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Market Wrap

Outside upside day

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      06-11-2003           High     Low     Volume Advance/Decline
DJIA     9183.22 +128.33  9183.22  9038.07 1.84 bln   2315/ 982
NASDAQ   1646.02 + 18.35  1647.57  1612.22 1.89 bln   1872/1299
S&P 100   501.95 +  5.86   502.05   494.59   Totals   4187/1381
S&P 500   997.48 + 12.64   997.48   981.61 
RUS 2000  455.50 +  4.54   454.50   447.76 
DJ TRANS 2483.17 + 24.74  2485.49  2444.56 
VIX        22.12 -  0.01    22.97    21.79 
VXN        33.74 -  0.26    34.97    33.58 
TRIN       0.75
PUT/CALL   0.66

Outside upside day
By Jonathan Levinson
Click here to email Jonathan

The indices ate up bad news today, rallying off the Beige Book at 2PM. They broke northward out of yesterday's inside day on moderately higher volume after a mostly indecisive session, with advancing volume nearly triple declining volume on the NYSE and more than double on the Nasdaq.

Daily Chart of the INDU

The close at the session highs printed bullish hammers on the daily candles for the Dow and the Nasdaq. Note the stronger showing from the Dow today. The rally highs are the bulls' next target. The internals were strong today, though the oscillators and bullish percent readings are toppy.

Daily Chart of the COMPX

Weekly chart of the Ten Year Treasury Yield

Not that we needed them to confirm it, but the Mortgage Bankers Association of America announced that the average interest rate on 30-year fixed-rate mortgages dropped to 5.06 percent in the latest reporting week, erasing the previous week's alltime record low rate of 5.13 percent. Nevertheless, seasonally-adjusted demand for mortgage requests fell to 1,684.6 for the week ended June 6, down 9.3% from the record level set last week, the first down week in 5 weeks. The refi index, measuring demand for loans to refinance was also down 9.3% over the previous week, though it's still up 400% over its level from this time last year. Demand for home loans fell by 9%.

MZM chart

MZM is a measure compiled by the St. Louis fed, and is commonly used as measure of the money supply. There are numerous other charts which all tell the same story, but my goal is to briefly touch on the implications of the multidecade drop in interest rates. Against the backdrop of the fed's continual worries about "disinflation" and its eagerness to run its printing presses, in Governor Bernanke's words, we see the surge in money supply. This coincides well with the more than 20% drop in the US Dollar Index since January 2002, and the corresponding rally in commodities.

Chart of Commercial and Industrial Loans

So far, the surge in money supply has not found its way into loans to industry, but rather in loans to homeowners. Spurred by lower rates than many of us have seen in our lifetimes, consumers have bought and borrowed against their homes in record numbers. This surge in consumer borrowing has helped to buoy the economy on demand spurred by the historic availability of cheap money. Whether this is sustainable, which I don't believe it to be, and whether this is the better use of the new money added to the financial system, which I don't believe either, will have to be seen. But with this week's nearly 10% drop in mortgage activity over the previous week, we could be seeing the beginnings of a reversal to the 400% surge over the past year.

This discussion is only intended to contextualize the action in treasuries, the USD, and this week's mortgage data. I realize that I cannot do the subject justice in two or three paragraphs. My own view is that economic expansion can be stimulated temporarily with borrowed money, but at some point real demand needs to take over. The devaluation of the dollar via the suppression of interest rates has resulted in a rapid jump in home prices, acceleration in auto sales and other consumer- related goods. But unemployment remains persistent, and profits remain elusive. It is my hope that the fed will be successful in its campaign and that employment, productivity and demand will pick up soon.

The Federal Reserve's Beige Book was released at 2:00PM EST. The headline was that the fed sees the US economy as "sluggish" in most US areas in April and May, and that while the end of the war had provided some boost to US business and consumer sentiment, it was not enough to materially assist the US economy. The fed's next meeting on interest rates is scheduled for June 24-25. The federal funds rate is currently at 1.25, a 41 year low.

In other debt-related news, the SEC upped the status of its investigation into FRE, the U.S.'s second largest mortgage-debt issuer, to "formal" from "informal," and can now issue subpoenas for witnesses and documents. The US attorney's office also announced an investigation. Without mentioning FRE, Fed Governor Susan Schmidt Bies, addressing the American Bankers Association's annual regulatory compliance conference, said that the status quo of corporate governance is "unacceptable and must change." Ms. Bies added that it is unclear whether it was personal or systemic failure behind the alleged improprieties at FRE.

OPEC announced its decision to leave supply quotas unchanged at 25.4 million barrels per day, adding that it would push for tighter compliance with existing production limits. The cartel also decided to revisit the supply and demand situation in a special meeting on July 31 in Vienna. July crude was trading above $32 a barrel, a 3 month high. This jump was aided by a large decline in last week's U.S. inventories, with the Energy Department reporting a drop in crude inventories of 4.6 million barrels to 284.4 million barrels for the week ended June 6, surprising analysts yet again. Gasoline inventories rose 2.6 million barrels to 209.9 million barrels during that week.

Biotechs were strong today on bullish comments about the sector from Merrill Lynch. As well, LLY said before the bell that it expects second-quarter results to come in at the high end of the range of 59 to 61 cents per share. The company also reaffirmed its forecast before items for a profit of $2.50 to $2.60 per share for the full year 2003. As well, LLY gave an update on FDA reinspection of its dry products and injectable facilities in Indianapolis. The stock was strong throughout the session.

DELL and GTW were both higher, reaffirming guidance at the Bear Stearns Technology Conference in New York.

After the bell, the Semiconductor Industry Association lowered its industry-wide growth target for 2003 to 10.1 percent from a recently reduced range of 10 to 15 percent. The Association expects growth of 16.8 percent versus its previous projection of 22 percent. The Qubes dropped all of a nickel on the news.

For tomorrow, we have a full slate of economic data due before the bell:

               Report                     Briefing  Market  Prior
                                          Expects   Expects
Jun 12 8:30 AM Business Inventories Apr - 0.2%       0.2%   0.4%
Jun 12 8:30 AM Export Prices ex-ag. May - NA         NA    -0.1%
Jun 12 8:30 AM Import Prices ex-oil May - NA         NA    -0.9%
Jun 12 8:30 AM Initial Claims     06/07 - 430K       425K   442K
Jun 12 8:30 AM Retail Sales         May - 0.2%       0.0%  -0.1%
Jun 12 8:30 AM Retail Sales ex-auto May - 0.4%       0.2%  -0.9%

Last Friday gave us a high volume reversal at the rally's peak. We had been observing that at then current levels, the risk- reward had become unfavorable for bulls. The pullback from Friday appears to have been a routine "backing and filling" move, but note that many indicators, such as the bullish percents, never actually eased out of overbought territory. So, for the moment, this remains a trending move. Any of the above data could set off the bomb that gets the sellers motivated. So far, it remains my belief that the simultaneous strength in equities and bonds is a function of the fed's manipulation of the money supply through open market operations and other mechanisms. Regardless of the cause, equities have shown a great imperviousness to bad news, and a flagrant disregard for resistance levels. It may come rocketing back down, but so long as these strong bad-news bounces persist, bearish plays remain risky. Given the extension of the rally, so do bullish plays. The solution is solid account management and tight stops for directional plays, and premium-based strategies such as those profiled by Ray and Mike. See you at the bell!


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