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Market Wrap

Never A Dull Moment

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It seems like the Halloween spirits lingered all week and tried to think of things to complicate the markets for traders. Economics are all over the map and expectations for future rate cuts/hikes change dramatically almost daily. The confusion has caused the Dow to lose traction with Friday's loss the 6th consecutive day of losses. Earnings have been great but recent guidance has been less than exciting. What is a trader to do?

Dow Chart - 60 min

Nasdaq Chart - 180 min

Friday morning started off with yet another economic shock. The jobs report for October showed a gain of +92,000 jobs and well below the consensus estimate of +133,000. By itself that would have been market neutral but there was a significant revision to the prior two months. August was revised up from +188,000 to +230,000 or +42,000 jobs. September was revised up from +51,000 to +148,000 or a gain of +97,000 jobs. The total revision for both months was a whopping +139,000 jobs or the equivalent of an entire month of additional jobs. You may remember just a month ago we saw a monster benchmark revision of +880,000 jobs covering the past year ending in March. That means the Bureau of Labor Statistics missed their estimates by more than a million jobs over the last year. Friday's revision only four days before the election brought sharp criticism from many sources that it was electioneering. Commerce Secretary, Carlos Gutierrez, was grilled on CNBC as to why they could not count correctly and he did not have a satisfactory answer. Bonds took a sharp drop as the interview progressed.

The markets sprinted higher on the jobs news thinking the economy was stronger than expected but then imploded once the bond market began to factor in the Fed impact. The +139,000 revision was a game changer for the Fed. The unemployment rate fell to 4.4% and a five-year low while wages rose at a +4% annual rate. The bond market imploded and ten-year note yields jumped to 4.71% almost instantly. We were talking about the rising chances for a rate cut in the March/May time frame as late as Thursday. Now some analysts feel we are facing another rate hike as early as March. The Fed was fading and are now likely to come back with a vengeance. It was not just the employment report but there was also a gain of +437,000 jobs in the Household survey. With jobs surging so strongly it appears the economy is far from last week's crash landing scenario or even the prior week's soft landing and is possibly headed for no landing at all. Confused? Join the crowd. The current pace of job creation is actually the rate for an economy growing at full potential. The October economic reports had all shown slowing growth but the jobs show increasing activity. That suggests the October economics were just a blip rather than the beginning of a dive. One side of this scenario is wrong but we won't know which until December. We need another full month of economics and the November jobs report to see which indicator is right.

To further complicate the picture the ISM Non-Manufacturing Index jumped sharply to 57.1 from 52.9 and well over the consensus estimate of 54.8. The service sector appears to be growing sharply while the regular ISM reported on Wednesday showed a drop in manufacturing activity to 51.2% and well under consensus for a gain to 53.1. Economists are running in circles trying to decide exactly what is happening. The key here will be the Fed and their next meeting is not until Dec-13th. There will be plenty of economic data between now and then and the outlook for rates is sure to change over and over again if the current weekly reversals continue. If we start to see some stronger economic reports from the various Fed regions you can bet the outlook for the Fed will turn even more hawkish. Personally I would rather have an economy running at +5% and higher rates ahead. It is a lot more pleasant than facing a recession as many were predicting last week. Earlier in the week Fed funds futures had reached a 56% chance of a rate cut in March. That fell to 16% by Thursday and only a 2% chance by Friday's close. Analysts are now saying any further bullish news would push the Fed right back into hike mode. Anthony Chan with JP Morgan does not expect a cut now until Q4-2007 and said this would continue to push the housing sector lower.

10-Year Note Yield Chart - 30 min

Wal-Mart fired a third salvo at the retail sector with news they were lowering prices on nearly 100 electronic items well in advance of the holiday season. Wal-Mart already cut prices on 100 top selling toys and is in the process of cutting prices on more than 200 generic drugs to $4 each. Wal-Mart issued a statement saying they were reinforcing their price leadership position in areas of toys and electronics. They claim they are already seeing a significant lift in volume from the toy cut several weeks ago. It appears they need to cut some more after they warned that October sales at +0.5% were lower than expected. Regardless, Best Buy and Circuit City both lost ground on Friday as investors priced in lower sales and lower margins. Prices cuts from Wal-Mart included things like a Panasonic 42-inch HD Plasma TV slashed to $1,294 from $1,794. LCD HDTVs were cut from $1,297 to $997. Another -50% cut or so and I could actually justify buying a couple.

