Some traders claimed to be hearing the proverbial fat lady singing today but I am not convinced. There were numerous reasons for the drop but none of them were catastrophic. The markets simply need a breather and the opportunity to rotate into different sectors. While the four day Dow drop may seem like a disaster if you are long it is only a blip in the longer term trend. What does bother me is the weakness into the close and events on the horizon so grab those reading glasses and let's get started.
The morning economic reports were not very positive. The Chain Store Sales for last week fell -0.8% and gave back two thirds of the prior weeks gains. Overall the trend for the last two months has been very choppy with excuses the norm and sales weak. The Bank of Tokyo left the estimates for the month at +4.0% but they are going to have to hurry. Fortunately the Thanksgiving shopping is still ahead and there is a good chance there will be a rebound.
Inflation is still at 40-year lows according to the Consumer Price Index, which was released this morning. The index was flat at +0.0% with the core rate only +0.2%. This raised the rate for the last twelve months to only +1.3% and only a tenth of a point from the +1.2% 40-year low in September. On the surface this frees the Fed from worrying about the inflation monster for at least another month. The bad news is that the real prices we pay were rising with beef prices at a 24 year high. The internal number that skewed the results was a -3.9% decline in energy prices. That offset some of the other gains but you can bet the Fed knows how to count and will be looking at the internal components.
The home building market may be losing some of its luster according to the NAHB numbers for November which dropped to 69 from 72 in September. While this is still high it shows the pressure from the higher mortgage rates. The buyer traffic fell to 46 from 52 and was the largest drop of any component. CTX bucked the number today with a positive outlook and suggesting that the boom will last. They said that 2005 was looking very strong. This enthusiasm carried over into their stock price which jumped +2.08 to 101.38 on the outlook and a 2:1 stock split announcement.
The Fed is apparently not worried about the creeping inflation and two Fed heads actually brought up the deflation potential again. There comments on deflation/inflation along with comments about being on the sidelines for some time were welcomed by bond traders. Bonds were bought to the relief of everyone but that did not help stocks.
Strong earnings from Home Depot failed to help the markets out of their slump. HD credited tax check liquidity and several natural disasters as well as an overhaul of their stores for the strong sales in all sectors. Sales were up nearly +15% with earnings at 50 cents beating estimates by four cents. HD lost -50 cents on the day after trading up strongly at the open.
The biggest factor dragging on the market was the various terror alerts and incidents. With Ramadan ending next Tuesday it is almost a sure thing there will be an escalation in events over the next week. The threats are coming fast and furious and most are directed at friendly Arab nations and the U.S. There was a strong rumor during the day that traders were moving to the sidelines due to the Bush trip to London. Even with security at the highest possible level it is still more risky than the same exposure in the U.S. Traders were worried that putting Bush at higher risk during the last week of Ramadan was too tempting a target for terrorists. This trip had been planned for 18 months so plenty of time for them to get their act together.
Some of the biggest targets are the various oil fields and pipelines in Arab world. Saudi Arabia is said to be very concerned that their pipelines could be attacked as well as other critical points. Oil prices are rocketing as the worry filters through the markets. Oil finished over $32 today and a multi month high. The growing terror threat is also causing a run on the gold markets. Some say the Arabs are buying gold as insurance against an oil knockout. There is also the growing fighting in Iraq and a continuing flood of insurgents from other countries. Several military analysts are predicting a war with Syria soon. Evidently they are not cooperating with the U.S. and are harboring terrorists. Any U.S. attack on ANY other country in the region would seriously destabilize the region and weaken support among other Arab countries. I seriously doubt this is going to happen since the Iraq conflict is getting worse instead of better but the rumors are flying.
Another challenge is the falling dollar. With the Euro at a two year high over the dollar it makes it more profitable to sell oil to Europe instead of the U.S. This means the prices we pay to offset the weaker dollar will be higher. Also, according to the money watchers the money flow into the U.S. markets from abroad has nearly stopped. The monthly average inflows into the bond market for the prior four months had been $39 billion. In October only $5 billion was invested in our bonds. This is the equivalent of a trickle. The same is said to be true of inflows into stocks. Overseas investors are becoming increasingly worried that the U.S. will not be able to fund the deficit, which could swell to $4 trillion according to some estimates, without selling massive amounts of debt over the next couple of years. They are also worried that the Fed is going to be forced to raise rates to combat inflation and that will stall the recovery and make the deficit worse. Add in soaring oil prices and terrorist threats of 100,000 American deaths in a coming attack and foreigners think the risk is too great.
