Bears on the Run
Not believing their eyes the bear population is running for cover. Seeing the indexes at 52-week highs as October earnings begin is such a contradiction of events that unbelieving bears continue to short and continue to get trampled by the bulls. The last gasp may have been seen today with the stop at the contract highs on the futures. An upward break on Wednesday could be the bears signal to head for a warm cave for the next few months.
The morning started calm enough with the weekly Chain Store Sales rising +1.3% on the strength of early Halloween sales. The date for reporting September sales is this Thursday and we are expecting to see sales fall from their August levels. Competition is reducing prices and making gains in total dollar volume difficult. The stores may be selling more items but they are getting less for them. Wal-Mart is killing all the categories including food. There are no more tax checks in the pipeline and cash is going to be tight through the holidays.
August Consumer Credit rose +$8.2 billion compared to estimates of only $5.8 billion and $6.1 billion in July. The gains were driven by the continued zero interest on auto loans and a new component of student loans. This was the first month that loans made by Sallie Mae or directly by the government were included in the totals. Despite the gains in the headline number the overall pace of credit is growing at the slowest pace in a decade.
Ten Year Yield Chart
The market opened down today on worries over the weak dollar but when the drop did not intensify investors rushed in to buy the dip. The markets traded all over the charts but did not make a major directional move until 2:PM. Bonds closed down with ten year yields rising to 4.24% at the close. The dollar fell to a three month low on global worries about the deficit. The government is selling another $71 billion in notes this week and that supply is also depressing bonds. A fall in the dollar can cause cash to flow out of stocks and back overseas to avoid a greater currency translation loss in the future. On the flip side a lower dollar helps increase profits for U.S. corporations. A slow decline would help stocks but a rapid decline would accelerate investing decisions by foreigners and could hurt the market. The dollar dropped under 110 Yen and the U.S. Dollar Index fell to 91.91. The index is only a couple of points from its June lows and should that fail it could get ugly. The lack of an intervention against the Yen at 110 was also a worry. That level was defended last week by Japan. Traders fear that should Japan stop buying dollars to keep the Yen from rising then they may stop buying treasuries as well. A break under the June lows could setup a test of the 1995 lows in the low 80s and ripple currency on a global basis.
US Dollar Index Chart
The markets are continuing their stealth rally but some of the camouflage started coming off this afternoon. Since the big move last week to punctuate this five day winning streak the markets have moved up slowly as they consolidated those big gains. Each day had moments of doubt where the averages traded down just enough to give bears confidence to short before bulls slowly increased their positions. The result was another round of short covering. The Dow spent almost an hour at the 9550 level this morning (-50) and after a late morning rebound it retraced once more to test it again. That was just in case there were some bears not yet convinced to short the five days of gains. Once the bears jumped on the train it was derailed by the bulls and went vertical at 2:PM. The Dow closed only five points from the 52-week closing high at 9659. The Nasdaq closed at 1907 and only two points from its 52-week closing high.
These gains are simply amazing for multiple reasons. First they are coming in a typically bearish period. Secondly because of the magnitude. The five-day string for the Dow is now up +379 points and the Nasdaq +117. These gains in front of imminent earnings are also incredible. It brings back memories of the bubble years where investors bid up stocks in front of earnings expecting outstanding results. Those outstanding results better appear or trouble will be in our future. Analysts are positively giddy about the potential for Q3. The earnings warnings season has closed and other than SUNW there were no really high profile companies and very few announcements. This has prompted analysts to raise estimates again only a day before the earnings flood begins. According to First Call this is the first quarter since Q2-2000 that earnings were revised up this close to the announcements. They have jumped from Q3 and Q4 and are now upgrading Q1. The Q1 estimates rose from +13% to +16%. That may sound anemic compared to the estimates of +20% for Q3 and +26% for Q4. That is because the year over year comparisons become much harder once you get to 2004. For 2003 we are comparing against a lackluster 2002 that was still in a slump. For 2004 we will be comparing to the earnings rebound which began in 2003.
