Option Investor
Market Wrap

Relief Rally

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The lack of any repeat event on 9/11 removed all the worry weighing on the market over the last week. Economics remained Fed friendly and Fedspeak was neutral. Oil continued its plunge extending its losing streak to seven days removing another concern for stocks. Strong earnings reports from Goldman Sachs and Best Buy and an upgrade for the chip sector produced big gains for many issues. All in all it was a strong day for equities as the indexes returned to the top of their recent range.

Dow Chart - Daily

Nasdaq Chart - Daily

The morning started off with the announcement of a record trade deficit of -$68.0 billion for July. This was $3.2 billion more than the prior month. Exports fell by -$1.2B and imports increased by +$1.9B. Much of the increased deficit was attributable to the record price of crude in July at $78.80 and our need to import 20+ million bbls per day for a total of -$20.8 billion in July.

Two employment surveys showed employment was slowing but still in growth mode. The Manpower Outlook Survey showed that employers in all 26 countries surveyed expected to add workers in Q4. Net employment in the US was pegged at a net 20% of those surveyed. 28% of US employers surveyed planned to add jobs while only 8% planned on reducing staff. 58% planned no changes. The Job Opening and Labor Turnover Survey showed the number of job openings fell to 3.8 million in July and hiring rose slightly to 4.95 million from 4.9 million. The hiring rate rose to +3.7%. Separations fell to 4.4 million from 4.6 million. Both of these reports show stable employment with only slight weakness and right along the lines of what the Fed is expecting. These reports are both Fed positive and should improve the odds of another Fed rate pass at the Sept 20th meeting.

TTech stocks roared today with the Nasdaq tacking on +42 points for nearly a +2% gain. The SOX led the gains with a +17 point jump to a new three-month high for a +3.76% gain for the day. The semi jump came on the back of a Credit Suisse upgrade to overweight for the sector. AMAT, LRCX and KLAC were specifically mentioned by Credit Suisse saying that memory spending will remain stronger and longer than most investors expect. Credit Suisse raised targets on AMAT to $20 and LRCX to $49. Credit Suisse said the majority of memory in current use is ageing quickly and will need to be replaced to keep pace with new applications, faster processors and improvements in games and video. AMD was also upgraded by Lehman, which added more fuel to the semiconductor rally.

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Dell announced a new six-year deal with EMC extending their $100 billion deal into 2011. Dell is reeling from news that the SEC probe into Dell's accounting practices had expanded bringing other agencies into the fray. Meanwhile Michael Dell came out swinging in defense of CEO Kevin Rollins saying any speculation that he would be fired was useless. He said he and Kevin ran the company together and any complaints should be focused at him as well. Dell continued its rebound from Monday's $20.52 low to close at $21.88.

Apple held its new products show today unveiling new products and new prices. Ipod prices were reduced to $239 for the 30gb Nano and $349 for the 90gb model. New Ipods were introduced with larger screens for easier viewing of downloaded movies now available from Apple. The company announced movies available for download from all Disney studios. They also announced a wireless receiver for televisions to enable viewing of movies downloaded not only on Apple equipment but any PC platform. They also announced downloaded games for $4.99 to be played on the new Ipod models.

With techs highlighted from several angles the Nasdaq overcame last week's resistance at 2205 to close at a new three month high of 2214. The Nasdaq was not the only beneficiary of good news. Goldman Sachs reported earnings of $3.26 for last quarter and beat the street by +26 cents and released some strong guidance. The stock shot up +$7.29 or +5% and according to most analysts there is more to come. Despite a very slow summer at most firms Goldman was able to post strong earnings and with better conditions expected for Q3/Q4 those earnings are expected to increase. Goldman trades at a PE of 8.5 and well under other firms in the sector. I would be a buyer of GS on any pullback.

Best Buy also reported earnings that beat the street and jumped +22% over the prior quarter. BBY said customers are spending big bucks on flat screen TVs and average ticket prices were rising steadily. They expected that trend to continue with gasoline prices imploding. They said online sales jumped +35%. The company said the best part of the year was still ahead with 60% of their business done between now and year end. BBY said prices for HD flat panels were dropping sharply and that was energizing buyers and providing strong margins as well. BBY jumped +4.37 or +9% for the day.

