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Market Wrap

Unchanged But Changed

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      09-16-2003           High     Low     Volume Advance/Decline
DJIA     9567.34 +118.50  9571.13  9449.16 1.72 bln   2312/ 902
NASDAQ   1887.26 + 41.60  1887.87  1848.41 1.80 bln   2186/1067
S&P 100   517.36 +  7.40   517.59   509.96   Totals   4498/1969
S&P 500  1029.32 + 14.51  1029.66  1014.81 
W5000    9979.05 +136.10  9980.60  9842.92
RUS 2000  515.66 +  9.02   515.91   507.64 
DJ TRANS 2773.38 + 40.40  2775.43  2732.06   
VIX        19.31 -  0.94    20.85    19.25   
VXN        31.66 -  1.27    33.44    31.24 
Total Volume 3,800M
Total UpVol  3,145M
Total DnVol    582M
52wk Highs  552
52wk Lows    21
TRIN       0.53
NAZTRIN    0.40
PUT/CALL   0.66


Unchanged But Changed
By Jim Brown
Click here to email Jim

The Fed left rates unchanged today but there was a change in the statement. It was very subtle and just enough to tilt the scales but traders completely ignored it. Tuesday was governed by several large program trades that caught the market by surprise and left many shorts running for cover at the close.

Dow Chart

Nasdaq Chart

The day started off negative with the Retail Sales report and a decline of -0.3%. Wal-Mart and Target held up the sector or it would have been much worse. Back to school sales continued to provide the majority of their gains. The 9/11 anniversary did not really impact sales and life continued as normal. The numbers were also boosted by heavy sales of building supplies on the east coast in preparation for the hurricane. This was the first negative week after three consecutive weeks of gains. The Bank of Tokyo is now projecting gains for September of only +3.5% to +4% which is down from their +5% earlier estimate. It is going to be harder for retail sales to grow over the next month because the tax checks are over and the refinancing boom has bust. Consumers should be in conservation mode for the holiday purchases in December.

The NAHB Housing Index fell to 68 in September from 71 in August. This is a minor decline and 68 is still the second highest number since early 2002. The outlook by the builders may be eroding but it is still high. The components showed that buyer traffic dropped to 20 from 55 and single family sales dropped to 73 from 77. The only component that did not drop was the six-month outlook which remained at 78 and the same as the prior month. With the drop in buyer traffic from 55 to 20 I am amazed the headline number did not drop any more. Builders are still hoping the rising economy will offset rising rates and keep the momentum moving. They are shifting their marketing to adjustable rate mortgages in an attempt to diffuse the impact of the rate increase.

The Consumer Price Index rose only +0.3% for August and the majority of that increase was due to energy prices. The core rate showed only a +0.1% gain and emphasizes the lack of pricing power for corporations and the potential for an "unwelcome fall in inflation". The lack of inflation will do nothing to prevent the Fed from taking stronger action if needed to fuel the economy. The core rate at only +0.1% was so low that it pushed the 12 month inflation rate down to only +1.3%. This is the lowest rate since 1966. At only +0.1% there is very little room before we start seeing negative numbers and true signs of deflation. The economy needs to put in a floor here, draw line in the sand or make goal line stand. Choose your metaphor.

The FOMC meeting ended with no change in interest rates as expected. The statement was a carbon copy of last months statement with one small but important exception. Today's release specifically said labor conditions were weakening instead of labor conditions are mixed. Other than that they repeated the same comments from the last two meetings of risks are basically balanced between inflation and an "unwelcome fall in inflation" but all things considered there is still a minor risk of the latter. They still do not trust us with the "D" word. Still the mere mention, regardless of how minor, of the D phrase kept the bond market to only a minor loss. The key point here is that the Feds are either cautiously optimistic that the economy is still recovering or they are still behind the curve or they just have their heads buried in the sand. They did realize that after seven months of jobs losses and increasing jobless claims that the labor market was weakening instead of mixed.

The Fed also issued the coded sentence that there were no rate changes coming any time soon to keep the market from worrying that any economic bounce could jumpstart the rate hike cycle. This is critical considering the real funds rate is already negative and has been for most of the last 2 years. Also, this is one of the longest periods of low rates over the last 50 years. The M2 money supply has expanded more quickly in the last three year period than any other period in history. Many analysts think the "labor market weakening" statement was a clue that the Fed could actually cut rates again if the Oct jobs report was negative. The markets had a mixed reaction to the announcement at first but then rallied strongly into the close on a monster buy program. Conspiracy theorists were flocking to the theory that the Fed was pumping money into the market to make it appear the market was excited about the Feds decision.

