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Market Wrap

Drug Interaction Warning

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      10-07-2004           High     Low     Volume   Adv/Dcl
DJIA    10125.40 -114.50 10240.95 10124.52 1.84 bln  869/2325
NASDAQ   1948.52 - 22.50  1970.26  1948.03 1.74 bln  961/2133
S&P 100   542.28 -  5.61   547.89   542.19   Totals 1830/4458
S&P 500  1130.65 - 11.40  1142.05  1130.46 
W5000   11047.92 - 41.88 11164.15 11045.44
SOX       403.36 -  2.80   410.53   402.78
RUS 2000  582.60 - 10.06   592.66   582.37
DJ TRANS 3341.87 - 46.90  3389.20  3340.94
VIX        14.50 +  1.22    14.66    13.32
VXO (VIX-O)14.56 +  1.56    14.59    13.37
VXN        20.59 +  0.82    20.75    19.65 
Total Volume 3,863M
Total UpVol  1,182M
Total DnVol  2,643M
Total Adv  2145
Total Dcl  5012
52wk Highs  398
52wk Lows    97
TRIN       1.14
NAZTRIN    0.61
PUT/CALL   0.86

Warning, certain drug stocks may not be tolerated well by bulls. Serious negative reactions may occur. Limit consumption to only those drug stocks that have reached well know support levels. This could have been the label for today's market as the drug induced stupor kept buyers in bed for the day.

Dow Chart

Nasdaq Chart

SPX Chart

The excuse gaining maximum credibility today for the drop in the markets was an attack on drug stocks. An article in the New England Journal of Medicine called into question the entire COX-2 class of arthritis drugs. The article suggested that despite any negative evidence to the contrary all drugs in that class are bad. The article came under fire from multiple directions for the generic conclusions and disregard for the facts. Still the three drug stocks in the Dow, PFE, MRK and JNJ all dropped substantially and were responsible for more than half the morning drop in the Dow.

Accounting for the other half was disappointing economics, simple profit taking from the last weeks gains and fear of GE earnings tomorrow morning. The economics started with the Monster Employment Index at 151. This was +6 points over the August level at 145 and appeared to be normal seasonal hiring and not specifically a continued increase in the trend. In August we saw a +11 point spike and this month's seasonal gain was only half of that spike. Despite the slowing rate of growth the +6 points was significant. When coupled with the strong employment components in several other reports recently this suggests tomorrow's Jobs report could be strong.

Jobless Claims fell back into the range we had seen prior to the hurricanes at 335,000. The prior weeks claims were adjusted higher to 372,000 and were seen to be a direct result of the hurricanes. Continuing claims have continued to decline but the pace is slowing and could suggest we have reached a level where hiring and turnover have reached a point of equilibrium.

The Manufacturers Alliance survey dropped to 75 for the third quarter after three quarters of record highs. Nothing moves higher forever and a drop or pause in production was expected eventually. Even at 75 this is a strong indication of current growth. Shipments remained high at 93 and New Orders only backed off -1 point to 92. The weakness came from a drop in Back Orders to 86 from 93 indicating manufacturers are closing the gap. The Inventory component also shot upward to 69 from 61 and the investment index fell to 69 from 75. Companies running at greater than 85% capacity fell to 28% from 45%. Overall this report showed continued expansion but a reduction in the speed of that expansion.

Oil continues exert pressure on consumers and that pressure came in the form of a drop in Consumer Credit by -$2.4 billion when an increase of +$5.9 billion was expected. This was the largest drop in Consumer Credit since Q4-1990 and is a clear indication consumers are being hurt by high energy prices and are concerned about the future. We have been seeing a drop in sales at various retail stores and numbers out today confirmed the drop in credit may continue.

The headline Retail Sales number rose only +2.4% for September and it was the second weakest gain for the year. While weather and high gas prices combined to knock about -1.0% from the total the calendar impact of Labor Day added +0.5%. Thompson First Call said that taking Wal-Mart out of the equation dropped the headline number to only +1.9% growth. This compares to +6.1% for 2003 and illustrates how the tax rebate helped inflate the economy. In September discounters saw +3.0% growth but department stores lost -0.8%, apparel -0.4% and specialty stores lost -0.4%. Drug stores gained +4.1% due to the rising cost of drugs and the high floor traffic resulting in impulse sales. Tight job markets, falling wages, higher benefit costs, employers pushing more benefit expenses onto employees and rising energy prices are all depressing retail sales. None of these factors are expected to improve in the near future.

