Option Investor
Market Wrap

Storm Warnings

Printer friendly version
      09-15-2004           High     Low     Volume   Adv/Dcl
DJIA    10231.36 - 86.80 10317.05 10228.78 1.58 bln 1127/1642
NASDAQ   1896.52 - 18.88  1908.38  1892.08 1.58 bln 1133/1840
S&P 100   542.63 -  4.30   546.93   542.57   Totals 2260/3482
S&P 500  1120.37 -  7.96  1128.33  1119.74
SOX       380.78 - 12.72   393.50   379.81
RUS 2000  568.52 -  2.44   570.97   566.53
DJ TRANS 3215.78 -  9.25  3227.71  3208.71
VIX        14.64 +  1.08    14.67    13.68
VXO (VIX-O)14.77 +  1.22    14.79    13.78
VXN        20.30 +  0.81    20.53    19.82
Total Volume 3,161M
Total UpVol    839M
Total DnVol  2,287M
Total Adv  2260
Total Dcl  3482
52wk Highs  148 
52wk Lows    50
TRIN       1.83
PUT/CALL   0.94

Earnings warnings, economic numbers, results of an OPEC meeting, and discussions of Ivan's impact bombarded investors Wednesday. Along the Gulf Coast, homeowners and businesses prepared for the coming storm. On Wall Street, investors did likewise, not liking all the news that bombarded them.

That news actually began with Xilinx's (XLNX) warning after the close Tuesday and continued through the morning hours Wednesday. Not all news was bad. The HMO, the Morgan Stanley Healthcare Index, posted a strong gain. Component stock Pacificare Health (PHS) announced a buyout of American Medical Security (AMZ). Investors liked the deal as both stocks soared, even though PHS will pay a 41 percent premium to AMZ's closing price on Tuesday and assume the company's debt. Analysts may have something to say about the terms of the deal, but PHS's confidence that the deal will contribute to net income caused it to raise its 2005 earnings forecast.

Even a hurricane's winds blow first one direction and then the other as the eye passes. Damage is still done, and so it was to the markets in Wednesday's trading. Programmable-chip manufacturer Xilinx's (XLNX) warning damaged sentiment in the semiconductor sector. The company joined INTC, TXN, NSM and LSI in trimming revenue estimates. UBS did its part to damage that sentiment, too, cutting its rating on Nvidia Corporation (NVDA) to a reduce rating on valuation concerns.

By midday, the SOX had dropped to the converging 20- and 30- sma's, erasing all the week's gains and appearing to produce an evening-star reversal pattern. That's where the SOX closed, too.

Annotated Daily Chart of the SOX:

Several chart characteristic of potential importance show up here. The confirmed evening-star formation hints that the SOX could head lower, but first the index has to push past the converging 20- and 30-dma's. Those averages could instead support it. Bullish divergence was confirmed as the SOX dipped to the early September high. That divergence, coupled with the level from which the SOX turned lower again, suggests the possibility of an inverse H&S forming. Should the SOX consolidate or stop any pullback above or near 360, that possibility is preserved. A dip past 360 tends to negate the possibility with a dip past the early September low confirming the bearishness. Any SOX bears should have profit-protecting plans in place from the SOX's current level down to 360 in case the SOX does complete that inverse H&S.

As of tonight, a push above 400 would be required for a confirmation of the inverse H&S, but the neckline rises. Any SOX bulls should have profit-protecting plans in place as the 50-dma and then 400 are tested in case the SOX turns lower again at the neckline.

Some indices withstood the day's storm of economic numbers and news better than others. The day's economic releases began with the MBA Refinancing Index at 7:00. Headlines announced the decline in mortgage application volume but pegged the decrease on a holiday-shortened week, with that cause buffering the effect of the decline. The composite number fell a seasonally adjusted 2 percent from the previous week's. The seasonally adjusted Purchase Index and Refinance Index fell 4.3 and 1.2 percent, respectively. The average interest rate for 30-year, fixed-rate mortgages fell to 5.68 percent from the previous week's 5.79 percent. The Dow Jones US Home Construction Index, the DJUSHB, withstood potential storm winds relatively well, losing only 0.52 percent and closing well off its low of the day. The index's pattern forms a possible bearish rising wedge on the daily chart, so it's possible that ill winds in the form of lower home sales could yet topple it. So far, this index continues to defy expectations of a deeper decline, however.