The Fed announcement was actually preempted by another news event on the west coast. Two of the top three pension funds in California with assets of nearly $300 billion in stocks, called for the resignation of Richard Grasso and a reduction in his announced pay package. They were quickly followed the North Carolina Treasurer, claiming he represented 700,000 pensioners, and the New York State Controller who claimed he represented 960,000 fund holders. This brings to about a dozen the number of major players calling for his resignation and in some cases the resignation of the board. Now that the top players in the country have gone on the offensive and pledged an aggressive fight using all the methods at their disposal, Richard's days are numbered. The reluctance to release details of the pay package until pressed by authorities and then the bits and pieces release already make the board and management look guilty. The pressure is rising and although they did not do anything legally wrong the appearance of abuse and cover up will probably lead to a big announcement soon. Grasso has refused all interview requests since the resignation demands began to increase. Expect this to take center stage on Wednesday right behind the hurricane.

After the bell MCHP affirmed a lower range of estimates for earnings. Prior estimates were for sales to increase from +1% to +6% and they narrowed the range to +2% to +5%. Earnings were still expected to be 17 cents. Dell's CFO, Kevin Rollins, was interviewed on CNBC and he was not as upbeat as Michael Dell. He tried to carefully express both caution and confidence without stepping on his boss's toes. He said demand was stable but there was no real growth. He also said they were seeing growth in performance but not in price. The interviewer asked him specifically again if that meant that revenue would not increase and Kevin tried to dodge the bullet by repeating that they were seeing growth in performance and launched a sales pitch for Dell. Interesting interview where they actually discussed the fact that Michael Dell may be more bullish about expectations than facts would allow but it was very carefully worded. I think Michael must hold training classes on how to speak to the media to turn every interview into a sales pitch and how to divert pointed questions.

The recall election is not off. At least according to the ninth circuit court. Instead of waiting to see if the parties to the recall suit would appeal the three judge ruling the 9th circuit gave the parties a limited amount of time to file a 15 page position paper from which the court would decide to take the case or pass. The court stayed the order from the lower court halting the election and told everyone to consider the election as back on until they ruled on the appeal. The court can pass and open the door for a supreme court appeal.

Spitzer is on the prowl again and they woke up the mutual fund community today by filing not only civil charges but criminal charges against Theodore Sihpol a broker for BAC until he was fired last week. They are claiming that traders "stole" money from fund holders by allowing late trading. He faces up to 25 years in prison. Spitzer and colleagues claim there will be many more charges against dozens if not hundreds of fund personnel. The wake up call has caused some real grief from people expecting a hand slap and a fine. Real jail time on multiple charges with minimum sentencing provisions will cause some sleepless nights tonight.

There will be more sleeplessness tonight for those that were caught off guard by the strong rally today. There was a strong move up at the open accompanied by a buy program at 9:50. This produced some short covering that pushed the Dow to strong resistance at 9500 where it traded sideways in a ten point range until the Fed announcement. After the announcement the Dow dropped only to the bottom of that range and another buy program triggered to push the Dow to the 9525 range where it held on strong but declining volume for 30 minutes only to blast off on yet another apparent buy program to 9560. When the 9525 buying began the shorts began covering in earnest and pushed the Dow and the Nasdaq to six day highs. Almost the entire drop for the last six days since the September 8th closing high was recovered in one day on negative news. There are quite a few bears still short and scratching their heads tonight. The S&P Emini came to a dead stop at 1028 with very strong resistance at the 1030 level and the contract high. The Dow closed at 9563 and only a very short 37 points away from very strong resistance at 9600. 9607 was the recent 52-week high. The Nasdaq rallied +41 points and came to rest only one point below the recent 52-week high. This very bullish day completely surprised almost everyone. However, if you look at the candles on the charts above I am sure you will agree it was not normal buying patterns.

Let's reconstruct. Retail Sales declined and the Bank of Tokyo lower their estimates for September. The core rate of the CPI rose only +0.1% and could not get any closer to an unwelcome fall in inflation. The NAHB Housing Index showed buyer traffic fell to 20 from 55. The Fed said the labor market was weakening and deflation was still a greater threat than inflation. We are in the most dangerous six weeks of the year. If all of this is bullish then I am missing the boat. So what prompted the markets to retest the current highs? What prompted the strong program buys that triggered the massive short covering? Maybe I should start believing the conspiracy theorists. It was certainly not excitement that Grasso may be on his way out or that Spitzer could file charges against hundreds of traders.

Ok, let's assume the economy is in a stealth recovery. We are getting cautious comments from quite a few companies that are affirming estimates but not specifically raising them. Earnings warnings are very low on a historical basis. We have analysts quoting +7% GDP for the 3Q with no evidence to support it. Great, I hope we get it. The problem I see that this is already priced into the market. Literally every major analyst agrees with this concept. Also, almost all analysts agree that a rally over the traditional Sept/Oct period would be strongly bullish. Unfortunately nobody can explain why it would happen. Nobody can explain why we are not seeing any real profit taking.

