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Market Wrap

Momentum Slowing

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The momentum has slowed after three weeks in rally mode and the arrival at strong resistance levels. The Nasdaq was the weakest link today despite news that George Soros had upped his stake in several tech companies. While the Dow and S&P were still trying to move higher at 1:PM the Nasdaq was already giving up ground. While the Dow and S&P set new relative highs today the Nasdaq could not even match the highs from Monday. Eventually every rally will run into profit taking, especially when reaching resistance at multiyear highs. It does not mean the rally is over but it does produce some needed caution.

Dow Chart - Daily

Nasdaq Chart - 30 min

SPX Chart - 30 min

Economic activity picked up today as the next reporting cycle gets underway. The Producer Price Index jumped +0.7% in October compared to a +1.9% jump in September. Energy prices were again the culprit with a +4.1% gain added to the +7.1% jump in September. Compared to October 2004 the prices headline number is up +5.9%. Core prices, without energy, actually fell -0.3% and are up only +2.0% over October 2004. That was the sharpest drop since 2003. Helping fuel the drop in prices was a -3% drop in auto prices. Energy prices continue to be the fuel behind the headline increases with crude goods up +31.5% over Oct-2004 levels. Natural gas prices rose +20.3% in October and this was on top of a +30.7% jump in September. Residential gas prices are up +38.9% year over year while home heating costs overall are up +50.4%. There is a move underway to drop the "core" number as the indicator of choice given the rise in the energy component in our daily lives. Energy was removed from consideration during the prior oil spikes as they were considered only temporary aberrations due to political events. In today's global economy the energy factor will be a permanent component of everyday spending and some economists feel the core rate should be dropped. I have always thought excluding food and energy was absurd and have said so repeatedly. Nobody I know can live without either.

The NY Empire State Manufacturing Survey jumped to 22.8 from last months 12.1 level. Shipments jumped to 27.6 from 23.5 and backorders rose to 15.1 from only 0.4. However, new orders only rose slightly to 25.9 from 24.9. One of the sharpest component increases was employment, which rose to 16.9 from 9.3. Inventories declined and prices received gained more than prices paid. This suggests the current inflation spike may be easing at the producer level but they are still raising prices to recover their higher costs. The +10.7 jump in the headline number was the strongest jump since July and suggests the hurricane dip has passed. The two year low of -11.1 was set last May.


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Retail sales in October fell only -0.1% and much better than the consensus estimates for a drop of -0.8%. Sales fell mostly on the drop in dollar values of gasoline. This drop in sales at gas stations was offset by year over year growth of +9.9% excluding autos. Sales at auto dealers fell -4.1% and erased a full point from the headline number. This was a very positive report despite the negative headline number. Sales fell where we want them to fall, in gasoline prices, while core sales grew at nearly a +10% rate and the fastest pace in 17 months.

We heard from several retailers this week and the jump in consumer sales does not appear to be floating all boats. Home Depot, the largest home improvement chain, said earnings jumped +17% on strong sales in Q3. HD raised its estimates for the year on expectations that Q4 would be strong. Sales rose +10.5% in Q3 with same store sales up +3.6%. HD raised revenue guidance for the year to between 10-12%. Wal-Mart posted a +10.1% increase in revenue for the quarter and said the holiday season should be strong. On the downside Target said sales would likely be lower than expected and miss its same store sales targets for +4-6%. American Eagle also warned that its Q4 profits would be below prior estimates. JC Penny beat the street for Q3 but guided lower than analysts had expected. Wal-Mart also warned that Q1 could be tough as consumers are faced with paying their credit card bills as well as high winter heating bills. Those mixed messages in the retail sector helped to pressure the indexes after three weeks of gains.

The Dow suffered due to a drop in AIG after the company posted lower than expected earnings. AIG also said some employees had received notices from the SEC regarding a probe into the companies accounting practices. Offsetting that drop was JNJ, which succeeded in adjusting the price it was paying for Guidant to -15% lower as an offset for the business loss due to recalled devices. JNJ jumped +2.50 on the news.

Hurting tech stocks was a downgrade in SNDK by Deutsche Bank to a sell based on valuation and a changing outlook on competition in the sector. Competitor Hynix is ramping up production of a multi-level flash chip that can store more memory than the conventional flash memory chip. Micron and Samsung are said to be partnering with Hynix in this new product. Since a large portion of SNDK revenues come from royalties on the current generation of flash chips this could cut revenue substantially if the use of that chip technology fades. SNDK fell -$4 on the downgrade.

In theory this should have been a good day for techs after news broke that George Soros had upped his stake in several tech companies, some by a factor of more than 5 times. In papers filed with the SEC Soros said he added to positions in INTC, MSFT, MOT, AMZN, EBAY, IBM, LU, TWX and APPL. Soros is betting on a continued increase in globalization of these brands and their products. Emerging economies are creating a surge in tech buying where there was previously limited tech availability. Soros got an unexpected windfall from Amazon today after S&P announced it will be replacing AT&T in the S&P-500. Ma Bell is retiring from the index to go live with one of her kids (SBC) as the acquisition completes. Google had been the expected entry but the S&P index committee snubbed GOOG once again with the nod to Amazon. GOOG fell -$4 on the news and AMZN jumped +$2.

