Big News Ahead
The markets received another dose of mixed economic news on Friday as well as some mixed earnings news. The result was more indecision as to direction and another aimless day spent wandering about on low volume. If November and December are going to follow through on the historical best two months of the year rally they are going to have to hurry.
The mixed economic reports began with the PPI at +0.8% and four times the expectations at +0.2%. Higher beef prices benefiting from the lack of cattle exports from Canada were a strong component. Higher auto prices needed to offset the high sales incentives was the other major price jump. Still, the core rate, minus food and energy, also rose +0.5%. Sure glad we don't need food and energy to live. Shucks if we took out the spike in auto prices as well the index would only be up +0.2% and inline with estimates. Obviously none of us can live without those components so the +0.8% inflation in prices put some more fear into analysts that the Fed would have to act sooner rather than later.
The MARTS Retail Sales number for October fell -0.3% and more than expected. The biggest drop was in auto parts, gas stations and food and beverage stores. The drop in gas stations could be attributed to the drop in oil prices in October but on Friday oil prices again hit a three-month high. This drop in retail store sales is not really severe enough to be a problem but it was the second consecutive monthly drop. Slowing cash flow now that the tax checks are gone and the lack of mortgage refis are the real culprit. This was the first two consecutive months of drops since Jan-2002.
Industrial Production fell slightly in October to only +0.2% from September's +0.5%. Remember that blowout last month and in July? (+0.8%) Back to reality again at a mediocre +0.2 and Capacity Utilization rose a miniscule +0.1% from 74.9 to 75%. This is a far cry from the hopes of rising demand causing ranks of new employees to be hired and new assembly lines purchased. With 25% capacity still unused there is not going to be a surge in equipment purchases or hiring any time soon. Production of consumer goods and business equipment fell in October after several months of gains. This follows my theory that the 3Q GDP bounce was simply a production of merchandise for the holiday season and they are going back to business as usual already. That usual business has become filling orders as they appear and no inventory building. Those inventories are still at record lows and any real increase in demand could cause a very strong spike in Industrial Production but so far it has failed to appear.
Depending on what numbers you believe, consumers are a bipolar group. The November Michigan Sentiment Survey rose to 93.5 for a jump of +4 points over the October numbers. This was the high for the year and analysts were jumping all over this with glowing outlooks. More lies from men in ties would be my first thought. Retail sales is dropping like a rock from the highs in Aug/Sep. Auto sales are slowing. Home sales are slowing and mortgage loan applications hit a 52-week low last week. Wal-Mart missed earnings because the broadest measure of sentiment, their customers, were curtailing their spending. Why is the sentiment survey up when all the economics appear to be weakening. Could it be that consumers have just bought the recovery story completely and are camped out on the beach to watch the tidal wave arrive? The numbers are not adding up on my calculator but I am all for a big jump in expectations and a happy consumer. Happy people buy things and they could be already mentally cashing their January tax checks two months early.
Regardless of how we read the economic reports from Friday or how we see consumer sentiment the markets did not like what they saw. With all the reports public but the sentiment the futures were trending lower and the indexes opened down. As if by magic just as the markets appeared ready to tank a major buy program appeared to push the Dow within 8 points of 9900 and the Nasdaq to nearly 1980. Nice try by somebody with deep pockets but no cigar. The instant the buy program completed the markets took back control and headed for the basement. The bulls tried to buy the dip at prior support of 9820 and 1950 but they could only slow the process, not stop it. Shortly after 1:PM there was one more attempt to rally the troops but the sellers were ready. Multiple support levels were broken on both indexes and the Dow ended up taking a loss for the week closing down -69 on Friday. The Nasdaq took the biggest hit closing nearly -50 points off the morning high and right at the lows of the day. While this may sound very bearish we need to keep it in perspective. Both indexes are still above the lows for the week. They did lose ground for the week but only about -40 points each. Definitely not a major crash despite the magnitude of the day's drop. It was the speed of the intraday drop that concerned traders not the distance.
Volume was still light at 3.8 billion shares total but contrary to the strong bullish ratios from Wednesday the declining volume was better than 3:1 over advancing volume. Sounds bad but remember that Wednesday's triple digit gain came on 6:1 up volume over down. We have to keep things in perspective and part of that view has to include the new 52-week highs at over 700 on both Thursday and Friday. No weakness there. So what happened?
There were multiple reasons that prompted investors to reconsider holding stocks over the weekend. GE started off the day with a major broker cutting earnings estimates by a full nickel. This put GE, which has been under pressure, on the defensive from the opening bell. GE closed at the low of the day at 27.86 and a three month low on volume of 27 million shares. That is 40% more than the average daily volume of 19 mil shares.
Microsoft announced they would be taking a charge this quarter for employee stock option conversions and made some statements about continuing legal problems. MSFT has also been under pressure all week and it closed at the low of the day and a three month low of 25.46.
CSCO found itself under pressure after Chambers sold two million shares. This is not a relative amount for Chambers but it helped to push CSCO back to 22.27 and erase the gains for the week.