The only scenario that makes sense is the new bull market scenario. Scrap the concept of waiting for valuation because stocks are always over valued at this stage of a market cycle. Forget the normal historical market cycles because they are only serving to produce dips to buy. Stocks are going up because people want to buy them. They want them to go up. After three years of a bear market they are tired of the bearishness. They have bought the recovery scenario lock stock and barrel. 2004 will be a banner year according to the rising six month sentiment expectations. That is the bullish view, buy the dip. The bearish view sees all the negatives I mentioned above and keeps trying to short the resistance. Been there, done that, today. Many are scared of shorting the tops now because of the numerous breakouts. They are waiting for the dips to gain speed and after 2-3 days of a downtrend they finally get suckered back into a short position. Just as they get comfortable with the trend the trend changes but just slow enough to keep them short until the last minute.

We had five days of weakness on the Dow totaling about -220 points. No big deal but enough to make traders think that Dow 9000 was possible again. This was especially true when we were trading in the high 9300s last week. Shorts are like that frog in a pan of cold water. Just as they are getting comfortable and adding to their positions the price begins to rise little by little but always with a hint of a continued down trend. These represent the bearish equivalent of buying opportunities or shorting opportunities. After a couple days of sideways movement to lull them to sleep we got the big morning bounce on bad news. Their fear factor rises but surely this is temporary. We always get a sell off just before the Fed announcement. What, no sell off? That is ok we will see a monster sell the news event because the Fed cannot say anything positive for fear of spooking the bond market. The news is out, the market drops slightly and maybe they add to their positions thinking the crash is about to occur. Suddenly a massive buy program kicks the Dow up +60 points and their pain threshold increases exponentially. Short covering begins on heavy volume but the majority are still locked into that final lie. Don't worry the Dow will fail again at 9600, Nasdaq 1890, S&P 1030. That was the prior highs and very strong resistance. Shucks, I am going to average down and add to my positions if we hit that level.

Replay that scenario every week for the last six months and just change the economic reports and the prices and you will see why we are threatening to break out again. All the indications for the bear point to a failure in the economy, a failure on price and a failure based on the calendar. None of which has yet to come true. Most retail bulls are oblivious to the complicated forces in the market. They have a winning plan and they are following it carefully. Buy the dip. It worked for years and it is back. Martha, take the funds out of the money market we are going to make it all back. Actually the Fed is supporting this plan. If they can keep talking the market up and not scare anybody with the D word then investors will feel prosperous again and they will spend money and pay taxes with those profits. The only problem with this scenario is that it will only work until it quits and nobody knows when that will be. Eventually institutions will decide they have ridden the bull long enough and start taking profits.

Actually, the activity over the last several days had looked an awfully lot like some institutions were taking profits. It looked like we were in a distribution phase. Distribution occurs when institutions want to exit a large position without tanking the market. If they think the market is near a top they will start feeding each bounce with a fraction of their position. Say they wanted to sell 20 million shares of MSFT or GE. Just placing an order for 20 million shares would knock us back to July in a heartbeat and they would end up getting far less than current value. Instead they start dumping smaller blocks of 5, 10, 20, 50,000 shares into the market at a slow enough rate to keep the market from tanking but fast enough to get them out as high as possible. By distributing these multimillion share positions to the retail investors in thousands of smaller chunks they get out quietly.

The signs of distribution are heavy volume and no movement. This is exactly what we have been seeing over the last several days. Today especially. There were several periods of huge volume for a prolonged time with no movement. The bulls were buying hard but somebody was feeding them in volume. The bounce in the late afternoon was on very heavy volume and it appeared as though the 9525 and 9550 pause levels were particularly heavy. Of course this is all speculation on my part because nobody knows what it powering the market. We could have just been seeing some asset allocation programs coupled with short covering triggered by those programs. The key to the puzzle is still tomorrow.

Regardless of the reasons we did close at or near the highs. If the gains today were based on program trades of some sort then tomorrow could see a reversal. If it was really a flood of new money into the market then tomorrow could see a break to a new high once again. Shorts will be sitting with their finger on the trigger at the open. They are in a very dangerous position this close to a breakout. Let one major buy program hit at the open and it could be off to the races. The economic news tomorrow is light with only Residential Construction and Mortgage Applications and the Semi Book-to-Bill after the close. We are on our own for direction and the futures are perfectly flat at 9:PM. It could be an exciting day if you are on the right side of the market. It could be painful if you are on the wrong side. The Nikkei rose +179 points at the open tonight to break 11,000 for the first time in 14 months. This could be our first clue. Dow 9600 is the key at the open. Once broken the next stop could be 10,000. The key word there is "broken".

Enter Very Passively, Exit Very Aggressively!

Jim Brown
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