If the future earnings follow the trend for today then we do not have anything to worry about. PEP started the ball rolling with a +13% rise in profits and raised its guidance to the high end of previous levels. Sales were up +8.4%. YUM beat estimates and said full year gains would be higher than current estimates. The first Dow component to announce was Alcoa and they beat estimates by three cents and posted a +45% gain over the same period last year. Sales were less than expected but the aftermarket traders did not appear to care. They said shipments were the highest since Q1-2001. If this trend continues we are going to have a blowout quarter.
That concept of a blowout quarter is causing many people grief. There are those that believe most earnings have been on cost cutting and not revenue increases and they question the potential for another quarter of big gains. Others just question strong earnings in October period because the summer quarter period is typically weak. Others simply think that even if the earnings are strong the market is fully priced. Those who think the market "is all dressed up with nowhere to go" could be very surprised. Most already are. The market simply is refusing to go down despite the almost unanimous sentiment that it should at least profit take some before moving higher.
There is an underlying bid to the market and it is not getting any weaker as the calendar moves forward. This bid is buying every dip and frustrating the bears to the point where a credible short attempt is becoming less likely as each day passes. Shorts are getting killed on a daily basis. The markets are opening down with the appearance of a breakdown and then bouncing back at midday. Late in the afternoon buyers appear and we move higher forcing the shorts from the morning to cover. It appears the big money is waiting for each days action to run its course and with no sustained drop by late afternoon they put that cash to work. According to the tape there are large baskets of stocks being bought late each afternoon. Not specifically individual issues but huge blocks of SPDRs and Qs.
This supports the theory that hedge funds, 6000 of them with over $600 billion to invest, are playing the momentum game. Mutual funds may be helping by purchasing these baskets in lieu of individual stocks. They would do this to profit from the market move while waiting from any potential dip to buy individual stocks. They can exit these baskets in an instant where selling dozens of individual stocks during a market event could subject them to more risk than they are willing to assume. As long as these players can keep the momentum cycle going then they will keep pressing their bets. Nobody wants to be left out of the market if we are going to have an October rally instead of a dip and this is the easiest way to do it.
Complicating this rally is the light volume. NYSE volume on Monday was less than one billion shares. On Tuesday there was only 1.27 billion despite the close near the highs. As Art Cashin described it, "the rally has all the excitement of a dance at a nursing home." The NYSE advancing volume beat declining 2:1 and it was the fifth consecutive day the down volume was under 600 million shares. The Nasdaq was closer to 3:1 in favor of up volume. New 52-week highs have been over 700 for three consecutive days.
What we have here is a picture of a broad based up move with no sellers and limited conviction. Conviction would be a 2B share day and 4:1 or 5:1 up to down volume. If the bulls could get a couple more positive earnings announcements we could really have a party but they are going to have to find some new money. As one trader put it, "all the old money is either in the market on the long side or waiting on the sidelines to short it. The only gains we are seeing are from new fund flows." The context of the comment was "everybody that wants to be long is long."
Regardless of the reason the Dow is up +379 points in five days and is five points from the closing high. That alone should cause traders to rethink adding new money to the market. It is not because the market cannot move higher but because of the overbought conditions from five days of gains. The contrary viewpoint is the -50 point drop at the open today and again at 1:PM. That was our intraday profit taking correction. The bulls had two chances to sell or better yet were faced with two selling events and they decided to hold instead of dump stocks. We are seeing a rolling consolidation and the small gains yesterday and today were a tribute to the lack of selling interest.
This week has been strangely quiet on the economic front and tomorrow is no exception. We have the weekly Mortgage Applications and Wholesale Trade. Neither are normally market movers. On the earnings front YHOO leads the list with COST, BRO, DNA, SONS, SVU, SBL and WIN announcing. Obviously YHOO and COST are the majors with COST before the open and YHOO after the close. The key to Q3 earnings is not if they beat the street on earnings per share but how did they do on revenue. More earnings from cost cutting will not keep the rally going. We need to see gains in revenue to make it stick. As far as a trading for this week, until the recent pattern fails, just buy the morning dip and sell at the close. Eventually that pattern will fail but until then, party on!
Enter Very Passively, Exit Very Aggressively!