.

Dow Chart - Daily

Dow Chart - 45 min

Nasdaq Chart - Daily

Nasdaq Chart - 45 min

Personal Income and Spending were announced on Friday and although income rose +0.3% for the seventh monthly increase the disposable income rose only +0.2%. This was the slowest gain since last July. For the second month spending remained unchanged with declines in durable goods and auto sales as consumers sat on their wallets. Rising unemployment and the war was given as the reasons again.

Consumer Sentiment fell to a ten year low of 77.6. This was slightly better than the preliminary reading and above consensus estimates of 75.0. That is like getting an extra two cents back in your change for a Big Mac. You can hold it but it won't buy anything. The expectations component fell to 69.6 and the lowest level in nine years. Consumers fear a new recession and a lingering war. These numbers should get worse now that the war is not seen as a couple weeks at a sandy picnic. With the constant warnings that it could take months and constant updates on casualties the next sentiment numbers could be significantly lower.

This weeks economic reports showed declines in almost every area and next week is not likely to be any different. Tuesday will lead off with the ISM report and the odds are very good that it will show a contraction for March. February was only barely positive at 50.5. This will not be received well by the market. Wednesday we will get Factory Orders and Thursday ISM Services. The big one is Friday with nonfarm payrolls. The large drop in payrolls last month is likely to be followed by yet another large drop for March. The +400K Jobless Claims for the last several weeks is a clear indicator of the prospects for the Jobs Report. This may not be a market mover because it is so easily predicted in advance. Analysts did however miss it by a mile last month and another big miss could be the trigger. The forecast is for a loss of -11,000 jobs. Last month the forecast was for a slight gain and we lost -308,000 jobs instead. Tuesday we will get auto sales and analysts think sales have fallen again despite steep incentives and low interest rates.

Earnings also start in a week and contrary to expectations there was not a flurry of warnings over the last two weeks. The numbers of total companies prewarning are up but there was not a last minute rush to confess. This may be good news or they all just warned far enough in advance to avoid the rush. Expectations are negligible and earnings growth for the year is now estimated to be nearing the 7% range. Far below any previous estimates and below historical norms for expansion periods.

The airlines took another hit on Friday with oil rising again, debt down grades, delistings and hijackings. Just when they thought it could not get worse, it did. S&P downgraded debt on four major carriers but I doubt that came as a surprise to anyone. UAL was delisted from the NYSE for trading the required number of days under a dollar. Rumors persist that UAL may break up, liquidate and possibly turn into a smaller regional carrier. Either way the stock will be worthless considering the amount of debt they owe. AMR is rumored to be nearing a bankruptcy announcement that could come as soon as Sunday. AMR is burning $5 million cash per day and getting worse. After the close a Turkish airliner was hijacked to Greece which will add to even more flight cancellations by those already afraid to fly. There was talk about a $3 billion bailout on Friday but talk has never paid any bills. One analyst said the "titans of air travel are becoming the titanics of the industry".

Mutual fund buying was nonexistent on Friday. The anticipated end of quarter window dressing failed to appear as expected. The ICI survey released on Thursday showed cash still flowing out of stock funds and also showed that the cash levels were down to 4.3% of assets. Fidelity, Strong, Janus and T. Rowe Group all said they had seen inflows of cash since the market began rebounding but TrimTabs.com said a net $8 billion in cash had left funds through March 25th which included the rally period. This shows that fear of the war impact on the economy and current stock fundamentals have not been overcome by the war rally.

"This is not what we trained for" was the comment by General William Wallace when questioned about the status of the war. He said he was surprised by the strength of the Iraqi forces, the lack of local support. He also said he was getting ticked off at the constant missile warnings as the Iraqi "lawn darts" were lobbed at his camp. He was aggravated that he was not allowed to go kick some butt to stop the problem at its source. He also implied that the drive had been stalled due to persistent attacks, long supply lines and lack of adequate numbers of coalition troops. These comments riled the administration and probably put Wallace in hot water but then they are not dodging the darts. Wallace is about to get help. The Pentagon said they were sending 100,000 more troops to the gulf on a rush basis but that could take another 4-6 weeks or longer. Let's call it 6-8 weeks since nothing ever goes as planned. That means they will not be there to help on the front lines, with equipment, for two months. They way I count that means end of June at the earliest for the war to be over. That would almost guarantee another recession.

Rumsfeld is rumored to be on the way out of the administration for his refusal to use sufficient troops in the initial plan and for failure to recognize the threat risk. There are complaints he overestimated the potential for mass surrenders and failed to allow Tommy Franks enough forces to accomplish the task. Several analysts have said he will be gone within 30 days. To fire him now would be an admission of failure and he will likely be phased out of the public limelight over the next few weeks. That would be a trick! "Phasing out" the Secretary of Defense during a war. Obviously this is an evolving story. Another prominent name retiring is Hans Blix. He has announced he will retire in June at age 75. Obviously Hans has had a tough job lately but I hope I am that robust and in control of my faculties when I am 75. I saw him on Capitol Report this week and the interviewer was relentless. Hans was equally feisty and took no punches and delivered several of his own. I have not walked in his shoes so I can't make an opinion about his recent results but he has taken the heat and stood toe to toe with some giants. Take a rest Hans, you deserve it.