The Nasdaq announced that they were changing their systems to handle 1,2,3 and yes 4 character symbols. No longer will Nasdaq companies be limited to a four-character symbol. Nasdaq said the move would allow it to function as a backup to the NYSE in case of a disaster.

Homebuilders were also weak today after a survey or realtors showed that home sales contracts fell -8% in October. Sales fell -14% on the West Coast, -7% in the Northeast, -8% in the mid-Atlantic and rose +1% in the South. Houses are staying on the market an average of three times longer. A survey of the 48 largest realtors in the country showed that sales were slowing but prices were not falling as much as previously feared. In Q3 prices nationwide actually rose +14.7% according to a survey of 147 markets. However, that compares Q3-2004 and Q3-2005. It does not show what the drop was from prior quarters this year. Be careful how survey numbers are presented. Sometimes the true picture is hidden by the presenter. They also showed that home values in certain parts of the country had accelerated so quickly that those areas could be holding up the overall averages and offsetting drops in other areas. Prices rose +55% in Phoenix, +48% in Orlando and +42% in Fort Myers. All the builders were down but not as much as you might have expected. New home construction numbers are due out on Thursday and traders are likely cautious ahead of the news. I keep looking for Toll Brothers to begin a rebound but it appears to be getting weaker as it struggles with $34. Beazer Homes continues to have the best looking chart but with rates rising I would be cautious of any new positions.

Consumer sentiment probably took another hit today after the Pension Benefit Guaranty Corp warned Congress the money was running out. The PBGC is currently administering 120 plans with a $108 billion balance. They are running a deficit of -$23 billion and it is not getting any better. The pension plan at United Airlines was $10 billion underwater. Current estimates claim there are scores of other pension problems about to surface with liabilities in excess of $450 billion. The PBGC is only liable for payments up to $3800 a month to any one person. Any benefits over that level are erased as the PBGC tries to cope with the rising number of disasters. With the millions of retirees depending on their pensions to live this cut in benefits is sure to be a sentiment depressor and an economic drag that will continue to grow.

December Copper Futures - Daily

Copper prices hit a new all time high at $1.93 today after news broke of massive short positions in China. Reportedly a rogue trader in the State Reserves Bureau in China has amassed nearly $200 million in shorts on copper. The trader, Liu Qibing, is said to have disappeared as China tries to distance itself from his activities. Dead men tell no tales could be the theory here. According to published reports he accumulated a short position of nearly 200,000 tonnes. (Tonne = 1,000 kg or 2,204.62262 pounds) His personal profile on Bloomberg lists him as a "government" trader. It is not unusual for traders to get into trouble and try to trade out of the problem. Many times it produces a snowball of liabilities as increasing leverage is required to produce any hope of rectifying increasingly negative positions. One trader, Nick Leeson, took down Barron Bank several years ago by trying to trade his way out of a relatively minor hole that ended with a -$1.3 billion disaster. After a prison stay Nick has written a book about the experience called appropriately, Rouge Trader. In the Chinese government it is highly unlikely a single trader accumulated positions of this size by himself. China closely monitors and controls what traders are allowed to do. Other participants in the market claim that to accumulate positions of that size he would have had to produce financial guarantees from a very large source leading them to believe it was a government sponsored effort. There are also rumors that another state owned enterprise, Minmetals, has been accumulating a large short position. That company has refused to comment on the situation. Some traders suggested that China was trying to short copper to keep the price low as their demand for the metal grew. However, on Tuesday a separate government agency was to hold China's first ever auction of copper reserves. Quite a potential for conflict there. Let's manipulate the price of copper ahead of the auction and then blame it on a now missing trader. After they hold their auction, prices will fall and they can cover their shorts for a profit. Looks like business as usual for China.

December Crude Oil Chart - Daily

Oil prices rallied early in the day ahead of tomorrows inventory levels but it could not hold its gains. Late afternoon selling pushed it to a new five month low at $56.91. The downtrend is continuing but we may be getting close to a rebound. Colder weather is holding gas prices over $11.50 and traders are just waiting for the first draw down in those inventory numbers to start buying again. I am patiently waiting for that turn to enter new energy positions. Despite the afternoon sell off in oil there were plenty of energy stocks making gains. This suggests the dip buyers are not afraid of a new drop in oil prices. That theory will be tested tomorrow when inventory levels are announced.

GM hit a new 13-year low at $22.50 as fears of a bankruptcy increases. High costs of healthcare, rising pension liabilities and falling sales are adding up to a bankruptcy in 6-12 months according to some analysts. GM responded today saying it has no plans of a bankruptcy filing. Traders laughingly recount hundreds of companies making that statement in the past that eventually filed. Another problem is GM's $31 billion in debt related to automaking that has been downgraded to junk status. GM has $276 billion in total debt with the majority of that held by GMAC. Credit default swaps are trading on an upfront basis meaning holders must pay substantially more to protect themselves against a default by GM. Currently bond holders must pay $12 a year per $100 of the debt to hedge against a default. Normally when companies default swaps go "upfront" a bankruptcy generally appears. Delphi and Delta are two companies where this occurred recently. Both filed bankruptcy. When GM mentioned last week they were going to restate earnings for the last four years it did not help the uneasiness. On Nov-10th Banc America reiterated a sell on GM stock saying they believe rising accounting liability for GM officers could accelerate a bankruptcy filing. BAC feels it is inevitable GM will file and that makes sooner a better decision than later.