The major news and possibly the major reason for the speedy afternoon exit was an announcement by the SEC that they would announce a major settlement on Monday with a substantial financial penalty against a major broker. The advance warning with no clue as to the nature and identity of the culprit pushed financial stocks over the edge. Later in the day one SEC official said in an interview that this would be an entirely new area of investigation and not related to mutual fund market timing or late trading. This started the rumors flying and the consensus is the broker will be censured for selling higher commission funds to unsuspecting clients when possible.
This was not the only new fund worries. American Express came under pressure when it was announced the NASD and the SEC had investigated fund trading and enforcement action had been recommended against them. They were not alone. Schwab announced they were under investigation by the SEC and had found instances of improper trading in their funds. While these two companies may have been seen as above the prior scandal it is clear that no stone is being left unturned. In addition to AMX and SCH there were new announcements of subpoenas or findings of problems at Legg Mason, Raymond James, Labranche and Prudential. Fidelity Investments also said they had slashed their investments in PRU, MMC, TROW and BEN as the scandal begin to grow.
The explosion of negative news in the blue chip companies like AXP, PRU and SCH and the SEC warning that something big is coming on Monday probably proved too much risk for investors. Funds are still under pressure from investors shifting money but there is still money flowing into funds. The bullish 4Q sentiment continues to flow according to the fund trackers. AMG Data said $3.5 billion flowed into funds last week. TrimTabs.com claimed an inflow of +$4.4B. AMG said the four-week moving average rose to $5.4 billion and the highest level since May-2001. Obviously all the numbers contradict each other as the different companies calculate numbers differently. Both will have even more trouble in the future now that funds like Putman have stopped giving out fund flow data. I guess they were tired of hearing sound bites every two minutes about how much money investors had withdrawn from their funds. Fearing a monkey see, monkey do pattern they stopped the reporting. It was learned on Friday that Putman may face additional charges as more information is made public. They already have 16 class action lawsuits in progress. Spitzer also announced on Friday that he was not only looking at just fund timing and late trading but was branching out into all the other areas including the annuity business. This scandal is not going away anytime soon.
Not only were the big caps hit today, led by GE and MSFT, but the techs that had gained the most recently were the hardest hit. After very good chip news this week the SOX lost -3% led by AMAT which lost -6.7% and Intel which lost -3% for the week. I mentioned on Thursday to watch drugs for money rotating out of techs. On Friday with the market in the tank the $DRG.x rose +5.22 or +1.62% to cap a week where it jumped from Tuesday's low of 304 to 326 at the close on Friday. (+7.2%) There are multiple reasons given for the sudden attention to drugs like the potential for a Medicare bill and some more consolidation in the industry. There is always a reason given but the coincidence is amazing. The jump in market cap on PFE, which traded a whopping 40 million shares on Friday, pushed PFE to be the third largest company by market cap at $265 billion. It ranks behind GE $280B and MSFT $276B. CSCO which once had a market cap of $550B has shrunk to only $157B, well behind INTC at $220B.
Next week is shaping up to be a whopper. Not only is it an option expiration week but there are tremendous forces at work. According to the Stock Traders Almanac the week before Thanksgiving has been up TEN years in a row. That is a very good record that has traditionally been helped by the best two months of the year syndrome that begins in November. Unfortunately the history books cannot tell us what new scandal is going to be announced by the SEC on Monday.
What we do know is the economic calendar will be light next week with only Business Inventories and NY State Manufacturing Survey on Monday followed by the CPI on Tuesday. If the CPI shows more inflation creeping into consumer prices you can bet the market will not be pleased.
My bias is neutral for next week. For any other week of the year with the same factors leading into it I would expect a negative result. However, I think the drop on Friday was due to the fund news and the SEC announcement. The very unusual announcement on Friday that there was going to be a very big announcement on Monday was simply too much of an unknown for traders to risk. How big is very big? What new crime were they going to describe? Who was the culprit? Citibank, BAC, ONE? Nobody knows. It could even be Fidelity or Merrill. When is the next announcement going to be the last straw for investors? This unknown going into a Friday close with the Ramadan terror threat was just too much. I almost forgot to mention that at 12:30 Dow component XOM was handed an $11.9 billion judgment payable to the state of Alabama. Needless to say the market was under attack from all sides.
I would continue to watch the internals once the SEC news has passed. The bullish bid is still there and with the ten year record for next week fresh in investors minds the odds are very good they will try to buy every dip. Assuming the SEC announcement on Monday does not alter reality as we know it the odds are good that Dow 9725 will hold as support. I would buy a bounce at that level once the news is out. However, should that level break the next stop could be significantly lower, possibly in the 9600-9650 range. The Nasdaq is at strong support at 1925-1930 and should that break we could easily see 1880. Neither of those worst case scenarios would be life changing for the markets. The uptrend would still be intact or maybe I should say the sideways trend since we have not made any substantial progress in over a month. The key is clearly the SEC announcement on Monday but given their penchant for showboating it may end up as no big deal when the smoke clears. Buy the bounce and sell the break but don't get married to your positions until a trend appears. You remember a trend don't you? That is where the market goes in one direction for more than two days. Until then a long term position may be measured in hours.
Enter Very Passively, Exit Very Aggressively!