Option Investor
Market Wrap

Passing Time

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      09-16-2004           High     Low     Volume   Adv/Dcl
DJIA    10244.49 + 13.10 10281.88 10228.64 1.41 bln 2366/ 847
NASDAQ   1904.08 +  7.60  1914.38  1898.36 1.33 bln 1957/1109
S&P 100   543.35 +  0.72   544.94   542.63   Totals 4323/1956
S&P 500  1123.50 +  3.13  1126.06  1120.37 
W5000   10956.52 + 43.67 10977.31 10912.83
SOX       381.45 +  0.70   386.47   380.15
RUS 2000  574.54 +  6.02   575.10   568.45
DJ TRANS 3233.41 + 17.70  3237.28  3208.83
VIX        14.39 -  0.25    14.66    14.27
VXO (VIX-O)14.44 -  0.33    14.76    14.15
VXN        19.92 -  0.38    20.48    19.60 
Total Volume 2,958M
Total UpVol  1,873M
Total DnVol  1,026M
Total Adv  4838
Total Dcl  2275
52wk Highs  239
52wk Lows    55
TRIN       1.40
NAZTRIN    1.08
PUT/CALL   0.75

On the surface today was rather unspectacular with all the major indexes finishing very close to the flat line. They all gave up some decent midday gains but rallied back from a late day sell off to keep the bullish bid intact.

Dow Chart - Daily

Nasdaq Chart

The morning started off with positive economic news and a tame jump in Jobless Claims to 333,000. Analysts were expecting a slightly stronger bounce in the wake of Hurricane Charley and the abnormal dip to 317K last week. The bottom line remains a steady claim rate of 330K once the hurricane adjustments are factored in. This is a level that is consistent with an increasing job market but only at approximately 100K per month.

Consumer Prices rose slightly with the CPI posting a +0.1% gain but this was also slower than expectations for a +0.2% jump. Energy prices fell for the second month and food prices posted the smallest gain since January. Core inflation for the year dropped to only +1.7% while the headline rate is +2.7% mostly on the higher energy prices earlier in the year. The Fed action to stop inflation appears to have been the right amount at the right time but I doubt their hikes actually had any impact. Hikes and cuts take about six months to work their way through the system. The more likely reason for the slowing in inflation is a lack of demand as retail slumped over the summer.

The worst news for the day was drop in the Philly Fed General Business Index to 13.4 from 28.5. This is a major blow to the recovery theory and could only be a month away from the return of negative numbers. The index has been averaging around 30 since January with the high at 36.1 in July. The shipments component fell to 22.4 from 32 and the six-month outlook fell to 44.9 from 52.7. All other components were mostly positive with New Orders rising to 26.4 from 19.2 and Employment jumping to 21.5 from 17.2. This report shows we could be at a the crossroads for the recovery. Some of the bounce in the internals could be related to holiday orders and staffing. If that is the case those same internals should begin to decline again in Q4.

The bond market exploded on the Philly Fed news and the yields on the benchmark ten-year fell to a five month low at 4.06%. The yield is nearing support that dates back to July of last year at 4.0% and it appears the bonds are telling us there is fear creeping into investors about the strength of the recovery. The Fed funds futures are still indicating another hike at two of the next three meetings.

Ten-year Yield Chart

Another shock to the economic groupies today was a speech by Fed Governor Gramlich on the impact of higher oil prices. He claimed the standard economic models do not allow for a major increase in the price of oil at this point in the economic cycle. He said a serious oil price shock could affect consumers confidence or spending plans in a way that could not be anticipated by current models. He also showed he was one of the few Fed heads that did not have his head buried in the sand on future prices. He noted that the sharp jump in futures prices was an unusual occurrence and one that suggests the price gains may be permanent. I am sure he is in the Fed doghouse tonight for opening Pandora's Box. A 100% jump in oil prices over the last year and some of those gains may be permanent? Duh! Who would have thought that?

