Month end buying fueled but knee jerk investor deposits came to an end on Tuesday. The short squeeze, started on May-17th by the Treasury report critical of China's currency manipulation, failed at 10550 resistance as momentum slowed on May-23rd. Fair weather investors seeing the sudden jump in the markets reacted by pouring cash into funds over the last two weeks and that fueled a month end buying binge that returned the Dow to that 10550 resistance. The bounce failed again as longer term investors took profits fearing a June swoon.
Dow Chart - Daily
Dow Chart - 30 min
Nasdaq Chart - Daily
Mixed economics remain a mixed blessing as signs of weakness continue to call into question the future of Fed rate hikes. The NY-NAPM report saw its first decline in five months with a drop to 337 from 341 for the May period. Given the strong run in this region the drop in the headline number is not a real problem and the drop was minor. This was the first decline since Dec-2004. However it should be noted that the six-month outlook fell to 50 from 77.8 and current conditions fell to 42.3 from 74.3. This is a very sharp drop and one that could cause some concern. The worst drop was in the manufacturing component, which fell to zero from 53.5. Some analysts feel a low response rate from manufacturers was responsible for the strong drop. The non-manufacturing component fell to 47 from 76.5.
The May Chicago PMI also fell sharply to 54.1 from the April reading of 65.6. This is a very sharp drop and well below the consensus estimates of 61.8. Any number over 50 still represents an expanding economy but the sharpness of the drop suggests there was a serious slowing of business conditions. The drop was broad based with all components posting declines. Order backlogs fell below 50 to 44.4 in May and was the first component to drop into negative territory. (under 50 represents a decline rather than an expansion.) When taken in context with the decline in the Philly Fed survey last week from 25.3 to 7.3 there is a serious pattern of slowing economics.
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On Wednesday we get the national ISM Index and estimates are for a number barely over the 50 level and one that still indicates an expansion, but those hopes are fading. A number under 50 would be an end to the expansion that has lasted since July-2003. June 2003 was the last time the ISM fell below 50. A print under 50 on Wednesday could have mixed impacts on the market. While it would signal the end of the current economic expansion it would also signal an end to Fed rate hikes. The Fed has never raised rates with the ISM under 50. Given the drops in the other regional indexes there is a strong risk the ISM will post a greater than expected slide from last months 53.3 headline number. How the markets will react to a "negative" number is a toss up. Negative growth should be market negative but an end to Fed hikes should be market positive.
On the flip side the Consumer Confidence for May jumped unexpectedly to 102.2 from 97.5 in April. This was almost entirely due to a drop in gasoline prices and the jump in the stock market. The April payroll report also produced a feeling that jobs were easier to get. How true that really is has not yet been proved. Friday will see the release of the May Jobs data and the current consensus is for a drop back to +185,000 jobs from Aprils +274K gain. Remember, much of the April gain was related to a government adjustment. With no quarterly fudge factor this month the numbers could be weaker.
The rest of the week is full of reports that could provide further proof of economic strength or weakness. Construction Spending on Wednesday along with the ISM is followed by three employment reports on Thursday, Productivity and Factory Orders. The big report for Friday is the Jobs report, which when coupled with the ISM should determine our fate for the month.
The Business Roundtable consisting of CEOs of the 160 largest companies, saw their Outlook Index drop to a 15 month low. The Index fell to 94.3 for Q2 compared to 104.4 in Q1. CEOs are most concerned about energy prices and health care costs. Businesses still see economic growth but at a weaker rate. Their outlook today was weaker than it was just three months ago. In that period the GDP growth has dipped to 3.5% from 4.5% in 2004. The CEOs are projecting +3.4% for 2005 and well within expansion territory.
The SOX has risen +11% in May despite a lack of real motivating factors. Semiconductor billings released today fell -1.35% for the month and weaker than the +1.9% gain in the prior month. This is a trailing indicator and the numbers reported were for April. There was a -7% decline in DRAM sales led by rising inventories and falling prices. Factory utilization fell a point to 85% and Q1 foundry utilization fell to only 72% from 78% in Q4. Overall sales fell sharply in Europe and Japan. Semi sales are seen to have bottomed over the last four months but a meaningful rebound has yet to appear. Pacific Crest said chips were still not out of trouble with weak end user demand. They classified it as no doom, no boom but the worst may be over. Chip investors are betting on the future six to twelve months out. The SOX has rallied to 430 and well over the April lows of 376. This is uptrend resistance and given the strength of the move it is likely we will need to see a new catalyst to push over very strong resistance in the 440-445 range. NVLS helped to provide lift today with a guidance upgrade. NVLS said stronger demand by Japan customers for tools to make chips would boost profits to as much as 22 cents for the quarter. Prior guidance was 17-20 cents. Revenue remained inline with prior analyst estimates at $325 million. Intel has traded up for the last 13 sessions but that string ended today with a -.43 loss. Intel's mid-quarter update is due June-9th.
