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Market Wrap

Setting a Bad Example

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Tech gains were slated to be the john Philip Sousa's of the trading world today, pumping up investor enthusiasm for equities. However, the Nikkei 225 and other Asian bourses set a bad example last night. The Nikkei hit a new recent high in the first few minutes of trading then tumbled throughout the session. The index closed almost 200 points below that high, well into negative territory, but its loss was less damaging than those seen on the Shanghai Composite and Straits Times, which suffered greater percentage losses.

Why It Pays to Watch Foreign Bourses, Too:

Where was the investor enthusiasm for equities in the tech-rich Asian bourses? Although Nasdaq futures were above fair value as the U.S. cash open approached this morning, ES and YM futures and European bourses hesitated. The battle scene was set, and the John Philip Sousa marches were strangely quiet.

Introduction

Unfortunately for equity bulls who bought yesterday's breakout, our indices followed that example set by the Nikkei. Although investors in the tech-related indices proved valiant in their attempts to haul those indices and others higher, investors in some of the TRAN's components began abandoning their posts as soon as the shooting started. The small caps represented by the Russell 2000 index were hit by the spike in bond yields, a spike that continued after an afternoon auction produced little interest in bonds, either.

Since yields move in opposition to bond prices, that weak bond auction sent yields even higher, and those small caps prove more interest-rate sensitive than many sectors. Investors in big-cap stocks sometimes rescue the day when small- and mid-caps start swooning, but some recent commentary mentions disappointment with the early results of this earnings season. The percentage of reporting companies beating expectations appears to be below normal for this time in the reporting season.

Just like on the Nikkei 225, the early highs would prove to be intraday highs on most U.S. indices.

Charts

Yesterday, the SPX rose up to challenge a rising trendline that I've had on my charts for a while. To see why that trendline is important, read my Trader's Corner article from this weekend's edition of the newsletter, with the topic being the corrective fan principle mentioned by Martin Pring in at least one of his tomes on technical analysis. As the corrective fan principle predicted, that trendline's resistance did hold.

However, I wanted to show another formation today, the rising channel that's been forming since the SPX broke above the long-term red trendline on the chart below. To make that formation more visible, I deleted the trendline mentioned in the previous paragraph, at least for tonight's Wrap. While this new formation has been setting up, the RSI has been setting up into its own formation, so the two should be watched in conjunction with each other.

Annotated Daily Chart of the SPX:

The SPX ended the day on channel and 30-sma support. It was a bad day, a bearish day, but if you scan across that newest price channel on the SPX, you can find other instances when price action looked as dismal as it did today, dropping the SPX to the bottom of the channel. The comparisons urge us not to draw too many conclusions, especially since the RSI has not confirmed by a breakout in either direction, either.

I don't think I'd be tempted to jump in long with the RSI still having some distance to go before it touches its months-long support level, but I'm just not ready to draw any conclusions yet when there aren't any to be drawn. The SPX's failure to climb above the midline of its rising channel hints at increasing weakness, even while the SPX climbs, but how many ways and by how many writers have you heard weakness predicted? It's predicted, and this may be the time that prediction comes true, but no confirmation yet exists.

I wouldn't be surprised to see a punch lower toward the 50-sma. Some chart patterns on various charts other than this one suggest that possibility while others suggest a more minimal drop to about 1,418.50 or even a steadying at the closing level. If that drop to the 50-sma should happen, I would protect short-term bearish gains in case a bounce-attempt ensues and really gets going. Keep your perspective and realize that the SPX is still just rattling around inside this formation, even if it's rattling around with a little more violence.

If the SPX heads down first thing tomorrow morning, breaking through today's low, watch for first bounce potential at about 1,418-1,418.50. If the SPX heads up first thing tomorrow morning and gets past 1,425.30-1,425.50 on the first 15-minute close, the bounce might get ensnarled in resistance around 1429-1430.50, so watch for first resistance at that level.

The Dow also ended the day at the bottom of a formation, but the Dow's formation looks more like a rising wedge than a rising channel with parallel lines.

Annotated Daily Chart of the Dow:

Some charts suggest that the Dow is likely to eventually tumble toward the 12,380-12,385 zone, while others show it steadying on 30-minute closes at support that's now at about 12,492-12,495. If that zone is broken by a strong push lower first thing tomorrow morning, look for first potential support near 12,435-12,437, protecting any profits on bearish positions entered near today's highs. If the Dow should bounce first thing tomorrow morning, resistance might be found near 12,521-12,522, but would likely be stronger near 12,541-12,549.

On the Nasdaq's chart, I've substituted the rust-colored 50-ema for the pink 50-sma seen on the previous charts. Sometimes, particularly with tech-related indices, the -ema's play a more important part than the -sma's. That appears to be true of the Nasdaq with this average, at least over recent months.

