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Market Wrap

Bulls Applying Pressure

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      08-26-2004           High     Low     Volume   Adv/Dcl
DJIA    10173.41 -  8.30 10193.54 10155.86 1.24 bln 1781/1424
NASDAQ   1852.92 -  7.80  1860.39  1848.88 1.18 bln 1231/1762
S&P 100   539.46 -  0.11   540.45   538.18   Totals 3012/3186
S&P 500  1105.09 +  0.13  1106.78  1102.43 
W5000   10721.63 + 83.26 10737.04 10699.87
SOX       380.40 -  3.90   384.28   378.16
RUS 2000  547.25 -  2.89   550.14   546.00
DJ TRANS 3108.84 -  5.20  3130.55  3098.79
VIX        14.91 -  0.07    15.22    14.76
VXO (VIX-O)14.87 +  0.24    15.23    14.56
VXN        21.60 +  0.19    21.77    21.36 
Total Volume 2,625M
Total UpVol  1,100M
Total DnVol  1,466M
Total Adv  3467
Total Dcl  3580
52wk Highs  143
52wk Lows    79
TRIN       0.99
NAZTRIN    1.55
PUT/CALL   0.84

The major indexes may have finished in the red but it was only by a narrow margin. Sellers were unable to capitalize on a slow day and take back some of the gains from the last week. Oil prices, weak earnings, weak economics and potential terror events failed to remove the underlying bid that kept the markets near their highs for the week.

Dow Chart - Daily

Nasdaq Chart - Daily

SPX Chart - Daily

Russell Chart - Daily

Jobless Claims jumped again to the 340,000 level and well above estimates for another drop to 330,000. The market tried to ignore the news because much of the increase was related to Hurricane Charlie. Despite the thousands of temporary hires in Florida the jump to 343K was the highest level in four weeks. Discounting the impact of Florida to the headline number the trend has been steadily downward. This tells us that layoffs are continuing to slow despite the lack of strong jobs growth. Rising oil prices and geopolitical concerns may be keeping employers from adding to the workforce but they are not cutting workers at the same rate they were earlier in the year. This suggests we could see some additional jobs growth in the Jobs Report next Friday. The estimate for +125,000 new jobs is well below last months optimistic level but still above the +32,000 jobs actually reported.

Another employment report released today was the Help Wanted Index and it fell to only 37. This is the lowest level since December and only one point below the low of 36 set in May of 2003. With the move to job ads on the Internet instead of papers this index has been demoted to a footnote but it is still an indication of a lack of hiring. The recent high of 40 in March was inline with the rising job creation at the time. A continued drop is just another confirmation employers are still cost conscious and concerned about the future.

For Friday we are scheduled to get the GDP update and the consensus is for another drop to +2.8% from the +3.0% last time around. With anecdotal evidence from several weak sectors there is some concern the number could drop even lower. A low number here could help fuel speculation that the Fed will not raise rates at the Sept-21st meeting. The current consensus is for another hike because the Fed views is as removing accommodation not raising rates. They view the current 1.50% as woefully low and in need of correction. The Fed funds futures after the morning reports are showing a 70% chance of another quarter point increase in Sept.

We will also see the final Consumer Sentiment for August and it is not expected to change from the 94 in the earlier release.

Greenspan is scheduled to talk at the Jackson Hole conference and that speech will be dissected for further insight on his comments earlier in the week. His Jackson Hole remarks have moved the markets in the past as he tends to be less formal and deviate from the party line at these conferences. His rebuttal letter to the Senate Banking Committee earlier this week suggested home prices were too high in some areas as a result of the recent housing bubble. He also said he thought Japan could be hurt significantly if oil prices continued to climb. Japan has no oil and is dependent on imports. He also said the economic cycle in Asia is slowing and oil prices could accelerate that weakness. He said growth in China had "braked sharply" and there was a risk of a hard landing. The letter was a constant set of good news/bad news comments where he made positive comments about an area of economic concern and then hedged his bet by giving a caution about that same area in the very next paragraph. This fence straddling will hopefully be resolved with any update on those topics tomorrow. Unfortunately I would not bet on it.

Today was a bad news bulls type of day. Earnings misses and warnings from several high profile companies gave the bulls a wall of worry to climb and while they did not quite make it to the top they ended on the last step. Starbucks produced some bitter coffee for investors with sales growth that was the weakest since May 2003. SBUX dropped -$2.58 or -5.6% on the news. The slowing growth was undoubtedly due to consumers paying more at the pump and less at the counter over the last three months. $3 coffee may be a casualty of $2 gas.