SOX Chart - Daily
Google headed higher after Piper Jaffray raised its price target to $300 from $275. GOOG rallied +11 to $277 after Piper said Google was expanding rapidly into non-Internet search services such as maps, desktop search, news and email services. They said Google should continue to expand its brand and earnings power. Google is widely expected to be added to the S&P-500 in the next revision. YHOO, EBAY and AMZN traded down on the news.
Bonds soared once again on the weaker economics and France's veto of the EU constitution. The Euro fell again with the dollar hitting eight-month highs against it. The Dollar has gained +5% against the Euro over the last month. France's rejection of the constitution created uncertainty about the Euro's future strength and the U.S. dollar rallied. The rise in the dollar created pressure on commodity prices as values were adjusted to compensate for the change. Yield on the 10-year note fell to 3.99% and the lowest level since February. The drop in short term rates has given lift to homebuilders once again and just in time for the spring selling season. This is the hot season for builders as buyers try to schedule closings and move-in over the summer months. The Dow declined slightly on the soaring dollar as profits from multinational companies will be hurt by currency exchange losses.
Ten Year Note Yield Chart - Daily
Dollar Index Chart - Daily
AMTD said it was talks to acquire TD Waterhouse for as much as $3 billion. Just a couple weeks ago AMTD was rumored to be an acquisition target by Etrade but denied any interest. Today's news may be an effort to make itself immune to a hostile takeover by the ET group.
Zacks reported that tech earnings for Q1 showed a +15% growth rate. Estimates for Q2 are for a drop to only +9% earnings growth. In Q1 67% of tech companies beat estimates, 13% met estimates and 20% missed estimates. On the S&P the guidance has been positive for Q2 but not impressive. Currently the number of warnings has matched those with upside guidance and that is better than normal. Typically more companies guide lower to avoid chancing an earnings miss. If things go well they beat the estimates and are then heroes.
Despite a two-week ramp by oil stocks XOM and CVX were upgraded on Tuesday. Smith Barney said a robust earnings outlook for 2006 leaves valuations attractive. SB said a combination of operating catalysts on CVX made it the most attractive of the majors. SB and JPM both upgraded XOM to a buy based on earnings.
Crude Oil Chart - Daily
I just returned from a two-week vacation in Italy. With my recent research on the coming oil crisis I was amazed to see the difference between American cars and cars in Italy. In my two weeks I only saw TWO American SUVs and no American style pickups. By far the most popular car is the Smart Four Two. This is a new mini car, which is 2500 MM long. (98.4 inches) You can literally park two in the same space of a full size car. Parking is a major problem in Rome, probably more than fuel efficiency. They have a 3-cylinder engine, which gets 100 KM to 1 liter of diesel. (65 miles) With Diesel selling for 1.26 Euro per liter (4.76 euro per gallon, $6.00 US) the cost to drive is very low. Top speed is 135Km, which would be a miracle on crowded Italian roads. There were LITERALLY 10 of these cars on every block in Italy and there is a six-month waiting list. The Smart Car is sold by Mercedes and sells between $16K and $20K US. While I do not expect these to make a big inroad in the U.S. in the next year or two cars like this will eventually be king of the road.
Smart Four Two
The Dow dropped at the open on the stronger dollar with multinationals UTX, IBM, PG and KO adding to the weakness in AIG. 10490 appeared as support and that held into the final hour. Volume was light at nearly holiday levels as the month ended with a whimper. A late afternoon surge failed to hold and the Dow fell to 10467. The Dow has support at 10435 but that support will be hostage to the ISM and Jobs report. Should it break we have that big short squeeze spike from the 17th that could be retraced very quickly to put us back at the bottom of our range.
The Nasdaq has been levitating for two weeks and posted a +8% gain for May. This was the strongest month for the index since mid-2003. With June historically a swoon month and 2100 very strong resistance I would be very surprised to see further gains over that level. The sell in May and go away crowd were proved wrong but the summer is far from over. The next hurdle for techs will be the Intel mid-quarter update on June-9th.
In my last commentary before my vacation I suggested we were going to be range bound between 1150-1180 without a material catalyst to break that range. The Treasury report on the 17th provided that catalyst and the short squeeze moved the upside of our range to just below 1200. Unfortunately nothing else has changed. That external event simply corrected the extreme oversold conditions we were experiencing at the time and led to a new inflow of knee jerk investor cash. That cash fueled some end of month buying and pinned us at the top of the range. S&P 1200 remains strong resistance as does Dow 10550 so any upward moves will need a new catalyst to break those levels. That could come from the ISM or the Jobs report but I am not betting my money on it. I believe the short squeeze spike was an anomaly and the path of least resistance is still down unless the economic signs improve. I would continue to short 1198-1200 until it breaks and target the bottom of the range for an exit.