Annotated Daily Chart of the Nasdaq:

Some intraday charts suggest that the Nasdaq could drop toward 2,418-2,419 tomorrow, but another suggested that it closed the day clinging to potential support on thirty-minute closes near 2,431.30. If that support holds and prompts a bounce, nearest resistance is at 2,440-2,441, but then is layered at about 2,448, 2,456.50 and 2,461.50. If the Nasdaq does drop into 2,418-2,419 support tomorrow, protect any short-term bearish profits in case a tech-induced rally ensues.

As soon as the cash market opened today, the SOX bulls broke prices above a well-formed bottoming inverse head-and-shoulders, seen on its 15-minute chart. The upside target of that formation was met on the first 30-minute candle of the day, with prices quickly reversing after that candle. By midday, the SOX had already dipped below its opening value. It didn't stop there, but the descent did slow as the SOX dropped back into the neckline area of that inverse head-and-shoulders.

My famous last words about the SOX Wednesday before last, that it was showing some weakness but might not move much the next day proved wrong, wrong, wrong, so I might have lost credence when talking about the SOX. Here goes anyway.

Annotated Daily Chart of the SOX:

The body of today's candle remained within the tightly climbing formation, rising off the January low, so it roughly preserves the formation. Today's action can't be seen as anything other than a confirmation of resistance, however. For months, the SOX has failed to confirm weakness, with the SOX breaking out the price channel from which it rose off summer lows much sooner than other indices, but then churning sideways for a long while. It's confounded me a time or two, and last week was one of those times, when I expected a bit more consolidation before a drop.

Symmetry on this chart suggest that the SOX could continue churning again, this time beneath resistance, but now that the resistance has been confirmed, we should at least see another test of the January low. The daily Keltner chart suggests that test will occur, too. Intraday charts show potential support just beneath the SOX, at about 455-455.20, but if that fails, watch for next support between 449.50-451.50 and then at 447.

If the SOX bounces instead from that support shown on at least one intraday chart, resistance is layered all the way up to 463-463.50, where it thickens and should withstand all but the strongest push.

Like the other indices, the Russell 2000's daily chart reveals a formation with firm boundaries that can be watched.

Annotated Daily Chart of the RUT:

If the RUT heads lower tomorrow morning, remember that the 50-ema has been providing some support on daily closes while the 72-ema has been providing support on intraday lows. If prices should punch to the 72-ema, short-term bearish profits should be protected in case a bounce ensues, and short-term bears should be alert to bounce potential at the 50-ema, too.

The RUT was trying to bounce at the close, but resistance might prove fairly strong at 786.40-787.20 if that bounce should continue tomorrow morning. Resistance is layered lower, too, especially at about 785.20 on 30-minute closes, but longs should be watchful for rollover potential if the 786.40-787.20 zone is hit, especially if internals do not support long positions.

There's not always a moment-by-moment inverse relationship of the RUT to bond yields, but rising bond yields can exert particular pressure on this index. This Wrap is going to be long anyway, so I can't include too many charts, but the ten-year yield popped above and closed above its 200-sma today, the first time that has happened since August. Some chart characteristics suggest that ten-year yields will pull back, perhaps even rather deeply to about 4.67-4.72 percent, but I'm not betting on that yet. They could easily be parked at this resistance ahead of next week's FOMC meeting, and they may churn near that 200-sma until next week. Consolidation near today's high will likely continue the pressure on the interest-rate sensitive stocks such as those represented by the RUT.

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Today's Developments

At 8:30, the Labor Department released Initial Claims for the week ending January 19. New claims numbered 325,000, a rise of 36,000 from the previous week's new claims. This rise rated as the biggest one-week increase in more than a year. Economists had expected a rise in new claims but a more moderate one of 20,000.

New claims often increase this time of year as workers are laid off after the holiday season, some experts caution, and this number was rebounding from its lowest level in almost a year. These comparisons and cautions point to the difficulty in relying too heavily on these week-to-week numbers as they aren't adjusted for seasonal patterns.

Recent economic reports show tightening labor markets in some regions, somewhat refuting the implications of this larger-than-expected rise in new claims. The four-week moving average for this number still inches higher, too. Some evidence of the effect on the housing sector's decline on this number appeared in the components, with higher layoffs seen in the construction industry in some states, too.

Released a little later in the day, December's US Help-Wanted Advertising Index moved to 33 from the prior 29.00. The year-over-year change was a 23.68-percent drop.

The National Association of Realtors released the much-anticipated December Existing Home Sales. Those sales dropped 0.8 percent to 6.22 million. When compared to the previous December, sales dropped 7.9 percent, with the full year's figures 8.4 percent lower than 2005's. However, the association pointed out that inventories dropped heavily, falling 7.9 percent to 3.51 million. While the inventories still represent a 6.8-month supply, the association affirms that the sharp drop brings the inventory-to-sales ratio to its smallest figure since early summer. In addition, median sales prices rose 1.1 percent in 2006. As a result of the declining inventory-to-sales ratio and the rise in median sales prices, the chief economist for the NAR dared to affirm, "It appears we have established a bottom," although he does predict a 2-percent decline in 2007 and continued weakness in new-home construction.