Tomorrow we will get the September Jobs Report and the outlook is rosy, maybe too rosy. Expectations are calling for a +160,000 increase in jobs but that is not the real attention getter. October is when the Jobs numbers for the year are revised based on the corrections to the monthly estimates as more info becomes available. Based on a leaked internal memo now making the rounds, source unknown, the street is expecting another +288,000 jobs in the form of an upward revision to prior numbers. Obviously if this revision occurs and the September numbers are strong the Democrats will lose a few more debate points for Friday night. They can't complain that the revision was moved to October for political purposes because that date change happened in 2001 to better reflect current conditions. The revisions prior to 2001 had been made in February since 1991.

This expected jump in jobs by nearly 500,000 jobs has been raising eyebrows and stock prices on the street for the last week. This suggests that the market may have gotten ahead of itself on the rumor and a sell the news event could be in our future should the expectations not come to pass. This could have been a factor in our afternoon sell off on Thursday.

The morning sell off was initiated by the attack on Pfizer in the New England Journal of Medicine. The investment community is fresh off the massive Merck drop from last week and funds were trying to decide what to do with their MRK money now burning a hole in their pocket. Pfizer had been looking like a beneficiary from the VIOXX disaster and had seen a six day gain on the news. Because the article took a swipe at the COX-2 drugs in general there was a knee jerk reaction to drug stocks in general. There is no basis in the attack but investors dumped -84 million shares of Pfizer anyway.

Personally I think this is a superb buying opportunity on Pfizer. After the initial morning dip it rebounded right back to its multiyear support level at $30. Pfizer was on TV on nearly every news channel claiming numerous studies, one as large as 1.4 million patients had not shown any indications of cardiac events. In one specific blind study the subjects taking Celebrex long term actually had fewer cardiac incidents than those taking the placebo. Celebrex is the oldest COX-2 drug and as such has had many more studies done and according to the FDA there is no incidence of cardiac events. Several studies currently underway using Celebrex have been running longer than the 18 month threshold where VIOXX failed and at dosages 2-4 times the recommended dose with no indications of complications. Over 31 million patients have taken Celebrex since it was introduced in 1998.

Celebrex was on track to do nearly $3 billion in sales in 2004. This is a big drug but only a drop in the bucket to the $53 billion in revenue Pfizer will see this year. VIOXX was on track to hit $2.5 billion in sales before being removed from the market. According to surveys done this week 58% of those VIOXX patients are switching to Celebrex. 38% to some other form of treatment including Bextra, another Pfizer drug, and the rest going back to Ibuprofen or a similar over the counter drug. The survey found that pharmacies were scrambling to find enough Celebrex to fill the demand and pharmacy suppliers were paying premium prices to acquire large stocks of the drug. Rumors have customers trying to stockpile large quantities of the drug just to make sure they have it on hand if a shortage develops. With the jump in demand from 58% of VIOXX users converting prescriptions, Celebrex is on track to hit $5 billion in sales at little or no extra cost to Pfizer. If their drug trials currently underway prove to prevent Alzheimer's and colorectal cancer then $10 billion would be an easy target. I believe this is a buying opportunity for Pfizer but do your own research. I am an occasional Celebrex user and for me it is a wonder drug and based on the consumer hoarding reports I am not alone in that belief.

The real reason we sold off today was not COX-2 drugs $53 oil or weak economics. We sold off because we were due and in those occasions the headline reasons are just sound bites for reporters looking for an excuse. If they wanted a reason there were plenty. Chipmakers are still warning and earnings estimates for the quarter are still falling. Taiwan Semiconductor, the worlds largest chipmaker, said sales fell for the first time in seven months and they warned they could continue to drop as demand falters. They expect oil prices to filter through the global economy and depress demand and earnings in 2005. The current S&P Q3 earnings are projected to be +12.5-13.5% with 4Q estimates now below +15%. This alone is plenty of reason to take cautious profits from the very strong rally.

Oil hit $53 today and closed at an all time high of $52.67 on continued supply concerns. Production from the Gulf of Mexico is still down -1.4 billion barrels per day from Ivan damage and will not be back online for weeks. Nigeria is still a concern after a strike put some production on hold. Home heating oil supplies fell yesterday and demand is increasing as homeowners try to beat the rush to fill tanks ahead of any coming shortage. When given the choice of paying high prices for gas and heating oil or not being able to buy it at all, the high price option is quickly chosen with some other retail purchase taking a back seat.

Investors are no longer pouring funds into the markets according to TrimTabs.com. In the week ended Wednesday stock funds saw outflows of -$170 million compared to inflows of +$600 million in the prior week. These numbers pale in comparison to the multi billion inflows from early in September. Fear of October may be impacting investor sentiment and seeing the markets back at multi month highs may seem like a good place to be cautious.

