Floor Falls Out
Back to business - or at least the lack of business. After another weekend in which the war dragged on with little signs of a quick end, investors refocused on the economy and showed their discontent by dropping out in droves.
The morning started out with a big slide, which actually followed the weekend drift lower in the Asian markets. As of Sunday night the S&P futures were already down over 13 points and that drift continued into Monday morning. The drop finally broke the markets out of the consolidation and drifting they had seen over the past couple of weeks and tested some important areas of support.
Chart of the Dow
There were a number of factors leading to the morning dip, including bankruptcy talk from a couple of the largest U.S. companies. Altria (formerly Philip Morris) said it is "presently uncertain" whether it will be able to make the next $2.5 billion payment to state governments required by its 1998 tobacco settlement. The problem is a $12 billion bond the company must put up, in order to preserve its appeal of a judgment of that amount levied against it by an Illinois court last week. Standard & Poor's said it might lower its rating on the company's debt to junk status and that, "S&P believes that the company would be seriously challenged to raise the amount. In the event that the amount of the bond cannot be raised or reduced to a manageable amount, Standard & Poor's believes Philip Morris USA might have to consider bankruptcy as an option."
The other big-whig faced with impending bankruptcy is American Airlines (AMR). AMR has been in wage concession talks with its unions that have yet to yield an agreement on a package that aims to save $1.8 billion on labor costs. The troubled airline lost $3.5 billion in 2002 and all airlines have seen bookings plummet since the start of the war - particularly on international routes. If this war continues to drag on, as it appears it will, the problem may only get worse. Insiders are saying that even if there is an agreement with the unions, bankruptcy may be the eventual result anyway. The company announced an agreement with its mechanics and flight attendants mid-day that gave the stock a boost, but has yet to conclude negotiations with its pilots. The company is also still trying to put together debtor-in-possession financing needed to continue operating in Chapter 11. If it does file, it would be the industry's largest, following filings by UAL and U.S. Air, which is set to emerge from bankruptcy today.
Last week's University of Michigan Consumer Sentiment report showed a big jump in confidence as soon as the war started. However, it appears that Americans have yet to show that confidence with their wallets. Last Monday, several retailers reported that sales were tracking below estimates, but the biggest of them all - Wal-Mart - said it had seen a minimal impact from shoppers sitting home watching the war on T.V. and that sales were still on track. The tune changed this morning as the company said its sales were now tracking toward the low end of its previously predicted range. It is expecting sales to rise by a low, single-digit percentage. Similar comments came from Nordstrom (JWN), which warned that its earnings would miss forecasts. Federated and J.C. Penney both said sales were weak and trending below projections for the month. Whether the reluctance to spend is due to the war or the worsening employment picture is not entirely clear, as both are assumed to go hand in hand. But the bottom line is that consumers aren't spending what was expected.
One of the unknown factors that started out as a health story, but is beginning to have an economic impact, is a new disease called Severe Acute Respiratory Syndrome (SARS). It is beginning to affect the tourism industry in Asia, as well as travel worldwide and has now led economists to lower GDP forecasts for Hong Kong, which relies heavily on tourism. Salomon Smith Barney said the disease could slice 0.2%-0.9% from Hong Kong's economy this year, but in a worst case scenario where the disease goes on uncontested for months, it could be as much as a third. So far doctors identified the disease, which is pneumonia, as related to the virus that spreads the common cold; but they have been unable to do anything about it other than isolate and ventilate patients. If it continues to spread, the tourism industry across Asia could be affected for months and we may see further weakness overseas. Companies such as Intel, Motorola and Sony have already begun sending workers at overseas factories home after individuals at their locations came down with symptoms. The disease was one of the factors in driving the Nikkei back under 8000, along with prolonged war concerns that sent the FTSE, DAX and CAC lower as well.
