Option Investor
Market Wrap

Primed to Rise

Printer friendly version

Primed to Rise

Oil fueled overnight market action Friday and set up the action for U.S. markets. Gains in Asian and European commodity-related issues drove those bourses higher. Steel-makers, miners and oil majors saw overnight gains, while equities seemed to ignore the impact of rising crude costs and joined right along. The FTSE 100 hit a new three-year high. Morning online newsletter editions predicted a likely bump higher in U.S. equities, too. Equities were primed to rise.

Still, with crude over $57.00 a barrel as most U.S. investors woke opex Friday morning, some nervously eyed charts of U.S. indices and pondered the estimates for a widening deficit, wondering if an upside pop would hold. After the SPX settlement and the final economic release were out of the way Friday morning, would equities be free to decline?

They weren't going to decline pre-market, no matter what, it seemed. When the current account data at 8:30 EST showed an unexpected widening to $189.4 billion, only the dollar and bonds seemed to react, despite the economic risks from the burgeoning deficit. Equity futures stayed positive, barely moving. Shortly after the open, equities received a further boost from the Michigan sentiment number. A higher than expected June number of 94.8, well above May's 86.9 and the expected 88.8, buoyed equities that were already climbing. Bad news was good, and good news was even better.

Not far into the day, CNBC commentators and print articles began touting the fact that the S&P 500 was positive for the year. Some might have missed a perhaps more important gauge of market strength, the Wilshire 5000's rise to test the year's high and the brief pop above that level. As well, the important DJUSHB, the Dow Jones Home Construction Index, zoomed to a new high above 1000, and the Nasdaq raced up to test the neckline of a well-defined inverse H&S on its daily chart.

Annotated Daily Chart of the Wilshire 5000:

While the Wilshire closed at a new high, that close was less than three points higher than February's closing high, so it's essentially an equal high so far. The Wilshire 5000 still faces resistance from Friday's high up to just above 12,200. While 12,000 has some historical significance as resistance and probable major psychological significance, the upside breakout did not quite happen on this index that is the broadest of all our indices.

The SPX did manage that positive close for the year.

Annotated Daily Chart for the SPX:

The RUT broke above a descending trendline off last year's high, but couldn't quite confirm the breakout by closing above the early March high.

Annotated Daily Chart of the Russell 5000:

The Nasdaq also tested important resistance and could not close above it, although the Nasdaq's formation is potentially bullish.

Annotated Daily Chart of the Nasdaq:

The Dow has already confirmed one version of an inverse H&S on its daily chart, but daily candles have all shown some indecision since breaking over that neckline. It will soon face a neckline for an inverse H&S on the weekly chart, at the lower bold red line.

Annotated Daily Chart of the Dow:

Recent gains have caught some market participants by surprise. Potential new breakouts over important resistance levels loom, but formations such as inverse H&S's can be rejected at the necklines, too. Some speculate that early gains Friday were opex related, a theory that will be tested early next week, after opex settlement is out of the way. Chart formations look easy to read and breakouts or rollovers easy to determined, but now is no time to get married to positions. A breakout may be a fake-out move, destined to be quickly reversed as markets finally pull back to next likely support.

Be ready to jump out if indices reverse course. With indices looking so overbought by many measures, including RSI, buying at these levels looks risky to this writer, but one helpful exercise may be watching the relationship of the indices with respect to tests of the 5- and 60-minute 100/130-ema's. Many fast-moving indices have been bounding off the five-minute versions, and then, if those fail, off the 60-minute versions on deeper pullbacks. The Russell 2000 is one of those indices.

Annotated 60-Minute Chart of the Russell 2000:

Use the action surrounding these averages, combined with the resistance levels identified above, to help guide your decisions. If the Russell 2000 were to open at or below Friday's close, for example, bringing up the possibility of an evening-star formation, watch first to see if it bounces again from the five-minute 100/130-ema's at 643.28 and 642.52, respectively. If not, there's a possibility of a drop down to the 60-minute versions, particularly if the RUT rolls over from retests of the five-minute versions. A decline down to the 60-minute versions would be enough to complete that evening-star formation, although the 60-minute averages should keep rising for a while as the RUT drops. A completion of an evening-star formation coupled with a change in trend, identified by these averages being converted to resistance, might signal that over the short-term at least, it's time to start selling rallies. A bounce over resistance coupled with continued bounces from these averages maintains the buy-the-dips mentality. In any trending market, identify a time frame in which the security being watched is bouncing from the 100/130-ema's and watch for a change in trend.

