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Market Wrap

What A Week

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After a flood of economic reports, several sessions of profit taking and a really nice short squeeze the markets ended pretty close to where they started the week. Consolidation was the keyword for the week and overall it was accomplished without any material damage. Wednesday's drop was erased with Thursday's gain and the indexes are still poised to move higher. Energy stocks found a bottom with the arrival of cold weather and gains in energy stocks could provide support for the S&P next week.

Dow Chart - Daily

Dow Chart - 30 min

Nasdaq Chart - Weekly

This was a very strong week for economic reports and overall the outlook was very positive. Of course many of the headline numbers did not portray correctly the picture painted by the internal components but overall we should not complain. Friday's economic contribution came from the November Jobs report with a gain of +215,000 jobs. The consensus had been for a gain of +210,000 so no real surprise there. The surprise came in the form of a downward revision of -12,000 to the October number and a positive revision of +25,000 to September. Overall this represented a positive improvement but the adjustments may have confused the picture. The household employment survey is normally a stronger number than the payroll survey but showed a drop of -52,000 jobs in November. The payroll survey is considered more reliable. The labor market seems to have bounced back from the hurricane impact and back on track for continued positive growth. Economy.com expects that jobs will continue to strengthen through the first half of next year.

Another report helping the market was this week was a strong +2.6% jump in semiconductor sales in October to $20.05 billion. The jump in sales was broad based in all areas and all sectors driven by the demand for consumer electronics. Flat panel TVs, cell phones, iPod accessories and all manner of electronic devices are feeding the demand. The headline number is a three-month moving average to smooth out the demand spikes. Because it is an average the major gains likely came in September as manufacturers prepared for the holiday selling season. September's number jumped to $19.55 billion from $18.58 in August. Sales had been hovering around $18 billion for several months. Reading between the lines we can see a small uptick in August increasing in Oct and peaking in Sept. Because this is an average it means the actual spike in sales occurred up to 60 days before it is fully represented in the report.

These reports capped a very full week of positive economics. Thursday the ISM came in better than expected at 58.1 but still slightly less than the 59.1 seen in October. Still this represents a continued period of expansion now stretching to 30 months. How much further this streak can run is a hot topic around the cocktail tables off Wall Street. So far there are no indications of any weakness ahead and the Fed continues to think it is strong enough to support a continued hike cycle.

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Also on Thursday we saw auto sales rebound by +1 million units to an annual pace of 15.7 million. The majority of that gain was in light trucks from 7.4M to 8.2M. That may sound like a lot of trucks but the key is classification. Most SUVs are classified as light trucks to avoid the MPG guidelines. This pace is slightly lower than the recent averages. Between 2000-2004 we saw a pace of nearly 17 million units per year. In case you are wondering where our increasing demand for oil comes from this is it. At the current rate of 15.7 million vehicles sold in America this year and only about two million crushed it is a net addition of just over 13 million vehicles per year. That is a lot of new gas tanks to fill and we will see another 13 million or so in 2006. That produces additional annual gasoline demand of 8.112 billion gallons each year or roughly 500,000 bbls of oil per day. There were rumors on the street on Friday that Ford could follow GM and its austerity program. The Wall Street Journal said Ford is going to close five plants with 7500 workers representing 6% of Ford's work force. Slumping sales at GM and Ford may mean the SUV era is coming to an end despite the spike in sales in November. For example sales of Ford's explorer are down -29.8% this year mainly due to higher gas prices.

Oil demand was not the topic on Friday with natural gas taking the spotlight. Gas futures rose +7% to close at $13.95 and a five-week high. I have been preaching for weeks that once the cold weather arrived the energy sector would be led higher by natural gas demand. With cold weather settling in across the entire country we saw a huge drop in gas storage this week of -49 billion cubic feet. This means that demand was actually over 100 bcf to consume the +60 bcf in new weekly supplies we have been seeing as well as draw down reserves by -49 bcf. Last week was not even a cold week for anybody but the Midwest. As the temperature continues to fall across the country the demand will increase. This anticipation for increased demand spiked gas prices from $11.18 on Monday to close at $13.95 on Friday. That is a +24% spike in only one week and the winter is just getting started. There are many analysts that expect a cold winter could push prices well over the $15.25 hurricane high to $20. Helping to produce the shortage is leftover damage from the hurricanes. 5.25bcf of daily gas processing capacity is still offline. Over 75% of gas produced requires processing before it can be pushed up the pipelines to consumers. We still have 2.9 bcf of gas production offline in the Gulf.

Natural Gas Chart - 60 min

Oil Chart - 30 min

The spike in gas prices helped to push/drag the price of oil back over strong resistance at $59. The breakout was not strong and with the close at $59.30 oil is still struggling to break free of those remaining sellers but we are very close to a break in the trend. That would take a move over $59.75 to start and a break over $63.50 for solid confirmation. Energy stocks were solid performers on Thursday with gains over $2 for many. Over the long term the average gains during the three month winter period in energy produces nearly a +5% gain in energy stocks. The average gain in rally years only is nearly +10% with a -5% drop in years where the rally does not appear. Historically when commercial traders are long more than 40mb of oil the rally has a better than 75% chance of success. Currently the commitment of traders report shows they are long over 60mb. This is one of the largest long positions in the history of the contract. For those of us already long the prospects are very exciting. Anyone else should be buying the dips.

5% of our refining capacity is still offline (804,000bpd) and capacity utilization is running about 90% for those in operation. Some of those in operation are not 100% repaired. Those still offline are not expected to be back in full production until 2006, some late in the first quarter. Imports of gasoline and heating oil have been running +40% over last year's rates but that fell slightly last week as more capacity came back online. Oil imports fell -526,000bpd last week and could have been the reason we saw such a sharp drop in the oil inventory levels.