Krispy Kreme donuts failed to satisfy the sweet tooth of investors after turning in a dismal +0.1% growth in revenue. The stock was knocked for a -10% loss after reporting earnings and guidance that was far below estimates. KKD only earned $5.7 million this quarter compared to $13 million in the same quarter last year. This was a -55% drop in earnings. They also posted large increases in costs and big drops in margins from 19.3% to only 10.4% in company owned stores. They said they suffered losses in closing some non performing locations. Wow, have times changed. They also said stores purchased from franchisees had been under performing. If I reworded that sentence it would look something like this. Stores repossessed by KKD and those abandoned by franchisees were doing poorly as one would expect when taking over failed locations. Since boarding up a failed KKD store could produce very negative sentiment for other KKD stores in the area they are sometimes forced to run a location rather than close it. Shades of Boston Chicken all over again. At $13 today they are well off their $50 2003 highs and odds are good they will go lower. KKD blamed their problems on the Atkins diet and with that trend slowing they will have a chance for a sweet rebound in the future.

Fred's missed estimates by a penny and blamed the results on slower sales in home furnishings and apparel. No real surprise here after WMT and TGT warned that sales were slowing earlier in the week. The impact of higher gas prices is likely to produce a flood of these type of earnings reports when earnings begin again in October. We are still a couple weeks ahead of the start of earnings warning season in mid September but I think everyone already knows how it is going to turn out. With home heating oil running +30% over last year there will be a lot of coal in the Christmas stockings and some people will be glad to get it.

Kirkland's (KIRK) dropped -19% after warning that sales in August were down sharply. You may not have heard of them but they sell home furnishings. They said sales have "slowed considerably" and "customer traffic remains a concern, ESPECIALLY in mall stores" (my capitals) They also said they were "not optimistic they could produce comparable same store sales in the near term". They expect same store sales to drop -10% to -15% in the 3Q. Try telling them and other retailers that gas prices are not a problem for the retail community. I have seen several reports that mall traffic has slowed considerably across the country.

Semi stocks took yet another hit today as various analysts continued their cautionary stance for chips. BofA cut their ratings on AMD, INTC, TXN, BRCM and MU. They feel the chip sector has peaked early for this cycle and expect capex spending to decline. They are expecting 2005 to exhibit a cycle trough like those that began in 1995 and 1997. I quickly tracked down a chart for that period and there were some significant declines after the 1995 and 1997 peaks. If they are correct then there are some rough times ahead.

SOX Chart - Weekly 1995-1999

SOX Chart - Weekly 2001-2004

Do we have to wait for 2005 to determine what is going to happen in chips? Not if we believe the mid quarter updates currently in progress. NVLS gave their mid quarter update after the bell with mixed results. The stock dropped initially after the bad news but rebounded in later trading. Novellus said customer order patterns were becoming more cautious and the outlook was much different than the upbeat guidance in July. NVLS said they were seeing some push outs of orders, some as far as 1Q of 2005. They were still positive about the outlook but turning cautious as well. Bookings are now expected to be at the low end of the range at $420 million but shipments will be below previous guidance. 3Q revenue was also expected to be lower than previously forecast but only slightly. (they still have time to let investors down slowly) Q3 earnings were lowered to 37 cents compared to the current analyst consensus of 40 cents.

On Wednesday CMOS also warned that conditions were deteriorating with order push outs and lower visibility. There is that "visibility" word again. It means we are not getting the orders we want but we are still hoping we can produce a miracle before time to report earnings again.

The big dog, Intel, will have their mid quarter update on Thursday Sept 2nd and all eyes will be on how they are handling their inventory problem and how bookings are progressing. The back to school build out season is over and we are moving into the holiday build cycle. Time to get down and dirty on pricing to blow out those excess chips. Expect some killer computer deals this fall.

AMR also warned after the bell that conditions were getting worse. With oil still hovering in the mid $40s AMR expects 3Q fuel costs to be $300 million over the same quarter in 2003. AMR said its full year fuel costs would be in the $3.8 billion range. They did say traffic loads were up about +7% but revenue per available seat mile (RASM) would be below last years levels. Obviously a continued rise in oil prices would be very detrimental.