Charts show many bullish characteristics with some hesitation, while Friday's current account information questions all this bullishness. Looking at the numbers might be helpful. As had been anticipated, the revised deficit widened, but it widened even more than some had expected, to $195.1 billion, a 3.6 percent increase. The deficit now comprises 6.4 percent of the GDP. The component measuring the trade of goods created much of that deficit, with that component's deficit rising to $186.3 billion. The goods and services deficit increased more than it had in the fourth quarter.

Foreign-owned assets increased by $226.1 billion. Unilateral current saw net outflows of $27.1 billion, higher than had been seen in the fourth quarter. Foreign official assets in the U.S. rose $24.7 billion, a number far less than the fourth quarter's $94.5 billion gain. Foreign direct investment in the U.S. and U.S. direct investment abroad both moderated. U.S.-owned assets abroad increased by a more modest $60.7 billion than it had in the previous quarter.

Foreign purchases of U.S. equities moderated to $28.9 billion from the previous quarter's $45.7 billion, and foreign purchases of corporate bonds also moderated to $58.6 billion from the former $69.3 billion. Agency bond purchases fell to only $800 million from the previous $43.2 billion. Net foreign purchases of U.S. Treasuries climbed to $75.5 billion, however.

For those whose eyes are crossing as they sort through the various components, a Wall Street Journal interpretation of the data was that Americans had increased purchases of foreign overseas goods, creating a deficit in goods. In part, higher crude costs led to the higher amounts U.S. consumers spent on foreign goods, but demand appeared to be higher, too. Net outflows for unilateral current transfers also contributed to the deficit, but the WSJ thought income and services surpluses helped offset those deficits.

Another article's writer felt more concerned. That writer summed up the release by noting that the current account deficit continues to rise steadily as a percentage of the GDP. In the fourth quarter the current account made up 6.3 percent of the GDP. A year ago, it was only 5.1 percent. Also just this week, Federal Reserve Governor Donald Kohn said that the current-account deficit contributes to the greater-than-usual risks to the economy.

U.S. Treasury Secretary John Snow put a positive spin on the deficit. He said that it emphasizes the strength of the U.S. economy, showing that it's growing faster than economies in Europe and Japan. The U.S. is importing more goods and paying a higher price, since crude and dollar developments both contributed to those higher prices in the first quarter. Recent data has corroborated Snow's impression that the U.S. economy is growing faster than many others across the globe, as they've shown recent signs of weakening. However, an economy that is growing faster in comparison to weakening economies may not be a stellar endorsement of the U.S. economy. This week, some television guests have again begun to mention the "R" word with regard to the U.S. economy.

Developments in crude prices didn't offer consolation to those worried about the impact of rising crude costs. It did cheer those heavily invested in commodity-related issues, as those issues were seeing gains across the globe Friday. Both the U.S. and U.K. closed down consulates in Lagos, Nigeria, after security threats in that country. Nigeria produces a better grade oil than OPEC would if it geared up to replace any lost supplies from Nigeria. As Jim Brown has been warning for some time and reiterated this week, it's not just a supply problem that's heating up crude costs, but a problem in obtaining the right type of crude. Next week, OPEC ministers are to consult again about a second increase in production, with that consultation to be held if the organization's price index remains above $50 a barrel for seven days, a target already met. However, the ability to produce light sweet crude and the refining capacity to turn that into needed products remains questionable, no matter what reassurances OPEC ministers make. Friday, the OIX, the oil index, rose to an all-time high, closing at an all-time closing high of 504.27, just off the high of the day.

Also impacting the sector was news that Valero Energy raised guidance, resulting in a 4.25 percent gain. While VLO is not an OIX component, UCL is. CNOOC, China's largest offshore oil producer, might make a counteroffer for Unocal (UCL), some speculated, leading to a 3.62 percent pop in UCL.

At times during the day Friday, Nasdaq and S&P behavior and volume patterns appeared bifurcated, with that bifurcation stalling the indices for a while. The differences in behavior were attributed at least in part due to Adobe Systems' (ADBE) issuance of in-line guidance for the third quarter after beating analysts' expectations for the second quarter by a penny. ADBE also revealed that it will face a lawsuit concerning its proposed acquisition of Macromedia (MACR). ADBE closed lower by 3.30 percent as some disappointed investors abandoned the stock.

While ADBE's in-line guidance punished tech stocks, KB Home's (KBH) strong earnings report for the second quarter helped. KBH was to close higher by 6.92 percent, but it wasn't the only homebuilder gaining, although many closed off their highs of the day. Smith Barney upgraded KBH, HOV, PHM and RYL to buy ratings, with some of these also being components of the S&P 500.