Chart of GM - Monthly

The Bernanke hearings dominated the airwaves again on Tuesday and a peculiar thing happened. In a survey on Monday 73% of the respondents thought Bernanke would be good for the markets. By the end of Tuesday that number had declined to only 46%. This is a massive change in direction based on his comments. To be fair it also has to do with the strong stream of analyst reviews as the hearings progressed. It seems that they are reading the future and coming to the same conclusion I have voiced here over the last two months. Bernanke is suffering from the helicopter comment and there is a growing fear he will have to take the Fed rates much higher to prove to the bond market he is for real. In Nov-2002 he referred to helicopters dropping money as a means to head off deflation. He was referring to Milton Friedman's famous comparison of a Fed open market bond operation as "helicopter money drops" given in a 1968 speech. Bernanke alluded to the ability of the Fed to print endless amounts of money if needed to prevent deflation. Now instead of printing money the fear is he will have to reduce money supply until a recession appears just to prove he is macho enough to rule the Fed. The markets are becoming uneasy as his comments this week are evaluated with an eye to the current rate cycle.

With the exception of the Nasdaq the markets tried to push through current resistance despite the retail sales comments and fear of the Fed. The Dow actually traded above its eight month high of 10719 reaching to 10741 before the weight of the Nasdaq finally took hold. The Dow retreated to test Monday's lows and managed to recover some of that lost ground into the close at 10685. This leaves the 10700-10720 resistance level intact and ready for the next attack. Support is rising and somewhere in the 10600 range tonight. That means we still have room for further profit taking but I am not expecting it tomorrow. Most first time resistance tests fail, especially with resistance as strong as that at 10720. Still it was not the Dow that failed but the Nasdaq that dragged it down.

The Nasdaq is the real culprit with resistance at 2205 holding for three consecutive days. This was not a level that stood out on the charts as resistance but one that has formed over the last week as sellers take advantage of the psychological 2200 level. The Nasdaq has risen from 2025 to 2200 in little more than four weeks and that sets up a potential for profit taking from traders trying to lock in profits ahead of year-end. It is not that the +175 points are such a big deal but in reality it is the move from 1890 in late April. We saw the Nasdaq run up to 2219 over three months. +330 points. Many institutions held on during the Q3 drop and now that we have returned to that level they are breathing a collective sigh of relief and taking those profits to lock in bonuses. On a side note the securities industry is expected to pay out a whopping $18 billion in bonuses this year if the indexes stay at this level or higher until year-end. For those bailing at 2205 they are locking in their bonuses. After three months of pain that may seem to be the logical thing to do. However, the volume of selling is still low and there has not been a major change in sentiment. This has the effect of a low volume consolidation at resistance and should not be a problem unless volume increases.

The SPX, like the Dow pushed higher this morning to 1238 and only a handful of points from the multiyear high at 1245 set back in August. Like the Nasdaq we may have seen traders locking in profits as that resistance level is tested. The scuttlebutt on the street is still an expectation of a breakout before Thanksgiving but the proverbial bonus in hand is better than hoping for a larger one in the bush. Support on the SPX is currently 1215 and well below today's 1228 close.

Tomorrow we will get the Consumer Price Index (CPI), Business Inventories and the oil and gas inventories. The CPI is the only one that could move the market negatively. Consensus is for a minor gain of +0.1% in consumer prices and a much stronger number could accelerate those fears that Bernanke will start off his chairmanship with a reign of terror instead of a kindler gentler, easier to understand Fed.

I am still looking for additional gains until Thanksgiving simply because old habits die hard and retail traders are used to seeing a rally ahead of Thanksgiving. After Thanksgiving we will have to take another look at market sentiment to determine direction. I was encouraged by the limited selling in the broader indexes and hopefully that means the dip buyers are alive and well. I would also be careful of risking profits at this level. If you have been following my suggestions you should be long since SPX 1185 and have some nice profits in many stocks. We waited for more than two months for the Dow to dip below 10250 in October and we were rewarded for our efforts from shorting that drop and buying that dip. Now it is time to protect those profits from an unexpected change in sentiment. With initial support on the Dow around 10600 and stronger support at 10525 we could see a substantial decline and still retain the uptrend. The same level is 1215 on the SPX. Do you really want to pin your profits on the hope of a rebound from those levels? How would you feel if those levels broke after you rode your winners down to those levels? How many times has a supposed level of strong support only been a bump in the road on the way to a new low? Quite often although rarely in the period ahead of Thanksgiving. After Thanksgiving the occurrences increase making protection of those profits into the Thanksgiving period even more critical. Tighten up those stops and avoid that woulda, shoulda, coulda guilt trip if disaster strikes. Expect the best but protect against the worst.

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