The president of OPEC said on Friday that he wanted OPEC to maintain full production through the northern hemisphere winter to avoid a further rise in prices. Kuwait Oil minister and OPEC President, Sheikh Ahmad Fahd al-Sabah said he would recommend at the coming OPEC meeting that production should continue at the current high level to avoid any return to high prices due to winter demand spikes. Of course with oil hovering just under $60 it does not hurt their cash flow either. The oil minister said OPEC was currently producing at 30.3 mbpd despite their official quotas at 28.0 mbpd. The extra 2mbpd was supposedly to offset the decline in U.S. production due to hurricanes. Many analysts think that 30.3mbpd level represents 100% of OPEC capacity and they are afraid a demand spike could erase any inventory cushion and reveal their capacity limitations to the world. The oil minister said OPEC "welcomed" the price decline over the last two months. Sure and Santa Claus sleigh is powered by jet fuel too. Words are cheap and oil isn't. OPEC also called on oil consuming countries to be flexible on taxes in order to keep consumer prices low. Does that sound like double speak to you? We are glad oil prices are falling but we want you to lower taxes so consumers will buy more. They clearly want to make politically correct statements as they ring the register. Venezuela said on Friday that OPEC was going to consider a new price range at the Dec-12th meeting, which would match the current situation in the international market. Does that statement sound like they are worried about higher prices? I think not. They want to charge just a penny below what the market will bear without cutting back on consumption. In theory they can guarantee that price by restricting the flow of oil to maintain the target price. With Saudi the only country with possible additional production the challenge is getting harder to handle.

Thursday's short squeeze was helped significantly by the jump in the SOX. Intel announced it was building a new $3.5 billion plant in Israel but it gained only +1.87%. It was news of strong chip demand for video devices and holiday electronics that really fanned the fire. On Thursday it was the bottom performers of the sector that showed the most gains not the leaders. National Semi (NSM) jumped +7.8%, Freescale (FSL) +6.6% and Altera (ALTR) +5%. This powered the SOX to a breakout over the 485 resistance that has held since June-2004. The SOX closed on Friday at 505 and showed no indications of slipping backwards.

SOX Chart - Daily

The SOX strength pushed the Nasdaq to recover all of its losses for the week and close at a new post June-2001 high. The Russell, also fueled by the chip sector surge closed only .16 off its all time high set on Thursday. The NYSE Composite also rallied back to a new all time high closing high at 7761. The markets ended a lot more bullish than you would have thought given the closing averages on Friday. The Dow lost -35 and the Nasdaq only gained +6 and the S&P +0.41. That was not the real story. Remember the levels hit last week at the end of our six weeks in rally mode? Well we are right back at those levels after a week of consolidation with only the Dow down significantly for the week by -54 points. 35 of those points were lost on Friday as traders took profits from Thursday's rebound. Again, no harm, no foul.

If you look at the volume patterns for the week the rally days had much better volume than the down days. This is textbook market action for a bull market during the post Thanksgiving recess. Now that we have finished off the turkey leftovers and the tryptophan has left our systems we are ready for another move higher next week. The economic calendar will have a few points of interest such as the ISM Services, Productivity and Factory Orders but the real trigger points will be mid-quarter updates from Intel and Texas Instruments. Intel will provide guidance on Thursday after the close. Texas Instruments will give guidance after the close on Wednesday. While chip and tech buyers will want to know what TXN says the real turning point will be the Intel update. Several analysts have recently suggested that Intel will raise guidance and the market has already factored this into the breakout over SOX 485. The market is Intel's to make or break. Any good news should serve to confirm existing gains and give traders permission to move ahead. Should they NOT guide higher or heaven forbid say anything negative then the December rally would be history and traders could take profits across the board.

December has gotten off to a good start and I feel the markets are poised for the next leg higher Intel permitting. The economics continue to be decent and the Fed does not meet again until Tuesday the 13th. The Fed is seen to be nearing the end of its hike cycle. On Friday afternoon Janet Yellen said the Fed was reviewing its measured pace language. Nothing new there after the FOMC minutes last week but there is more. Yellen, President of the SF Fed said "while it seems unlikely that the end of the current tightening phase is yet at hand" there will obviously come a period where the language will change. The parts of the statement up for debate at the Dec-13th meeting are the "remove accommodation" and "measured pace" portions. She said the Fed would need to keep raising the rate and be vigilant of inflation pressures given higher energy costs. She said the range at which the Fed rate neither spurs or restrains the economy was 3.5% to 5.5%. That means a 3.75% rate is at the bottom edge of the neutral range and gives the Fed a wide range of choices before rate hikes become detrimental. Chicago Fed Moskow said last week that the Fed was near the bottom of the neutral range, also a comment that suggested the Fed was not done yet. Analysts had changed their expectations for only two more rate hikes in Dec and Jan to take the rate to 4.25%. After this weeks economic reports and the various items of sudden Fedspeak suggesting there was room to run that 4.25% ceiling is starting to expand higher. This puts the Fed meeting on the 13th square in trader's sights as a pivotal point in the December rally. December is normally the best month of the year for the markets and that could still happen despite the prior six weeks of gains and a couple of serious bumps just ahead. However, traders should be cautious ahead of Intel and the Fed. Tighten those stops ahead of those dates and be prepared for volatility. I mentioned on Tuesday night I expected buyers to appear at S&P 1250 and the low for the week was 1249.39. That was close enough for me and I hope you acted on it as well. I am still targeting 11350/1300 as a potential December target and while I am bullish at present I would be careful should those targets be reached.
 

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