Whole Foods Market (WFMI) got a -23% haircut to $46 after warning that sales are likely to suffer from increased competition. This was in addition to a -$4 drop before earnings on Thursday. WFMI said sales would likely drop to +6% to +8% in 2007. That is down from +13.6% in 2006. Maybe they should not build stores only 2 miles apart. Looks like they are competing with themselves as well as the other grocers.


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Electronic Arts (ERTS) jumped +12% after reporting strong earnings on a sharp jump in revenue to $784 million from $657 million in the comparison quarter. ERTS posted earnings of +21 cents per share compared to analyst's estimates for only +2 cents. They also raised guidance for the full year ending in March 2007 to just over $3 billion. Jeetil Patel, an analyst with Deutsche Bank, agreed that the quarter is "impressive" but noted there are "bearish themes" looming and reiterated his sell rating. He feels the Madden 07 and NCAA 07 games will run their course and increased competition from other games targeted for the PS2 transition will reduce market share. He feels the PS2/PS3 transition will be three times bigger than the Xbox transition. Patel is not alone in his view but he is definitely in the minority. Several other brokers are expecting further sharp jumps in revenue for 2007. ERTS has strong resistance from $60-$62 so further gains could be difficult without some profit taking to build a base at this level.

Caterpillar (CAT) gave an investor presentation on Friday and while they still expect weakness in the housing sector in 2007 they are raising estimates slightly for 2007. This came just a couple weeks after they shocked the market with a warning for the same period. They also said demand for heavy duty engines would fall by -45% and -25% for mid-range engines due to the new emission standards for 2007. They claim dealers have stockpiled the old engines to avoid the higher prices and 2007 rules. CAT said they expected revenue to grow to $50 billion by 2010 compared to estimates of $41 billion in 2006 and $43 billion in 2007. First Call was targeting $39.41B and $41.23B for those respective periods. Unfortunately investors were not listening to the stronger forecast or possibly not believing it and CAT closed fractionally lower.

Dell was upgraded by Goldman Sachs to neutral from sell on Thursday and ramped to $25. It was unable to hold that level and fell on estimates of low PC sales for the holidays. Intel was downgraded to neutral by Merrill and upgraded to a buy by Bank America. Intel lost ground on Friday as it detailed its plans to cut 6,900 employees over the next six months. Research firm Current Analysis, which tracks weekly PC sales, estimates consumers will hold off buying high-end PCs until after Vista is released. I have discussed that in these pages at length over the last several weeks. Current Analysis said prices on PCs are dropping sharply and predicted 70% of notebooks sold this holiday season would be under $1000 compared to 58% in 2005 and 38% in 2004. They feel only the low end, low margin computers will sell this season with high end computers being delayed until late Q1. That could pressure profits from Dell, HPQ and chip companies feeding the PC supply chain. The number two contract laptop maker, Compal Electronics, said component shortages especially batteries would limit output. Dell is offering free Vista upgrades but analysts claim there are few takers. The PC news pressured the computer stocks with losses across the board.

Red Robin (RRGB) lost -$12 or -26%, to $34 after posting profits that were lower than expected and slashed its guidance. LeapFrog (LF) fell -16% after posting disappointing earnings and taking the unusual tactic of blaming "management decision making" for the decline. CSC fell -7% after missing estimates and delaying a filing until it reviews its stock option practices.

Berkshire Hathaway posted earnings of $1,797 per share or $2.77 billion, more than quadrupling the $381 per share earned in Q3 last year. BRK.a shares closed at $105,010 per share on Friday. Revenue rose +24% to $25.36 billion. While Berkshire is not in the S&P the earnings for Q3 are shaping up to be spectacular. With 394 of the S&P 500 already reported the earnings are coming in at +18% and exceeding Thomson First Call estimates by +6.4%. 74% have beat the estimates, 10% reported inline and 16% missed the estimates. Tech profits were up a meager +9% with financials leading the charge with a +34% gain. Another weak sector was consumer discretionary with only +10% growth. According to Zachs Investment Research this is the closest to a sure bet you can find that 2007 will not see a recession. Recessions don't occur when companies are beating estimates so handily. Zachs expects earnings of +12.7% in 2007.