Unfortunately that is probably what is going to happen. Crude oil fell again today despite sabotage in Iraq cutting production again. Oil prices rose on the news but fell back again before the close on news of the ceasefire in Iraq. With oil demand continuing to rise on a daily basis this price pullback may only be temporary. I have discussed Hubbert's Peak several times in this commentary over the last several weeks. There is a scenario in the current peak forecast that predicts a push out of that production peak for several years if OPEC allows oil prices to run out of control. I believe we are seeing that today. Because the oil nations can see the future in terms of depletion they are determined to get every last dollar they can before the wells run dry. Does anybody really think this oil "crisis" just happened overnight? Of course not.

Oil was $7 a barrel in 1997. What changed? Supply temporarily exceeded demand because OPEC was not managing production correctly. Now they have the price going in the right direction (for them) and there is no end in sight other than a dry hole. Sure prices may fluctuate but the last chapter has already been written. Below is a chart of Hubbert's Peak. The swing point extension is a prediction that very high prices could squelch demand and prolong the pain but the end result is the same. Remember it is not when the last oil well runs dry but when demand exceeds production that all hell will begin to break loose. Currently that is projected for 2007-2008. For a complete description of the projection click here:

Hubbert's Peak Chart

Not to spend all my space on negative events TIVO beat estimates by 12 cents and Ace Cash Express (AACE) beat by 8 cents. That tells me consumers are short on cash to buy gas and that benefits ACE and they are staying home more and that benefits TIVO. Need I say more? A study I saw last week said a $10 rise in the price of oil subtracted two cents from average corporate earnings and 50% from cash available to spend by consumers. That sounds a little strong to me on the consumer side but we all know almost every blue collar worker is supposedly only two paychecks away from bankruptcy. That may be an over exaggeration but I have heard it many times. Most consumers tend to spend what cash is available and max out their credit cards for the rest. When unexpected events happen there is very little cash available to fill the gap. Using that analogy I guess it is possible for the 50% study to be at least close. Using that same analogy UBS downgraded Capital One today from a buy to a neutral due to credit risks ahead. Capital One supplies credit cards to weaker credits.

Considering all the bad news today I think the market performance was nothing short of spectacular. We may not have closed in positive territory but just holding the high ground with nothing positive in the headlines was a major achievement. The Dow closed at 10177 and continued to hold near that strong resistance range of 10200-10250. The Nasdaq was slightly weaker but managed to hold over 1850. Were it not for the SOX losing another -1% the Nasdaq might have made it back to positive territory. There was simply no profit taking from the gains of the last week and not even any sign of real weakness.

These performances were even more amazing to me with the Olympics winding down to the closing ceremonies on Sunday and the Republican Convention starting on Monday. Add in the GDP and Greenspan speech on Friday and traders have a mine field of event risk ahead. Personally I am expecting a rally next week once the convention gets underway with no problems and I expect it to continue the week after Labor Day. Maybe the strong underlying bid this week is from institutional investors who are anticipating that rally and trying to sneak into positions ahead of the herd. It makes as much sense to me as any other theory.

With only one trading day left before those two big events I would expect some event risk selling on Friday. However what I would expect and what we get may be two different things. With the futures shaking off the NVLS news after the bell and trading back in positive territory only a couple points away from the high for the month there is no evident event fear. One of our readers in the Futures Monitor today probably said it best. If all the bears are already short in anticipation of a drop on Friday are we not in danger of sinking our own boat? I paraphrased but you get the point.

With the rebound to SPX 1105 this week every bear in the market was ready to jump on that very strong resistance in anticipation of both profit taking from the rebound and event risk selling into the weekend close. Neither has occurred and there are probably more than a few bears getting very nervous tonight. Should we get a positive GDP surprise tomorrow morning or Greenspan gets out of bed in a bullish mood then there may be some bearish road kill for lunch. I for one will be going long on any break over SPX 1110 if I have to close my eyes and hold my nose to do it. There is strong resistance at 10200-10250 but there was also strong resistance at 10150 and we blew right past it yesterday and never looked back. If bulls need a wall of worry to climb then this is it. Cinch up those climbing spikes and get ready for a run if the markets open higher tomorrow. It will defy logic but then most rallies normally do. If we do get a dip instead it will just a better buying opportunity for Monday.

Enter Passively, Exit Aggressively.

Jim Brown
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