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Market Wrap

Taking the Offense

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If I knew anything about football, I'd pull an analogy from football to describe how markets behaved ahead of and after the snap of the ball today. That snap was produced by the release of the FOMC minutes. The last two plays by the FOMC--the last meeting's statement and then Maria's interception when FOMC Chairman Bernanke fumbled--had allowed the bears to grab the ball and run with it since the middle of May. This morning, bulls wanted to stop playing defense and put their offensive team on the field. They did, but they couldn't complete a touchdown. Neither could the bears, and the playoff continues.

After a low reached near 3:00-3:15 EST this morning, futures had bounced and then parked just beneath their 15-minute all-sessions 100/130-ema's, awaiting the cash open. This was true of the ES, NQ, YM and MR (ER, for non-QCharts users). After the open, cash indices duplicated that action, making it up to their 15-minute 100/130-ema's by mid-morning. This was true of the SPX, NDX, Dow and SOX.

Although there had been some minor skirmishes when the headline Chicago PMI was released, easing tensions over the Iran situation and dropping energy prices came to the rescue and helped strengthen the bull's team. Yields had been rising within a consolidation zone, with the short-term five-year note's yield breaking to a level not seen since May 18, but most equity-related indices ignored any implied worry over inflation issues.

Indices had weakened slightly ahead of the release of the FOMC minutes, and that weakening continued afterwards, but the bears couldn't do much damage in that period. The minutes revealed that several FOMC members had commented that inflation was at the upper end of their comfort level. The extent of inflation proved somewhat surprising to committee members, with May's core inflation pressures higher than the members had anticipated.

This meeting appeared to concentrate more on inflation than other meetings, but without any real conclusion being reached. Some commentators characterized the members as being in two different camps, but the expectation among most was still that inflation pressures should moderate. Expected productivity gains should help moderate inflation, some members concluded. Dollar weakness did draw some concern, with that weakness contributing to inflation concerns.

Going into that May 10 meeting, many market participants had hoped for the concluding Fed statement to include a hint of a pause, but those participants had been disappointed. The minutes were gleaned for hint of a pause at the next meeting, and the information was mixed. With what some commentators tagged as "only a slight hint of a pause," the minutes concluded that a 25-basis-point hike was appropriate at the time of the meeting, but both a pause and a 50-basis-point hike were discussed as possibilities for that meeting. Headlines and many traders appeared to concentrate at first on that startling specter of what a 50-basis-point hike would have done to the markets, although a pause had also been discussed. Most of those people sorting through the minutes concluded that there isn't yet a consensus of how many more rate hikes will be needed, if any are.

Bond traders knew what to think. Yields had been rising most of the day, and by shortly after the release of the minutes, they were pricing in a 70 percent chance of a rate hike at the next meeting. The interest-rate-sensitive S&P Banks Index, the BIX, dove immediately to a new low of the day, as did the Dow Jones U.H. Home Construction Index, the DJUSHB. The BIX, at least, managed an end-of-day bounce when other indices did, but the DJUSHB managed only to bounce back above 700, with the bounce not particularly convincing as of yet. The SPX's bounce closed the index back above its 10-sma, but by a suspiciously narrow edge.

Annotated Daily Chart of the SPX:

The failure of the bears to push prices lower after the FOMC minutes were released and the close at the top of the day's range would typically indicate more upside tomorrow morning, but the opposite could have been said at yesterday's close and there was no downside follow through. Don't count on typical expectations being met. Watch our futures' response to overnight action. Those hoping for upside want to see our futures hold steady or even climb if the overnight reaction is negative and for our futures to climb along with overseas bourses if the overnight reaction is positive.

Despite the strong showing today, investors will be reading tonight about the SPX's worse May showing in 22 years. Bulls will be hoping that such statement provide the impetus to trap a few bears tomorrow morning and fuel some short covering.

Annotated Daily Chart of the Dow:

The Nasdaq's action proved even more inconclusive and less bullish than that on other indices.

Annotated Daily Chart of the Nasdaq:

The Nasdaq appears to be forming a rising regression channel that looks suspiciously like a bear flag rising into resistance, with a target likely a retest of the converging 200-sma and -ema's. With the Nasdaq at the bottom of that new channel (not shown) and forming a small-bodied candle today, a rise up through the new channel again should be the next step. However, anyone with a smattering of a technical analysis background can read those signs and the flag could break down at any time. The fact that it didn't today suggests that last week's low should hold if the Nasdaq rolls over tomorrow, but don't bet on that by holding onto a losing bullish play if the Nasdaq does roll down. If in bullish plays and if the Nasdaq does rise, plan ahead of time how you'll treat a retest of the 200-sma, if that should occur.