Foreign investors were also hit with trade sanctions against China and worries that the U.S. is becoming more protectionist. This was triggered when the U.S. imposed temporary "safeguard" trade sanctions against textile products from China on Tuesday. Under China's WTO accession agreement there was a provision for caps on imports if the flow of goods became unbalanced. U.S. manufacturers requested the sanction be imposed and that limits imports to 7.5% of last years levels. Much of China's textile exports are from state-owned firms subsidized further by state-owned banks. Profit is not a motive but employment of the population. Dumping of these products into the U.S. market harms U.S. manufacturers.
The dollar hit a five month low against the Euro at $1.19 to buy 1 Euro. This 20% difference is well above the historical highs of 80 cents to the Euro and is causing havoc on the currency markets. George Soros is short the dollar and has been taking every chance possible to hammer it even more. The world events are simply adding to the pressure.
The Nikkei rallied +110 points last night to near 9900 but the gain was minor compared to the -1500 points the index had lost from the October highs. The rebound on Tuesday may have only been a dead cat bounce or a small relief rally. The continuing global pressures could continue to press the Nikkei down to real support at 9500. Any decline like this overnight would put some serious pressure on our markets.
Our markets do not need any more pressure. They are on the verge of cracking and need for those mysterious buyers who always seem appear at critical points to show up at the bell tomorrow. The Dow, Nasdaq and SPX all closed under their critical 50 day moving averages. This has provided support since March. The indexes only broke that support by a few points on a day where the Dow lost -86 points but it was a very negative day. It was not that bad in points lost but it appeared to be an acceleration of the recent down trend. The Dow has closed down for four consecutive days on good economic news. The total loss is only -220 points but that drop has put us right on the verge of breaking that strong support.
The closing sentiment was negative and we closed on the lows of the day. The Dow at 9624 is well below the lofty levels near 9900 just three days ago. The Dow 10,000 hopes have been dashed and replaced with Dow 9500 fears. Looking at the charts tonight those fears could easily come true this week should the markets not be able to mount a rebound at tomorrows open.
Helping depress the open already was late news of 47 currency traders being arrested in New York for scamming small investors. Details are very sketchy at 7:PM but there is plenty of film footage of handcuffed traders being loaded into FBI vans. The futures dropped substantially on the news and are now near their closing lows.
There was also more mutual fund news after the close with claims that the founder of Strong Funds had been accused of front running his funds purchases. According to reports he bought large quantities of small cap stocks that his funds were going to buy and then resold them at a profit when the fund went into the market to buy stock. This came on top of news that the Janus International CEO had been terminated along with several managers for improper trades. It was also announced that investors withdrew another -$7 billion from Putman in the last week making more than $25 billion over the last three weeks. Putman's assets were down almost -10% and Calpers announced they were withdrawing another $1.2 billion in managed assets. With withdrawals coming in faster than deposits it is no wonder the equity markets are under pressure.
Need more reasons for financials to be under pressure? FRE was under pressure after it was announced that Federal investigators are looking into investment transactions that were arranged by major investment banks like LEH, MWD, MER and Citibank. Apparently they structured temporary transactions to move profits off the FRE books so that FRE would not have to report windfall profits from derivative transactions. In one instance Citibank was said to have hidden $700 million in profits so that FRE could report earnings inline with estimates. Many of the banks earned fees in excess of $25 million a year for assisting in these transactions.
In a week where all the news has been bad there was one highlight. Merrill Lynch upgraded GE to buy with a target of $33. Surprised? Merrill Lynch cut estimates on GE just last week from $1.65 to $1.60 for the year. With the upgrade the same analyst now believes GE will hit $1.85 earnings in 2005. His reason for the upgrade? The double-digit earnings growth from his lowered estimate last week. Duh! This analyst had a buy on GE from $57 all the way down to $22 when he went to neutral. GE was over $28 when he cut it last week and $27.50 when he upgraded it today. GE jumped to a high of $28.92 on the upgrade and declined to 28.50 at the close. Guess they had bought all the GE they wanted on the way down and needed to lighten the load some.
Wednesday could be exciting. We do not have any major economic announcements but there is sure to be a flurry of news events to rile the markets. If the Dow can hold over 9600 we have a chance of pulling out of this slump. Just remaining flat could give the bargain hunters confidence and we could see a relief bounce. However, with Bush overseas, the end of Ramadan still a week away and breaking news on the continuing trading scandals we are not likely to breakout into a new bullish trend. We just need to consolidate peacefully and let time pass. The week before Thanksgiving has been bullish for the last 10 years but it is going to have to hurry to close this week in positive territory. Regardless of the market move tomorrow the overall market health is still strong. This is a normal profit taking event helped by the strong news flow. Unless the Dow breaks below 9000 the uptrend is still intact. Until the end of Ramadan next Tuesday I would not be in a hurry to buy the dips. Just look at it as research time and a future buying opportunity.
Enter Very Passively, Exit Very Aggressively!