The recent OPEC statements may have continued to target in print the $22-$28 price band of a year ago but their actions AND abilities to lower the price much under $40 remain in serous doubt. Oil demand is continuing to rocket higher, supplies are continuing to decrease and reserves are moving closer to depletion. Just yesterday crude oil inventories in the U.S. dropped by seven mil barrels for the week. This was the 7th consecutive weekly drop. How about this for a Fed understatement from Gramlich? "This whole issue, however, is new and imperfectly understood. It is virtually inevitable that shocks will result in some combination of higher inflation and higher unemployment for a time". I bet he got a phone call from Alan after that speech hit the wires. It is no wonder the bonds rocketed higher with the double hit of the 50% haircut on the Philly Fed and a Fed speech warning of unemployment and inflation.

Oil fell at the open after it was determined that Ivan missed the majority of the oil patch and damage to the system was minor. It spiked again at the close to $44 on reported short covering related to options expiration. We continue to see a pattern of higher lows wedging up to $45, a level that appears to be the current pain threshold.

The markets moved in a tight range today as the Ivan news was filtered for economic impact. Volume was low due to Ivan, expiration and the Jewish holidays but the earnings warnings barely slowed. The hurricane excuse is appearing more often and whether real or imagined the results are the same. The pace of new warnings is growing and Q3 could be a challenge. Retailers from Office Depot to Panera Bread are now jumping on the hurricane excuse train and it appears that train will be loaded to capacity over the next three weeks.

Despite the tight range today the internals were very strong with the A/D line ending positive with more than +2400 advancers than decliners. A/D volume was nearly 2:1 in favor of advancers and this was a throw away day given all the factors in play. The strongest indexes were the transports, utilities and the Russell-2000. Strange bedfellows for today's market. The transports hit a FIVE-YEAR high despite the $44 oil. This is a serious disconnect with reality but a new transport high has got to be good for the Dow theory crowd. Somebody needs to point this out to those investors in Dow stocks as the index closed very close to a three week low at 10244.

Just as amazing is the Russell clinging to a +10% gain over the last three weeks and threatening to breakout of its 575 resistance. A breakout there would be an open door to 590 and only a strong day away from its all time closing high at 606. With the two strongest months of the year about six weeks ahead the possibilities are enormous.

Russell 2000 Chart

Getting to that November rally could still be a challenge as the other indexes have slowed at strong resistance. Next week begins the real Q3 warning season and odds are good there will be some high profile disappointments. Stocks like MMM, PG, HON and IBM have pulled back from their highs as traders begin to worry about which Dow component will be the next to warn. Next week traders will run the earnings gauntlet not knowing who will be the next to take a hit.

We are getting close to the Osama surprise. There has been speculation for several weeks that Osama would suddenly be killed or captured in the weeks leading up to the election as the pressure to produce a trump card increases. This must be a recurring Kerry nightmare.

The chip bulls got some more bad news tonight. The S.E.M.I. Association reported a drop in the book-to-bill number to 1.00, the fourth consecutive monthly drop and the lowest level since Sept-2003. Bookings fell -4.5% in August according to SEMI. Readers should remember that this is a three-month moving average which suggests bookings for August were significantly less than 1.00 with the average for the last two months at 1.04 and 1.07. SEMI does not release the raw data so it makes deciphering the numbers more of an art than science. The SOX had pulled back to support at 380 and held there for the last two days. 380 could provide a decent launch point but tonight's news could provide some minor instability. Of course the bulls could point to the fact that this negative news was already priced in and maybe it is not as negative as traders expected. It all depends on whether they see it as a glass half full or half empty.

SOX Chart

Friday should be another low volume day and the only event risk is earnings surprises expected next week. With the positive internals today I would say it was a tossup for direction on Friday. Options expiration should have produced about all the damage they are going to do as positions were squared ahead of the event. Wednesday's drop was probably more options related than earnings related but that would be pure speculation at this point. If there are two keys to watch for Friday it would be the SOX at 380 and the Russell at 575. A bounce in the SOX and a breakout on the Russell would set the stage for a strong close and a positive setup for Monday.

Enter Passively, Exit Aggressively.

Jim Brown


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