Oil ticked higher on Friday lifted for various reasons. There was a bomb scare at the 400,000 bpd BP refinery in Whiting Indiana. Personnel were pulled out of non-critical areas but nothing ever happened. The US Embassy in Nigeria warned that there was an imminent danger of 10-20 coordinated bombings against land based oil targets over the next several days. Nigeria is the 5th largest OPEC exporter and the 6th largest importer into the US. Their oil is the light sweet crude in high demand for gasoline. Iran also ratcheted up tensions after firing dozens of missiles including three new antiship missiles and missiles with a range of more than 1200 miles. This was part of a military exercise warning the US that any Persian Gulf pressure by the US would be met with strong force. Admiral Sardar Fadavi of the Iranian Revolutionary Guards warned the US saying, "Our enemies should keep their hostility out of the Persian Gulf. They should not initiate any move that would make the region tense." The US had just completed joint exercises with other Gulf nations that ended on Monday. Both countries are posturing for an eventual conflict. Maybe Iran does not realize that every missile firing give the US even more data as to capabilities, guidance, jamming, range and technical specifications of Iran's new missiles. That will make it easier to defend against them when the conflict finally arrives. Condoleezza Rice said "the Iranians are trying to demonstrate they are tough. They are trying to say to the world, you are not going to keep us from getting a nuclear weapon. The world has to say to them, yes we will." Iran expert Andrew Hess said Iran was also sending a message to other countries in the area to avoid taking sides with the US. The UN Security Council is expected to produce a new draft of sanctions against Iran next week. Russia has finally caved in and said they would support stronger measures next week but it remains to be seen just how much stronger.

The much stronger than expected jobs numbers, +668,000 including revisions and household employment, also convinced traders that there would be no slacking of oil demand from a soft landing economy. Oil prices rallied +1.26 but only closed at $59.15 after a week of testing new lows. $58 remains support and after a successful test this week I think we may have seen a bottom. Oil stocks continue to rise despite the declines in oil indicating investors are continuing to buy the dips.

December Crude Oil Chart - Daily

December Gold Chart - Daily

Gold prices broke over $615 this week on what analysts called both a technical and fundamental breakout. The conflicting economic numbers and fear of rising inflation from the stronger than expected jobs was given as reasons. There were also geopolitical concerns heightened by the high profile Iranian missile tests and public warnings by Iranian officials. OPEC was also seen as a buyer as the dollar continued to fall. OPEC countries typically use gold as a hedge against currency fluctuations. The United Arab Emirates actually announced they were diversifying out of dollars and into gold and other currencies. This pressured the dollar with the dollar index nearing a two month low. Since oil is priced in dollars a falling dollar causes the price of oil to rise.

Orbcomm Corp, (ORBC) a new satellite radio company, began trading their newly IPOed shares on Friday and it was positively ugly. Not since the Vonage IPO have we seen such a fiasco. The IPO priced at $11 and actually traded there for about 60 seconds before collapsing to end the day at $7.75, -$3.25 or -30% below its IPO price. On Thursday ORBC cut the size, 11.15 million shares to 9.23 million and the price from $12-$14 to $11 due to lack of demand. That should have been a strong clue to run for the exits. ORBC filed bankruptcy under its prior name of Orbcomm Global in 2000. The company was purchased by investors a year later and restructured. They have a fleet of low-orbit satellites used by the government and companies in the trucking, aviation and heavy equipment business to track mobile equipment and monitor assets in remote areas. UBS, Morgan Stanley, Banc America and Cowen and Company were the underwriters. This performance resulted in a black eye for everyone. Another satellite company named Globalstar Inc. (GSAT) also went public on Thursday at $17 per share and promptly dropped to $16.40 on Friday. Globalstar filed bankruptcy in 2002. It was originally the product of Loral Space and Qualcomm. Two years after the bankruptcy, Thermo Capital Partners LLP bought a principal stake and reorganized the company leading to the IPO last week. Globalstar owns a constellation of 40 Low Earth Orbiting (LEO) satellites that cover 80% of the globe supplying voice and data services to businesses and governments worldwide. Globalstar is using the entire proceeds from its IPO to fund the launch of a second-generation satellite system and related upgrades.

For next week there are no material economic reports. Last week was the economic building blocks, ECI, PMI, ISM, Productivity and Jobs and next week's reports are simply mortar to fill in the cracks. Last weeks reports will be cussed and discussed for weeks to come with the next material report being the PPI on the 14th. I would expect the election to be the churning factor for the week. The election trades will need to be unwound or even reversed depending on how the control of the house and senate turn out. Gridlock would be a good thing for the market and that is the current outlook. If the Democrats take control of both houses we could see some additional churning as funds modify their holdings to reflect their view of the next two years.