Earnings before the open included BBY's, with the headlines touting the beat-by-a-penny earnings and the increase in Q2's profit. Other headlines noted that cost controls had been responsible for those earnings. Improved margins also contributed, however. Earnings were 46 cents per share, including charges of 7 cps for asset impairments. According to at least one article, analysts had expected earnings of 52 cps, but apparently that expectation had been a before-charges number. At $6.08 billion, revenue slightly topped the $6.06 billion expected. The company expects to achieve earnings of 41-47 cps in Q3 and $2.80-2.93 per share for the full year against analysts' expectations of 44 cps for the quarter and $2.90 per share for the full year. BBY not only withstood any economic storm winds, but also gapped above its 200-sma and posted a 4.61 percent gain.

The strength in BBY was offset by a blue chip warning. Perhaps to be expected after bottling group Coca-Cola Enterprise's (CCE) warning last week, Coca-Cola (KO) warned before the open. KO said that H2 earnings will not meet expectations, blaming weak volumes in North America and Germany. The summer had been unseasonably cool and rainy in Western Europe, the company noted. Merrill Lynch later downgraded KO to a neutral rating from a buy.

That blue chip warning also damaged sentiment, causing some to worry about the quality of earnings in the coming quarter. More storm warnings gathered, and KO gapped lower. This blue chip's decline helped send the Dow below the 200-sma early in the session. KO, INTC, and MSFT led the volume decliners in the Dow, with KO closing lower by 3.98 percent.

Other companies lowering guidance included Celestica (CLS) and Tribune Company (TRB). Not even Oracle's originally well- received earnings and strong climb Wednesday could help protect the techs from a buffeting as Goldman Sachs cut its rating of the IT hardware systems and software sectors to a neutral rating. The GSO, the GSTI Software Index dropped 0.79 percent, but remained within the trading range established this week.

Economic numbers continued at 8:30 with the release of September's Empire State Manufacturing Index and July's Business Inventories at 8:30. The prior number for the Empire State Manufacturing Index had been 12.6, with expectations for September's number ranging from 20.0-22.0, and with the 28.3 number surprising to the upside. Even that strong number had negative import, though, with the optimistic winds created by this number soon swinging the other direction. Some considered that number's strength to have increased the chances that September's FOMC meeting will result in another rate-hike decision.

Business inventories gained 0.9 percent in June, but were revised up to 1.1 percent. July's inventories climbed 0.9 percent against an expectation of a 0.8 percent increase. This was touted as the strongest two-month gain in four years. The inventory-to-sales ratio climbed to 1.32. Retail inventories rose 0.6 percent in July.

A rise in inventories can be viewed from two perspectives, one suggesting it as a positive as businesses gear up for anticipated demand. When that rise outpaces sales gains, it's difficult to view that rise as a positive, however. Since the components of this number, with the possible exception of retail inventories, are known prior to its release, the business inventories number wasn't expected to be a market-moving number. The 1.8 percent rise in auto inventories might have damaged sentiment, however, reviving worries about anticipated cuts in production. U.S. car manufacturers dropped.

More attention was expected to focus on the rest of the morning's numbers. At 9:15, the Federal Reserve released figures on August's industrial production and capacity utilization. August's industrial production rose 0.1 percent against an expected rise of 0.4 percent, but it rose to 116.6 on the government's index, with that number passing up the previous high recorded in June 2000, before the recession. Capacity utilization was steady at 77.3 percent after July's number was revised up to 77.1 percent, matching expectations. Despite the belief that more attention would focus on these numbers, markets appeared to pay little attention.