CDW said average daily sales spiked +7.5% in August to $26.964 million per day. Categories seeing the strongest sales growth were Notebook CPUs, software, printers, video, memory and input devices. CDWC jumped +2.60 or +4% on the day.

While techs had a great day there were some problems in the market. After the close Merck took a blow after a study covering 500,000 patients was released. It was shown that problems related to the COX 2 inhibitors were much worse with Vioxx than other drugs. The study also showed that Pfizers Celebrex in commonly used doses did not increase those risks and in some cases even decreases those risks. The study showed that Vioxx was associated with increased renal and arrhythmia risks while those risks were NOT associated with other COX 2 inhibitors. Dr David Graham said in an editorial associated with the study that the risks from Vioxx started with the first dose rather than after prolonged usage as previously thought. He said there is no immunity from risk with Vioxx. MRK had gained +86 cents on the day to $42.16 but fell as low as $40.60 in after hours. Pfizer gained slightly after the close as the report was being disseminated.

CChart of October Crude - Daily

The biggest problem for the day was the -$1.85 drop in oil prices to $63.75. This drop was very positive for the broader market due to the implied drop ahead for gasoline and diesel prices and the relief for corporations and consumers alike saddled with wallet stealing energy prices. This was the seventh consecutive day of losses for crude with the price back at 5-month lows. Stocks in the sector fell to new lows with wholesale dumping very evident. Helping to push crude prices lower were dual reports from both the IEA and EIA cutting projected oil demand by -100,000 bpd for the rest of 2006 and 2007. Those numbers change monthly so the drop was not material for those knowledgeable about the EIA/IEA forecasts and their inaccuracies. However, the numbers were being repeated multiple times per hour as gospel on the various stock TV channels. Other factors pushing expectations lower were comments from BP suggesting they could be back to full production of 400,000 bpd from Prudhoe by the end of October. There have been no hurricanes in the Gulf despite dire predictions earlier in the year. Tropical storm Gordon is following in the footsteps of Florence and will not be a factor. Also adding to the drop in prices was a sudden change in official attitude by Iran. They seem to be suddenly agreeable to a halt in enrichment and that takes the Iran card off the table for several more weeks as they exhaust this new stalling tactic. One analyst suggested they are probably at a critical point in the process where they are waiting on additional equipment and technology and have decided to use the temporary pause as a ploy with the UN.

The combination of reasons piling up in favor of lower oil prices has brought the bears out of the woodwork. Those saying $65 would be a likely bottom for this correction are now saying $58 is the new target. OPEC made a point of saying they would act if prices continued to decline. $60 was mentioned by several OPEC members as an unofficial support level. They may get their chance to act sooner than they expected. Oil inventories will be reported tomorrow and there is expected to be a sharp decline in inventory levels. Platts is predicting a drop of -1.9 million bbls, JP Morgan -2.0mb, TFS -2.7mb. The current levels are +6% above the same time last year. Should inventory levels come in stronger than those numbers above we could see another round of selling. There is also the impact of the expiration of October futures next week. Anyone long the current October contract is looking at a bleak forecast for the next week. I would be bailing too! Nothing has changed in the long-term outlook for oil. The current cycle is the result of the warmest winter on record, a complete lack of hurricanes and the decrease in geopolitical tensions. With gasoline prices falling sharply we will see demand increase. We are seeing some moderation of growth worldwide despite positive GDP growth in 29 countries. In every growth cycle there are surges and lulls in the demand of crude. This is a lull but unless all the auto manufacturers around the globe close their doors tomorrow and the birth rates falls suddenly to zero the demand will surge again over the coming months. Goldman Sachs reaffirmed their prediction that oil will average $75 for Q4. That is a significant jump from our present level. I sure hope they are right. We are buying this dip in the LEAPS Trader on selected issues using 2009 LEAPS.

Another factor in the drop in oil prices is the current dumping of commodities in general. Gold has fallen to $593 and well off its $732 high earlier this year. Metals prices are falling as well as natural gas, coal and construction materials. This is all a symptom of slowing growth, rising inventory levels and a profit taking cycle. Funds all wanted to show how smart they were by being invested in the hot commodity sector over the last couple years. Now that there may be a period of slowing growth they are dumping commodities to focus on tech stocks, healthcare and drugs. If you remember a lot of the demand for commodities and construction materials inside the US was due to Katrina rebuilding. Now that this process is well underway there is less immediate demand with remaining projects spread out over the next few years once bureaucratic hurdles are eliminated. With homebuilders retreating the demand for cement, copper, carpet, appliances, etc, is slowing. This is a cyclical event and not a long-term decline but it is affecting prices for stocks today.