Economic Calendar

The Dow closed under 12000 for the first time since Oct-18th but it was only by -14 points. The Dow has fallen for six straight sessions and that has not happened since June 2005. However, since its high close at 12160 those six sessions have only accounted for -174 points or an average of -29 points per day. This is hardly a crash. The bullish internals are still intact and 11950 is decent support. Unless something new pops up we should spend Monday and Tuesday above that level. The next real support is 11800 but without a change in the internals it could be a slow decline. I believe the weeklong drift lower was simply profit taking ahead of major economics and the election next week. It was fear of the unknown rather than a strong urge to sell.

The Nasdaq is a different story. It was hammered on Wednesday by a major end of day sell program on it and the Russell-2000. It was driven below support at 2330 at the close but the dip was quickly bought the following morning. After holding over that support all day on Thursday it was hammered again by a sell program on Friday morning. That dip was again bought quickly and it closed back over 2330 but that was two days with two strong penetrations. I fear the Nasdaq may have suffered some lasting damage. Traders may want to test the next support level at 2290 before being willing to invest any large amount of money. Techs have been hit with bad news almost every day last week and there is no reason to expect that trend to change. It is a Vista lacking holiday and the Nasdaq may not be able to recover to new highs while dragging that anchor. The SOX has returned to critical support at 445 and is on life support. A break of 445 could see a strong drop. The Russell-2000, a strong supporter of any Nasdaq gains, broke critical support on Wednesday and failed to recover on Thr/Fri although it was showing signs of life. If the Nasdaq continues to slip the support from these indexes could evaporate.

The NYSE Composite ($NYA) has declined to initial support at 8700 and it also showed no inclination to bounce. The NYSE Composite is made up of 2,020 stocks with a total market cap approaching $20 trillion. Financials represent 26% of the index with oil and gas the next biggest component at 12.5%. The largest market cap company is $423 billion and the smallest is $13.2 million. Because of its breadth and diversity it is widely watched as an indicator of the health of the broader market. The Russell-2000 is watched as a leading indicator of fund investing trends and the NYSE Comp is watched as an indicator of general market health. On Friday the internals on the NYSE were still positive with 121 new highs and only 20 new lows. Decliners at 1721 beat advancers of 1448 but only barely. There was no real weakness there. The Russell-2000 internals were even better with advancers beating decliners 993 to 617 and a +2.60 positive close. Again, no real weakness in the Russell. So to recap, neither index is showing any weakness but the NYSE is not yet showing a rebound spark. I think the bulls are still alive and well and just passing time until next Wednesday.

Russell 2000 Chart - 120 min

NYSE Composite Chart - 180 min

SPX Chart - 180 min

The S&P-500 is our indicator of choice for making trading decisions. We are in short/flat mode since the S&P broke below 1373 on Wednesday. The SPX settled right on initial support at 1363 on Thursday morning and has made no material effort to rebound. The next support level is 1350. If I was just watching the S&P I would be worried at its lack of strength. Decliners were 2:1 over advancers and new highs fell to only 16 from the +60 levels we saw last week. With 394 companies already reported the majority remaining are the weaker stragglers. There is little news left to produce any earnings buzz to lift the index. That leaves us in a quandary. Do we stick with the plan and wait for a dip closer to 1350 to buy or change the plan and anticipate a rebound based on the NYSE/Russell and SPX uptrend support at 1360? I think we stick it out. The techs are still weak enough to be a drag and Cisco does not report until next Wednesday. I think we should stick with the plan and wait for something in the 1350-1355 range. I am expanding it because I think the bulls will be eager to buy the dip at the 1350 level and will probably jump in early. Since the best laid plans of mice and men usually go astray we need to have a backup plan. If we rally out of the gate on Monday I would look to go long over 1370 but only on a sustained gain. A simple opening spike could be another opportunity to get short/flat. If we do go lower and break under 1350 I would revert back to short/flat again. I believe any dip to the 1350 range will be bought and I would buy it as well but with a careful eye on the internals to watch for a breakdown. The stock TV stations are going to be completely focused on the election and little market info will make it through the election cloud. That could provide a lack of incentive to trade no incentive for the bulls to charge higher.

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