Near 10:30, the Department of Energy released crude, distillate, and gasoline inventories with the American Petroleum Institute releasing its figures near the same time. The DOE figures showed crude inventories dropped 7.1 million barrels, distillate inventories climbed 1.7 million barrels and gasoline inventories fell by 1.6 million barrels. The drop in crude supplies was termed "hefty" in one article. The API also showed a drop in crude inventories, with their figures detailing that drop at 2.3 million barrels. The API noted a rise in gasoline inventories by 700,000 barrels. DOE and API figures almost always differ, but they didn't differ in their revelation that crude inventories had dropped more than expected. Storm winds stiffened, although most damage had already been done to the markets by the time those numbers were released.

An OPEC meeting had already focused attention on crude and related stocks, a focus that was heightened by Ivan, continued attacks on the pipelines in Iraq and this week's CSFB Small Cap Energy Conference and Peters & Company North American Oil and Gas Conference. OPEC's outcome had been intended to calm the storm winds.

OPEC's president quantified the fear premium in the price of crude, stating that the premium was in the $10-15 range per barrel. He labeled the degree of worry about shortages unwarranted. OPEC left the price band at $22-28 a barrel, with the decision as to whether to increase the price band postponed to the December 6 meeting. OPEC also attempted to calm worries by upping the production quota by 1 million barrels a day, with that increased production to begin in November. Some analysts noted that the official increased production to 27 million barrels a day will have little impact since OPEC members already unofficially produce 0.4 million barrels a day more than new quota. An OPEC member put a different spin on that conclusion, though, saying that OPEX had "officialized" the increased production.

Some immediate impact did occur, however, with crude prices dipping initially until the decrease in inventories blew that fear premium higher again after 10:30. Later in the afternoon, OPEC's president made another attempt to calm the winds, saying that he expected 2005's demand to be less than that in 2004.

Ivan also focused attention on crude, with major petroleum companies and smaller independents closing offshore and onshore facilities or going on storm-alert status. The U.S. Minerals Management Service noted at midmorning that 50 percent of the manned platforms in the Gulf of Mexico had been evacuated and 60 more rigs shut down. Forty-six percent of the distillation capacity for the U.S. is located in the four-state region possibly impacted by Ivan, with Texas and Louisiana accounting for all but three percent of that capacity. By midmorning, damage was already being reported on some of those rigs, with Ivan's full force not yet impacting the industry's production capacity.

Crude futures for October delivery again appeared to bounce off the 50-dma, with prices climbing above $45.00 but they didn't hold those levels.

Annotated Daily Chart of Crude Futures for October Delivery:

Crude futures may not have been able to sustain gains because Ivan's impact on the industry will be deemed transitory and because of those soothing words out of the OPEC meeting. As long as the contract remains above the 50-dma on a closing basis, however, the possibility remains that it may break to the upside rather than the downside.

Ivan's impact will not be on the energy industry alone, of course. Ports are being shut down along the Gulf. Some ships were diverted to other Gulf ports and some reversed course. Shipbuilders have shut down facilities. Any industry relying on cargo shipments might be impacted. Still, despite the possible impact on stocks in the TRAN, the Dow Jones Transportation Index, the index held close to recent highs until the last couple of hours of trading. It closed at the low of the week, but didn't suffer major technical damage. It's been consolidating just below possible monthly support/resistance from the late 90s but holding above 3200 and the early July swing high. Bearish price/divergence appeared on the recent move above the July swing high, so watch for a possible dip in this important index. A dip below 3200 might damage sentiment.

The damage from earnings warnings and worries about Ivan's impact was too much for the Dow to sustain, with that index dropping below the 200-sma by midmorning.

Annotated Daily Chart of the Dow:

The Dow could drop as far as the 100-dma and still preserve the possibility that the current decline is a bull flag decline. The first downside target then appears to be 10,184-10,200, with a break of that level perhaps sending the Dow down to test the converging 30- and 50-sma's. Although the above QCharts-drawn regression channel has an upper boundary just under 10,400, a simple trendline drawn across this year's swing highs crosses at about 10,340. A move above the September 7 high of 10,363 would be needed to confirm an upside breakout. Such a breakout would soon face resistance from the late June highs of 10,487.

MSFT and INTC also impacted the Nasdaq, turning it down after two days of testing its 100-sma. The Nasdaq clung to 1900 and the 200-ema at 1904.38 much of the day, but closed at 1896.52, creating an approximation of an evening-star pattern.

