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Market Wrap

Gone Fishing

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     08-20-2003            High     Low     Volume Advance/Decline
DJIA     9397.51 - 31.39  9423.26  9364.03 1.49 bln   1721/1443
NASDAQ   1760.54 -  0.57  1768.52  1747.01 1.51 bln   1637/1565
S&P 100   501.89 -  2.03   503.92   500.54   Totals   3358/3008
S&P 500  1000.30 -  2.05  1003.54   996.62
RUS 2000  489.46 +  0.76   490.24   485.31
DJ TRANS 2661.90 -  2.05  2669.87  2656.49
VIX        19.71 +  0.48    20.18    19.35
VXN        27.64 +  1.14    28.66    27.36
Total Volume 3,250M
Total UpVol  1,484M
Total DnVol  1,697M
52wk Highs     665
52wk Lows       47
TRIN          1.19
PUT/CALL      0.62

Gone Fishing
By Jonathan Levinson
Click here to email Jonathan

That's what the smart money did today, with the Nasdaq closing lower by 0.57 of one point and the Dow losing 31. Volatility remained low, and the question remains whether trades at the current level are consolidation near the highs, or distribution of shares ahead of a drop.

Weekly COMPX

Both the Nasdaq and the Dow weekly candles are at cyclical tops on their oscillators, and the 10 week stochastics issued buy signals in July. The downphases have hiccupped on this week's gains in the Nasdaq and the Dow, and a truncation of those downphases this early in their runs would have very bullish implications.

Weekly INDU

6 month daily COMPX

The daily Nasdaq and Dow have yet to abandon their uptrends, with the Nasdaq trading just below it while the Dow is just above. The 10 day stochastic and MacD are both on buy signals, which is causing the upticks we saw above on the weekly oscillators.

6 month daily INDU

20 day 30 minute COMPX

The lack of upward momentum today gave us sell signals on the 300 minute stochastic, with both indices trading within bear flags. A breakdown from these formations should pack sufficient power to abort the buy signals on the daily oscillators and allow the ongoing downphases on the weekly to resume. However, for the moment, the upphase on the daily appears to be dominant, causing the short cycles on the 30 minute charts to trend in overbought territory and the downphasing daily cycles to pause early within their runs.

20 day 30 minute INDU

On the economic front, the Mortgage Bankers Association (MBA) announced this morning that seasonally-adjusted demand for mortgage refinancings, the MBA refi index, dropped 14.9% for the past week following the previous week's 16.1% drop, bringing the the index to its lowest level since July 12, 2002. Demand for loans with which to buy homes, the Purchase index, fell 4.9%. The Application index fell 10.7% for the week, following last week's 10.3% drop. The average interest rate for a 30-year fixed rate mortgage rose to 6.22% from 6%, now 123 basis points above its June 13 low. Recall that John Snow talked down the negative impact of rising rates: "When an economy is recovering, it is normal to see interest rates rise some. So I would point to the rising interest rates as an indication that the economy is coming back." Without a strong pickup in employment to cover this extreme increase in the cost of money to the average home borrower, I don't see how far the economy can get. Note, as Jane reported on Monday, that personal bankruptcies rose 10.2% from last year, setting a new record on both a quarterly and per household basis, reaching new record levels.

One year daily chart of the thirty year note yield

It's worth spending a moment to discuss the concept of the Kondratieff Cycle. I will not be able to do it justice in this limited space, but it's worth noting the concept in light of the ongoing developments we follow here on a daily and weekly basis. Nikolai Kondratieff, whose work was carried forward by Joseph Schumpeter, posited that there's a long term cycle of credit expansion and contraction, and tied the cycle in with wars, booms and busts. Briefly, economic seeds are planted following periods of credit contraction. Businesses are built, investments are made (the "spring"). As the cycle progresses, the investments mature and prosperity grows, and the economy begins to incur debt against its assets (summer). Expansion slows, but debt continues to be incurred to extend the "good" times. Debt begins to peak, at which point it becomes unsupportable. At this point, credit begins to contract, with bankruptcies increasing and economic activity slowing (the Kondratieff Winter). After debt has been cleansed from the system by these mechanisms, the economy is ripe for the new round of investments to herald the spring.

Without quoting Chauncey Gardiner from "Being There", the contraction is a necessary part of the cycle. Kondratieff and Schumpeter and others have linked the major wars to the cycle's peaks and troughs, and this is fascinating work to review for the cost of a quick Google search. Reputedly, Allan Greenspan during the late 1960s said that he'd like to be Chairman of the Fed during the 1990s, because he felt he could overcome the K-Wave Winter by flooding the financial system with liquidity. Why one would wish to do so is beyond me, but this appears to have been the case. Unfortunately, as we have seen during the past Wednesday market wraps, the Fed has succeeded not in averting a period of necessary economic contraction, but merely in creating asset bubbles in discrete sectors, first in the Nasdaq during the Dotcom boom, then in the credit and mortgage markets, with the price of real estate following along, and possibly in the Chinese manufacturing sector as well. Given the explosion in the money supply, it is my guess that commodities and particularly the precious metals sector are in the process of becoming the next asset bubble. Disclosure: I am long this sector, as it seems obvious to me that if dollars are being printed at a rapid rate, the price of all things that cannot be created at the same rate should rise.

Weekly chart of MZM money supply

Weekly chart of December 2003 gold

In any event, to conclude our musings on the Kondratieff Winter, the recent record-setting corporate bankruptcies such as Enron, Worldcom, K-Mart, Global Crossing and others, the soaring level of personal bankruptcies and the proliferation of offers of credit, including zero-down, zero-payment, cash-back deals, all fit perfectly into this century-old theory. Apparently there's talk of interest-only home mortgages resurfacing, a concept I've heard was last popular during the 1920s. As the Winter cycle progresses, we can expect to witness the last gasp of credit expansion. I believe that the uptick in rates marks the peak of the current Winter cycle.

In other news, it was reported by the American Petroleum Institute (API) that crude oil inventories dropped by 1.6 million barrels to 278.8M barrels, while the Department of Energy recorded a loss of 2.03M barrels to 279.M barrels total. Either way, analysts managed to get it wrong for another week, predicting an increase in supply. The API and Energy Department data reported unleaded gasoline inventories down on the week, and distillate supplies higher during the week.

It was an otherwise quiet day, and the lack of movement in the indices reflected that. We have the following economic data due tomorrow:

               Report                   Briefing  Market    Prior
                                        Expects   Expects
Aug 21 8:30 AM Initial Claims 08/16 -     395K      395K     398K
Aug 21 10:00 AM Leading Indicators Jul -  0.5%      0.4%     0.1%
Aug 21 12:00 PM Philadelphia Fed Aug -    11.0      10.0      8.3

I expect to see the markets react to the initial claims data before the bell. I noticed that some writers were attributing the selloff in bonds today to expectations of a bullish showing on the employment data. If that's the case, which I personally doubt, then we can expect that anything less than a downside surprise in new unemployment claims will disappoint the market. My feeling is that the conflicting cyclicality portrayed in the charts above is what's causing the market to chop sideways, and whatever the spark, we should see a resolution, and hopefully soon. Until that happens and the market shows its hand, trade safely and ride your stops. No trade beats a bad trade.


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