Dow Transport Chart - 60 min

Semiconductor Chart - Daily

The post 9/11 rally took us back to the recent highs and the bulls are coming out of the woodwork about as quickly as the oil bears. Abby Joseph Cohen took to the airwaves to predict S&P 1400 by year end. She was pounding the table again on various sectors and predicting the Fed would remain on the sidelines. Whenever Abby speaks you can be sure there is a correction ahead. All we need now to really jinx this rally is for Ralph Acompora to make an appearance and another Dow 14000 prediction.

The Dow closed at 11498 and very close to the high for the day. I should also mention that the closer we get to the May high of 11642 the more traders will start worrying about a double top failure leading into a typical Sep/Oct correction. Remember, corrections don't need a reason to exist. Some exist simply because funds want to lock in profits and reshuffle portfolios for the coming year. Since we already had a pretty sharp correction in May we may dodge that Sep/Oct bullet but we can't tell for sure until November begins. With the strong earnings this week it suggests the Q3 earnings cycle will be strong and that would do wonders for pushing us higher. We are approaching the Q3 warning period and a lack of material warnings could give us some advance notice of the true Q3 expectations. Meanwhile the Dow has support at 11325 and resistance at 11650.

The next hurdle for the Nasdaq is 2220. This was the resistance high back in August-05, support in December now turned into resistance and resistance from early June of this year. 2223 is also the 200-day average. If the SOX continues to new highs this 2220-2223 level should not be a problem. The Russell also contributed to the Nasdaq gain with a strong sprint from 700 on Monday to 724 at today's close. The Russell has resistance from 727-742. If fund managers have decided there is not going to be a typical Q3 dip then those levels may only be speed bumps.

The S&P came to rest at 1313 and only -2 points from the early September high at 1315. This is the last material resistance before the May highs at 1325. This is still the indicator we need to watch. We had a nice dip to 1291 on Monday and a scorching rally into today's close. If you followed my recommendations to buy a dip to 1290 then you should be a happy camper tonight. Those recommendations still stand. We want to maintain a bullish bias over 1290 in hopes of a breakout over 1325 and a skipping of the normal Q3 dip. If that dip does appear we will go flat/short under 1290. So far this tactic has produced several nice gains since mid August.

SPX Chart - Daily

Wynn Odds Table

Tonight is the season premier of ABC's Dancing With the Stars. Since most of my readers are middle age and above we can probably relate to the shows popularity. It has been a runaway hit with ABC and spawned many copycat clones. The talent scouts charged with acquiring celebrity talent willing to abuse their bodies and make fools of themselves in front of 30 million viewers have produced a wide range of dance fodder for this season. Steve Wynn's Las Vegas Casino has even ranked each contestants odds of winning. If you grow tired of the stock market there is always another betting opportunity somewhere. The politicians have already gotten into the act with Republicans being asked to support Sara Evans while conservatives are spamming for support of Tucker Carlson. Texans are ready to smile and dial for former Cowboy Emmitt Smith and there are probably a few talk show groupies hoping Jerry Springer will turn it into a body slamming X rated free for all complete with body guards. Together the group has a tough task ahead to measure up to last seasons star performers. That pretty well echoes my feelings for the current crop of winners in the market. They have a tough task ahead to measure up to last year's winners from the housing and energy sectors. But, as we know nothing lasts forever. Winners will come and go in the market and it is our job not to bet on past winners just because they "should" return to their former glory. Every season in the market as in TV should be seen for what it is, a chance for new stars to make the big time. While we wait for those stars to break out from the crowd continue to remain long over 1290 and short/flat below that level. Remember Friday's CPI report could either confirm the potential for another Fed pass on the 20th or put them right back in play if the inflation indicator spikes again. The frequency of reports increases daily through Friday so there will be plenty of economic chatter. Don't let it confuse the issue. Keep your eye on SPX 1290 and not on the chatter.
 

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