The DJUSHB, the Dow Jones Home Construction Index, leaped above 1,000, breaking to a new all-time high. Mid-afternoon, the index slipped, falling quickly below the mid-point of the day's range and raising the possibility of a key reversal day if it actually closed negative, but it recovered to close above that midpoint. The day's candle left a long upper shadow, however, and this index bears watching Monday morning.

Financials gained attention due to Bank of America's $3 billion deal to take a 9 percent stake in China Construction Bank. That deal, reported during the overnight session, will be the largest single foreign investment in China's banking sector. Other company-related news included speculation that General Electric (GE) might announce three vice chairman next week, with further speculation that its current chief executive John Rice and chief executive of transportation David Calhoun would number two of the three. GE rose 1.08 percent. The Wall Street Journal reported the GE news and also speculated that Morgan Stanley (MWD) might be reconsidering its planned spin-off of credit-card operation Discover due to a possible need for a heftier cash infusion than MWD had expected. MWD dropped 1.00 percent, but the XBD, the Securities Broker Dealer Index, did squeak by with a 0.15 percent gain.

Circuit City (CC) also reported Friday, with its loss widening due to rising costs. A portion of those costs proceeded from the need to rebrand 970 InterTan Inc. stores that Circuit City bought last year. InterTan lost a judgment, forcing the stores to stop using the RadioShack name in Canada. The title of one article, "There's Little to Cheer at Circuit City" says it all. Same-store sales for stores open more than a year were flat. Inventory shortfalls of notebook and desktop computers were significant, the chief officer acknowledged, and that officer has requested a shakeup in merchandizing. The RLX did post a 0.51 percent gain, however.

Pre-market upgrades and downgrades included a Wachovia Securities downgrade of Goldman Sachs Group, Inc. (GS) to a market-perform rating. This was due to earnings' volatility since trading comprises too big a proportion of GS's revenue. Goldman Sachs was doing some rating of its own, starting Monster Worldwide, Inc. (MNST) at an outperform rating, mentioning MNST's expected increasing recruitment advertising market share. Bear Stearns downgraded The Cheesecake Factory (CAKE) to a peer-perform rating, speculating that CAKE might see another earnings miss this year. UBS and J.P. Morgan couldn't agree on the prospects for Sanofi-Aventis (SNY) with UBS upgrading the company and J.P. Morgan downgrading it. UBS saw SNY's loss of a case involving one of its patents as creating a buying opportunity. J.P. Morgan didn't see it that way, speculating that sales could be impacted by as much as half by 2009.

Next week's economic releases include Monday's 10:00 release of leading indicators. The word "leading" can be a bit misleading, pun intended, because the conference board compounds this number from prior releases of indicators such as new orders, jobless claims, and money supply. Although markets occasionally react to this number, they also sometimes ignore it. Tuesday's releases include the ICSC-UBS store sales for the previous week, Redbook's measure of sales at chain stores, discounters and department stores and the State Street investor confidence index, with that last release at 10:00. This last number is not a survey, but a direct measurement of how many risky investments professional investors are holding. With the RLX still gaining, but with the daily chart showing small-bodied candles with upper shadows, those figures on retail sales may assume importance.

Other than MBA mortgage figures and crude inventories on Wednesday, with crude inventories certainly closely watched, the next releases don't come until Thursday, with the usual jobless claims release followed at 10:00 am by May's existing home sales and then at 4:30 by the money supply figure for the week of 6/13. With the DJUSHB reaching new record highs but showing signs of some selling Friday afternoon, those home sales figures might be particularly important, too.

The next day, May's durable goods orders will lead the day's releases at 8:30, with May's new home sales following at 10:00. Durable orders, with its importance as a leading indicator of manufacturing activity, should catch market watchers' attention.

A few important earnings reports will begin to appear next week. Homebuilder Lennar (LEN) reports before the open Tuesday, and Bed Bath & Beyond (BBBY) reports Wednesday, giving investors another clue into how the buy-a-home-and-furnish-it sectors are performing. FDX reports Thursday, as do low-cost retailer Family Dollar (FDO) and A.G. Edwards (AGE).

Next week should be an important week, although early Monday action might be somewhat volatile and difficult to fit into a pattern as opex settlement activity proceeds. Remember to watch the Russell 2000 for a potential evening-star formation, and the Wilshire 5000 for a breakout above or rollover below that important resistance. Watch those 100/130-ema's, tinkering with the time interval for your preferred index so you can note a change in trend. Logic says that indices shouldn't be performing as well as they are with the "R" word beginning to be mentioned here and abroad, but don't argue if indices decide otherwise. Keep a close watch on those profits, however.


Market Wrap Archives