Annotated Daily Chart of the Nasdaq:

The Russell 2000's test of its 200-sma and subsequent bounce near 10:35 might have helped to steady other markets during the midday period.

Annotated Daily Chart of the Russell 2000:

A move above Monday's high would confirm a breakout above the descending regression channel in which the Russell 2000 has been trading, while a move below the 200-sma, confirmed by a move below 566, might send the Russell down to test 560-563 and then 552-554. Bears might have a profit-protecting plan in mind if the Russell 2000 should test that 552-554 zone and bulls might have one in mind if the index should test 588-590.

The SPX still remains an index to watch, however. Unlike the Dow and the Russell 2000, this index did not retest its 200-sma.

Annotated Daily Chart of the SPX:

If markets should continue to decline, traders should set alerts for an SPX test of its 200-dma, as tests of that average can and have moved the markets. A breakout above the top of the ascending regression channel, at about 1132 on the above QCharts- drawn chart but at 1130 by some others' calculations, would signal an upside breakout, to be confirmed by a move above the June high. Any entering bullish trades on an upside breakout should keep stops tight until that June high is bypassed.

A break below the 200-sma on a closing basis would likely damage sentiment and strengthen storm warnings related to the often-seen September and October declines. As Jim Brown noted on the OptionInvestor Market Monitor, that range between the top trendline of the descending regression channel and the 200-sma is a risky one to trade.

Will markets continue to decline? Forecasters must warn of an approaching storm, and that warning must encompass all possible landfalls. Obviously, however, not all those warnings are realized, and so they might not be with the market's storm warnings offered by the recent lows in volatility indices, the often-seen dismal market performance in September and October, and the earnings warnings that are beginning to appear.

However, many indices produced reversal signals at the tops of their regression channels. The VIX and VXO saw strong moves up from their recent lows, a warning for those with bullish hopes. The VXN's move was not as pronounced. While traders must be open to the possibility that this storm will not bring a decline but a consolidation that withstands the pressure, or that indices could even surge above the year-long descending trendlines seen on some, this does not yet appear to be a good time to be nurturing bullish hopes for the immediate future. Let price action show you if bullish hopes are to be realized by producing those needed breakouts.

For tomorrow, investors have two reasons to anticipate the possibility that markets might not go much of anywhere. One is a tendency for large-range days to be followed by small-range days. Another is related to opex, with markets sometimes ratcheting down on opex Thursday, with S&P 500 options ceasing to trade as of Thursday's close.

A couple of factors argue against that tight-range consolidation theory, however. Along with news of Ivan's damage, investors will be treated to overnight discussions about the implications of the Dow's close beneath its 200-sma. Although savvy investors know that the Dow is not the broadest of markets, it draws much attention. If the decline should continue, however, bears should pay special attention if the Russell 2000 and/or SPX should test their 200-sma's, as those would be potential bounce points. Until breakouts occur to the upside, this appears to be a time for selling rallies rather than buying support, but watch for those potential breakouts.

In addition, economic reports and events have the potential to move fragile markets. Economic reports Thursday begin with the usual 8:30 release of initial jobless claims, with last week's release cheering with markets with a drop to 319 thousand. That figure will also be accompanied by the 8:30 release of CPI, with prior numbers at a drop of 0.1 percent for the headline number and a rise of 0.1 percent for the ex-food and energy number. Tuesday morning, I listened to a report on a survey of small business owners, with a majority of those owners saying that they felt able to pass higher costs on to consumers and were planning on raising prices. We'll see if any of that confidence has filtered down into the CPI numbers yet.

Additional numbers include the July Treasury Capital Flows at 9:00 and Natural Gas Inventories at 10:30. Perhaps more closely awaited will be the September Philly Fed Index at noon, with that index last showing a 28.5 reading. At 1:00, the Fed's Gramlich is scheduled to report on oil and policy matters in a talk in Kansas City, with the market perhaps reacting to Gramlich's take on the oil's effect on the economy, unless Ivan's anticipated swath through the U.S. might somehow impact Gramlich's appearance. Money supply will be reported after the market's close, at 4:30.


Market Wrap Archives