Annotated Daily of the SOX:

Other economic releases included the 7:00 release of the Mortgage Bankers Association's weekly mortgage application volume survey for the week that ended May 26. Seasonally adjusted, applications fell 0.2 percent week-over-week. The four-week moving average that measures total applications dropped 2.4 percent. Refinancing applications declined a heftier 4.8 percent and also fell as a percentage of total applications. That's perhaps not a surprise, with the average contract interest rate for a fixed-rate thirty-year mortgage rising to 6.66 percent, up from the previous 6.61 percent. The DJUSHB did not participate in the early gains seen on most indices, but that was likely due more to the rising yields and fears about the minutes than to the MBAA release. As noted before, it dropped after the release of the minutes down to test 700 support, closing at 701.68. This index looks due for a bounce, but since April 18, its 10-sma has always provided resistance on daily closes. That average is now at 720.93.

The May Chicago PMI was released at 10:00 EST, with online articles soon proclaiming the rise in the headline number to 61.5 percent the highest since October. Some sources pegged expectations at 56.0-56.2 percent. April's number had been 57.2 percent. The prices-paid component was 76.9 percent versus April's 77.2 percent, however, with this component sapping some of the power of the headline number since it was the number giving the inflation outlook in this particular release. The slight softening on the prices component followed the trend seen in some other PM number released in May. Other components revealed that orders, orders backlog and employment all showed strong gains. Production dropped, however, to 58.2 from the prior 66.6.


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The softening of the prices-paid component, as slim as it might have been, might have kept investors from reacting too strongly to the minutes when they were released later in the day.

In addition to the economic and FOMC minutes releases, geopolitical developments played a part in today's developments. During the morning session, Secretary of State Condoleezza Rice's prepared statement for delivery to the State Department said that "as soon as" Iran stopped its enrichment and reprocessing activities and that action could be verified, the U.S. would join other nations and hold direct talks with Iran. Condoleezza Rice also acknowledged that Iran had the right to a civilian nuclear power program, but not one that would lead to the development of an atomic bomb. The statement appeared to ease tensions and contribute to a cooling of crude prices ahead of tomorrow's OPEC meeting and crude inventories. Crude prices dropped, although the CL06N contract bounced back up to its own 15-minute 100/130-ema's during the afternoon, closing above them at $71.15 barrel.

Company-related news included Costco Wholesale's (COST) one-cent miss when reporting earnings. The company, a Wal-Mart rival, reported net income that rose 12 cents a share, with earnings of 49 cents a share on revenue that rose 11 percent. The company's stock had been volatile Tuesday, with investors reacting to the impending earnings announcement on a day when WMT's disappointing same-store sales had dropped WMT stock. COST's stock dove during the pre-market and early cash sessions, and dove to a new low after the release of the minutes, perhaps more impacted by crude's afternoon rise than those minutes. COST's same-store sales rose 10 percent, with the breakdown showing a 9-percent rise in the U.S. and a 17-percent one internationally. The stock ended the day down 1.17 percent, having bounced off its $52.32 low of the day.

Dell (DELL) announced a number of developments related to its XPS mobile systems. It introduced three new systems. In addition, it has formed a deal with Skype, now a unit of EBay (EBAY), to include Skype's software when it ships new Dell XPS mobile systems. DELL closed up 1.43 percent.

In other tech-related developments, Morgan Stanley added ASML to its Europe portfolio, and J.P. Morgan raised Research In Motion's (RIMM) rating to an overweight one. ASML gained 1.09 percent, but RIMM inched up only 0.13 percent.

Today, Delta Air Line's (DALRQ) pilots approved an agreement to accept an initial 14 percent pay cut and give the company $280 million in concessions each year. If the bankruptcy court approves the agreement, it will go into effect Thursday.

Developments in the biotech and pharmaceutical sectors included the FDA's approval of Novartis Sandoz's (NVS) Omnitrope, a hormone that is used to treat growth disorders. The news was important in the industry because manufacturers such as NVS contend it's a generic biotechnology drug and this development marks a precedent for such drugs. The FDA's statement denied that the drug is a generic biologic. Pfizer Inc. (PFE) manufactures a similar drug, Genotropin. The European Commission approved PFE's version in April. NVS gained 0.12 percent, and PFE, 0.33 percent.