The Semiconductor Index (SOX) got hammered today, losing 4.4% following the release of data that shows a 3.3% sales decline in chips from January to February. The Semiconductor Industry Association released the numbers and the head of the organization said that the recovery of the past 15 months appears to have stalled. SIA president George Scalise said "The traditional seasonally flat first quarter has been further impacted this year by geopolitical uncertainty. Demand has softened in the markets that drove growth throughout the past year, including PCs, global wireless and consumer." On a quarter-over-quarter basis, there was a 20% decline in units in the microprocessor segment and Bear Stearns said it expects the slowdown to continue until late in the third quarter of 2003. The SOX made a run last week, eventually failing at its 200-ema, but has now given back 10% of its value in the past 6 sessions.
This morning's Chicago PMI report, which reflects manufacturing data in the region and is generally a precursor to the nationally based ISM data showed an ugly picture for the sector. The expectation for the report was a mild 50.8, which equates to a slight expansion in manufacturing activity (the expansion/contraction line is 50.0). However, the report came in at 48.4, showing contraction in the region and the regional indices appear to be signaling a sub-50 reading in the ISM, which is due out tomorrow. The drop from 54.9 in February was the largest decline since March 2001 and the lowest reading since October. The production index fell from 62.4 to 49.1, for the largest one month decline since 1980 and the lowest level since December 2001, just a couple of months after the 9/11 attacks.
The Dow dropped far enough to take out the 8000 level, trading all the way down to 7929 intraday. We did get a bounce back to the 8000 level, where we treaded water for much of the afternoon. However, if traders are wondering just how much effect the war news is having, they got more evidence that the answer is still "a lot" when news hit the wires that U.S. troops had taken control of oil fields in Kirkuk in Northern Iraq. Those fields contribute approximately 720,000 barrels of oil per day and the both the equity markets reflected the capture with a sudden rally late in the day
However, the May Crude Oil Futures still reflected the ongoing war and the situation in Nigeria that is strangling that country's output, as well. As oil prices have risen, the equity markets have dropped. That relationship remains consistent, reflected by today's $1.11 per barrel gain in the futures back over $30 per barrel to $31.27. Gold futures also reflected global uncertainty, with a gain of $6 per ounce.
Chart of Oil Futures
The late day rebound after the oil field capture lifted all boats, but not before certain key levels were broken. In addition to the Dow breaking 8000, the SPX broke 850, the OEX broke below 430 and the COMP fell under 1350. Those levels were all retaken on the late day rally, but eventually failed after the news euphoria wore off. The rally of almost 100 Dow points reversed itself and headed back toward mid-day lows. The bond market may have given us an indication of why we got a bit of a bounce in the morning before the war news broke. The treasuries reached an important level this morning, one which led to a big reversal in November and December, triggering asset allocations and sending equities higher. A look at the charts of the five and ten-year yields shows that this morning's drop ended almost at the exact point where those reallocations were triggered previously. Traders will also note that the big rebound in the middle of March, while pegged for the start of war, actually coincided with the drop in yields to their October lows. The war may have been cited as the main impetus, but it is probably no coincidence that the bounce in equities came at the exact time yields hit those October lows. That tells bears to be careful now, as well, as we have again reached a pivotal level.
Chart of Five and Ten Year Yields
The percentage of stocks on the upswing according to the bullish percents is still in rebound mode and those indicators have been very reliable. While we saw a sea of red and few reasons to be bullish from the economic front, we do have the major indices and the treasuries sitting at pivotal levels. We also continue to see a news driven market, as this afternoon's bounce on the oil field news will attest. The breakdown from last week's consolidation looks bearish and is supported by economic data. However, we are trading in an unpredictable environment and any U.S. victory or failure overseas can move the markets out of whatever the trend happens to be at that moment. The CBOE put/call ratio is at an extreme 1.31, which can be seen as a bounce indicator, as well. Interestingly, though, the market volatility index does not reflect a large increase in downside fear. We have conflicting signals at pivotal levels and while things certainly look bearish for the moment, traders should be nimble and manage their positions knowing how quickly things can change.