Rumsfeld also warned Syria and Iran today that they were at risk of being attacked if they interfered in the war. Apparently Syria was shipping military technology to Iraq including night vision goggles. He warned them that any further such incidents would be consider hostile acts and appropriate action would be taken. The Iranian Badr Corp was also warned to leave Iraq after it was determined several hundred had crossed the border and were headed to assist the Shiite population in Basra. Saddam has killed several hundred thousand Shiites in southern Iraq and some 27 family members of the current leadership in Iran. Needless to say there is no love lost. The Badr Corp would not be coming to help the coalition but to carve out the Basra area from any future Iraq as an addition to Iran. Rumsfeld said any Iranian troops crossing the border would be considered hostile combatants. So, adding Syria and Iran to the hit list is now a possibility. Unfortunately they both have an air force unlike Iraq. I wonder with General Wallace trained for this possibility. (Just kidding, I doubt Syria and Iran would want to join the fight. Just some serious saber rattling here.)

Adding to the expanding war implications was the arrest on this week of two groups of Iraq intelligence agents in different countries as they prepared to launch terrorist attacks. They were in possession of explosives and were going to attack civilian targets. One of the targets was a large hotel in Jordan. Different reports over the last couple weeks have said between 50-75 Iraqi intelligence personnel were sent out two weeks before the war to make revenge attacks on multiple countries if Iraq was invaded. Rumors say up to 25 of these were sent to infiltrate the US. The arrests of Iraqi agents in two countries would lend credence to these rumors. On another front British forces found evidence of Al Queda forces fighting on the side of Iraq near Basra. They were moving to cut them off and try to capture them late Friday.

The markets reacted to all this news by retesting critical support several times. The Dow gapped down to initial support at 8130 before rebounding on news that the NYC bridge closings were not terrorist related. It rebounded to 8200 on very light volume as the various news conferences tried to put some lipstick on the war and paint a rosy picture. As further details about causalities and comments about problems in Iraq made the news the markets turned around and the Dow retested 8100 again. Short covering at the close slowed the drop and the Dow recovered to close just below 8150.

The Nasdaq posted a lower high for the third consecutive day but is holding the line at 1365 support. At least that support held though Friday's close with the Nasdaq ending at 1369. Tech stocks were starting to look weaker in many sectors and the SOX for instance closed at a ten day low. Techs are actually performing worse than the broader market but they also performed better than the broader market in the recent rally. What leads up often leads down.

The risk to the current markets is substantial. The reality of the war is being brought into living rooms at a pace never before experienced. The problems with the current strategies are being dissected and examined under the microscope with dozens of opinions being offered on every network. Since bad news attracts more attention the airwaves are full of controversy whenever possible. The overriding observation is that this could take another three months and the coalition does not have as much control as they are claiming. A missile hit Kuwait City on Friday night that was fired from the Faw Peninsula. This area was thought to be under coalition control and had been cleared of Iraqi forces. Obviously it wasn't. Other sources are claiming the Iraqi armor is hiding in garages and buildings only to come out after coalition forces have passed though the area. This puts them behind the coalition lines and able to wreak havoc later when not expected. Iraq had 5500 armored vehicles, 2500 artillery pieces and over one million troops in their combined army units when the war began. We have 90,000 combat troops 5000 armored vehicles and 1100 planes in Iraq. You do the math but even with the dominance of the air we are seriously outnumbered. Obviously those planes are going to get a lot of use until the 100,000 troops on order show up ready to fight.

Needless to say things are not going well. As of Friday night there are 31 Marines missing in action. Marines make a point to never leave a buddy behind and the high MIA count shows how fierce some firefights have been. The realization of the reality of war will probably sink in to many investors over the weekend. The war will not be quick. It will be messy and the impact to investor sentiment and the economy will be severe. I believe the only reason we did not sell off sharply on Friday was due to the potential for a Saddam removal over the weekend and possibly some light end of quarter buying. Assuming Saddam is not retired by Monday it may be a different story.

Ironically the Commitment of Traders report shows commercial traders had moved into a net long S&P position for the first time in ages. Small traders have dropped their strong bullish stance to the lowest net long position for the year. These numbers are as of March 25th and reflect the aftermath of the recent rally. The strong reversal for commercials from bearish positions several weeks ago now sets up the chance for another reversal back to bearish positions without the expected two week war. That reversal could be sharp and quick if the ISM numbers are seriously negative and the Jobs Report shows another major loss.

Investors will have to decide next week if they want to tough it out and hope Iraq does not turn into a Mogadishu or a Vietnam. They will have to decide if they want to hold through another recessionary dip while casualty reports continue to pile up. The ISM and nonfarm payroll reports will help this decision process. A Dell analyst meeting on Thursday will also help provide insight into the tech spending outlook.

The Dow gained +1100 points from the March lows in only eight days. It has given back only -375 points. A 50% retracement would drop the Dow to 7975. The Dow and the Nasdaq both closed just above strong but critical support on Friday (8100/1365). Should that support fail it could be due to deteriorating sentiment and profit taking from the biggest one week gain in 20 years. The charts above tell it all and I think the picture is clear. In military jargon, in a very short period of time the bulls have penetrated deep into areas recently controlled by the bears. Their support lines are stretched to the breaking point and the bears are nipping at that support. It may be time for them to fall back to regroup and wait for the reserves to make the next assault. Alternatively they could dig in and wait for this sandstorm to clear and hope the ISM on Tuesday is more ammunition and not an incoming bunker buster. Keep your head down this week or be ready to duck really fast.

Enter Very Passively, Exit Very Aggressively!

Jim Brown
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