Another reason for the market weakness may be the growing election risk. Kerry has pulled ahead in some polls and this produces even more risk for drug companies. The CIA report today that Saddam had not produced weapons of mass destruction for more than a decade was a serious blow to the Bush campaign and Kerry wasted no time in turning the news into a media event. Tomorrow night's debate will turn into another Bush bashing event in hopes of trying to leverage Kerry's current lead into a winning margin. With only 26 days left in the campaign the mud slinging will intensify for both sides. With the broader surveys showing a dead heat we could see more caution appear in the markets. Given the heights we have seen this week it was only natural for some profits be taken off the table before the Jobs report and the debate.

The Dow took a serious hit for -114 points but 40+ points were due to the three drug stocks in the Dow. Also dragging the Dow lower was a substantial drop in MMM, UTX, HON, CAT and BA in front of the GE earnings before the open tomorrow. Fears that the conglomerate could express weakness in any of their individual areas drove investors to take profits. Each of those stocks represent a subset of some GE business and risk is high. GE never misses earnings numbers but they do talk down future projections. Jeffery Immelt said recently that growth in 2005 could be in the high single digits. Previously he had projected double digit growth in various divisions so it will be very interesting to see what appears as official guidance tomorrow. GE earnings are a proxy for the overall economy and while no negative guidance is expected caution was warranted.

The Dow dropped from its opening level of 10240 to close at the low of the day at 10125. Nearly 50 of those points lost came in the last 30 min of trading when investors bailed from those five Dow stocks mentioned above. Even with the -114 point drop today we are still trading above last Friday's support level of 10050 and resting on the 50dma. While today's drop was dramatic it was not material and only classifies as simple cautionary profit taking along with a drug induced headache.

The Nasdaq held at support most of the day and it was not until that closing sell cycle that 1955 broke and it accelerated deeper into negative territory. However, even at the 1948 close it only pulled back to yesterday's lows. The Wednesday end of day buy program was erased and we are right back in the range for the week. Again, it was simply cautionary profit taking. The SOX barely even budged after a couple of chip warnings and the comments out of Taiwan Semi. For the week the SOX has been trading between 400-410 and it closed in range at 403 with only a -2.84 drop for the day. If the Nasdaq selling was more widespread or on more substantial fears the SOX would have confirmed. Instead the SOX appears to be confirming a lack of selling pressure in techs.

When determining real market performance it sometimes helps to look at the Wilshire-5000. As the broadest measure of the market it is not impacted by weighting of several high profile stocks and as such gives a clearer picture of overall market sentiment. The Wilshire dipped only a tame -41 points today and suggests the negativity was due to Dow imbalances only.

Wilshire Chart

The worst performer today was the Russell with a -10 point drop. The Russell had been on fire since Sept 28th and rallied more than +30 points as end of quarter contributions pushed it to within 7 points of resistance at 600. October is small cap month and funds typically pour the majority of their cash into the small caps in hope they will turn into big caps in the coming year. It is also the time when those funds that specialize in small caps tend to take profits in those winners who no longer fit the small cap growth model. Essentially those that became big caps are kicked out in favor of the little guys with big prospects. This pruning process tends to make the Russell volatile as the higher cap stocks which are more heavily weighted are sold. We saw some of that volatility today with the -10 point drop breaking initial support and taking back one third of the recent gains.

For Friday I have mixed emotions. I know, you should not trade on emotions but you know what I mean. The SPX has pulled back to 1130 and strong support and a likely place for a relief rally to occur should Jobs be strongly positive and GE not spoil the party. I personally have a bullish bias for tomorrow but it all depends on the morning events. I believe the pullback today simply gave us some breathing room for both sides and took the pressure off the bulls. Wednesday's close was just too close to very strong and very critical resistance. Trying to get a running uphill start while on the side of a steep hill is a challenge. The pullback provided a resting point in neutral territory to wait for events to clear. I am not worried about Friday regardless of which direction prevails. Next week's direction is more critical with October one third over and the election only three weeks away. The Friday debate will be cussed and discussed in mini-debates by hundreds of on air reporters and countless surveys will be tabulated. Institutional investors will have to wade through the political morass and decide if the prevailing candidate can be elected and how it will impact their portfolio. With October known as portfolio restructuring month we could see this activity suddenly reach a fevered pitch. Let's just hope it is positive for the markets.

Enter Passively, Exit Aggressively.

Jim Brown


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