A Wall Street Journal article noted that Merck & Co. (MRK) had made a mistake in a study formerly published in the New England Journal of Medicine. In that article, the company said that it had used the logarithm of time, a statistical variable, when performing a study that led it to conclude that Vioxx increased the risk of heart attack and strokes only when patients took the drug for at least 18 months. The article notes that MRK has built part of its defense on that study, which the company still contends is valid. Others believe that Vioxx's risks aren't related to the length of the time the drug was taken, perhaps weakening the company's case. MRK gained 1.61 percent, finding support at its weekly 100-sma, at least temporarily. On a weekly chart, MRK's pullback looks like a bull flag one, but it hasn't yet broken to the upside and may not.

M&A news also captured the attention of those who could bring themselves to consider anything other than the FOMC minutes. Electric power generator NRG rejected Mirant Corp.'s (MIR) buyout offer. Of the two bidders for its company, miner Falconbridge (FAL) favors that of Inco (N) over that of Xstrata. ADC Telecommunications (ADCT) said it would buy Andrew Corp. (ANDW) at a 30-percent premium to Tuesday's close.

The crude inventories release was delayed until tomorrow due to the holiday-shortened week, with that release scheduled for the usual 10:30 time slot, just a day delayed. Crude may be even more volatile than usual on an inventories day because of tomorrow's OPEC meeting in Venezuela and the ongoing back and forth with Iran.

Economists and industry analysts will be busy tomorrow with a number of economic releases in addition to crude inventories, with the most important of those probably being the May ISM Index. The prior number was 57.3, and expectations are for a decline to 55.7-56.5. Other numbers include initial claims and the revised productivity number for the first quarter, both to be released at 8:30. Productivity is expected to increase to 3.7-3.9 percent, up from the prior 3.2 percent. At 10:00, April's construction spending will be released at the same time as the ISM, with estimates of construction spending varying widely from an increase of 0.1 to 0.6 percent, with the range lower than the prior 0.9 percent. Truck and car sales for May will be released about noon.

As Jim explained this weekend, the ISM should prove to be the most important of these numbers, but economists will also be watching the unit labor cost portion of the productivity and costs numbers. They don't want to see unit labor costs rising faster than hourly earnings as that suggests that inflation costs are being felt. This will be particularly important, perhaps, ahead of Friday's number.

Companies reporting earnings tomorrow include CIEN, DG and HNZ, but earnings season has slowed and is mostly behind us. Now, we have the FOMC minutes behind us, too, with the goal of most market participants now to finalize their positions ahead of the next FOMC meeting. Some have noted that there's generally been a softening of inflation concerns since the last FOMC meeting, but Friday's numbers will be important to assess. Much lightening of positions has taken place already ahead of the release of the minutes. Window undressing may have played a part in this week's decline, too.

If bulls couldn't keep their offensive teams on the field all day, neither could the bears. Since the middle of May, markets have mostly been chopping around, establishing a consolidation zone that is either part of a bottoming process or is the type of consolidation that typically forms about halfway down a decline. So, which is it?

Sorry, but if I knew that, I'd be piling into positions. It looks to me as if the indices are forming choppy rising regression channels or consolidation zones, and I just don't know whether either bulls or bears will have enough strength to break those consolidation zones ahead of Friday's numbers. The failure of bears to regain the offense today suggests that either further consolidation or an actual bounce within the consolidation zones might be the most expected outcome for tomorrow unless tomorrow morning's economic numbers show something surprising or the geopolitical situation heats up again.

Since the 15-minute 100/130-ema's played such an important part in intraday resistance today, I would watch those averages for guidance. If your charting service doesn't provide those averages, they're at 1268.04/1268.41 for the SPX, 11167.90/1173.15 for the Dow, 2183.02/2184.56 for the Nasdaq, 464.23/465.27 for the SOX and 719.36/719.86 for the Russell 2000, with these numbers all as of the close. Short-term bulls want to see indices push above and remain above those averages, but don't take such action as an invitation to hold overnight ahead of Friday's numbers if you've got some profit and are of a conservative leaning. We've seen several rallies lately in which the indices pushed above these averages for a day as oversold pressures were relieved, only to crater beneath them again the next day.

The late-day drive pushed both the SPX and the Russell 2000 above those averages, so bulls want those two to maintain those averages on any pullbacks. Don't trust any rally that doesn't include the BIX. Its 15-minute 100/130-ema's are currently at 377.07 and 377.11.

Markets are jittery right now, and while indices are within the newly established consolidation patterns, technical analysis is rendered almost useless and guesswork presides. The formations show that neither bulls nor bears have the strength to prevail, but that balance could change at any time and without advance warning. Rising yields on treasuries proved somewhat disturbing. Keep stops tight.

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