The headlines reporting Beazer Homes' (BZH) earnings took a different slant, however, proclaiming that the "housing recovery [was] not yet in sight." The company's president and chief executive stated that the company did not see signs of a sustainable recovery as yet.

BZH's home closings and orders for new homes both plunged. The company posted a loss of $1.54 a share. If adjusted to exclude charges for inventory impairments and the land-option contracts it dumped, the company says it would have produced a net income of $0.41 a share. Cancellation rates rose to 43 percent for the quarter, much higher than the year-ago level, but down sharply from the previous quarter's 57 percent. The company said full-year earnings for fiscal 2007 should be $1.25-1.50, which appear to be lower than First Call estimates.

Who should be believed, the realtors' economist or the builder's president and chief executive? Investors made their choice, abandoning many of the components of the DJUSHB, the Dow Jones Home Construction Index, and sending it back to support. This index was one of the downside leaders today.

The government released its figures on natural-gas inventories at 10:30. Those inventories dropped 179 billion cubic feet, the government said. This was roughly in line with the decline of 181 billion cubic feet FIMAT reportedly expected, but other reports termed the drawdown "unexpected." Prompted by colder weather the last week and probably by some resultant short-covering by those short the contract, natural gas futures had risen by Tuesday into a retest of its 72-ema, the average that had knocked it back in late December. Tuesday's test resulted in a pullback, too, a pullback that worsened after today's inventories number. Some industry watchers mentioned the anticipated warmer weather after we get past the first week of February as one reason for the pullback, and some speculated about the impact of hedge funds and private-equity banks in the commodities markets. However, the 72-ema test looks to me to have been one in which at least a stalling if not an actual pullback to support could have been anticipated for technical reasons, at least.

The crude contract is another that appears to be sensitive to the 72-ema on the daily chart, having fallen back after testing it twice in December. However, the crude contract currently lags the natural-gas one with respect to this moving average, as the crude contract did not follow the natural-gas contract up to the 72-ema this week. That's at just under $61.50 currently, with crude ending the day at $54.30, down from yesterday's $55.37 close. These figures are according to DTNIQ, my feed source.

Subscribers may remember that yesterday, ConocoPhillips' chief executive affirmed that his company had been asked to cut back output in some OPEC countries. Many have been skeptical that OPEC member countries would comply with production cuts, but this chief exec's comments gave more credence to OPEC's avowed intention to cut production. However, crude has far to go to prove any strength, and its current rebound off January's low is still a choppy rise that lead many to wonder if it might be a bear-flag rise into resistance. When viewing crude's chart with regard to technical considerations, I always keep in mind, however, that crude is a commodity that's susceptible to both hedge-fund moves and geopolitical ones, either of which can override the technical considerations seen on the chart.

Merrill Lynch had something to say about companies in the energy sector today. The firm raised both Peabody Energy (BTU) and Consol Energy (CNX) to buy ratings, but BTU and BJ Services (BJS) guided expectations lower this week. Both closed lower today.

At 11:00 the Federal Reserve Bank of Kansas City released its manufacturing survey for the district that encompasses Colorado, Kansas, Nebraska, Oklahoma, Wyoming, northern New Mexico and western Missouri. Although this district's survey isn't as influential or market moving as some of the others, some of its points might be salient. Manufacturing activity eased again in January in this survey, although the activity was described as being generally solid. This time, this district employed some new seasonal adjustment factors, making it difficult to make comparisons in some cases. The bad news in this survey was the increase in all price indices in the survey, including the finished-goods index, coupled with production deceleration. This drove the year-over-year production index to a three-year low. The report clarifies, however, that although the price indices all increased, they still remain lower than "previous levels over the past few years."

Ford (F) participated in the companies reporting today, with F reporting a record loss. For the quarter, analysts had forecast a loss of $1.01 a share on sales of $34.67 billion. The company reported a loss of $1.10 a share, excluding special items, on sales of $40.3 billion. Special charges included those involved in restructuring the North American operations. With those special items included, the loss was $3.05 a share. The year-ago quarter had produced a profit of $0.15 a share. The auto manufacturer's loss for the year was almost $13 billion. F eked out a minor gain and also a close above its 10-sma, the average along which it had been bouncing since December.

AT&T (T) also reported today, with the company saying that it had produced record gains in the wireless business. Excluding merger-related and other costs, T said earnings were $0.61 a share, above expectations of $0.59 a share. The company said that its savings from the BellSouth merger would be much higher than originally anticipated and that the merger should also produce modestly higher income growth this year. The company expects that 2007's overall revenue will show growth when adjusted for the acquisition. Investors sent the stock higher, but its candle wasn't bullish, either, and it may need to consolidate the breakout gains made this week.

Although it's a Finnish company, Nokia's (NOK) earnings report helped eBay investors buoy pre-market enthusiasm for tech stocks. NOK beat EPS and sales expectations and improved its margins, despite a lower average selling price for its handsets. Another telecom-related company, Qualcomm (QCOM) saw profits rise five percent. QCOM also reiterated full-year 2007 guidance. QCOM ended the day lower while NOK and EBAY both gained, but none had bullish candles. NOK and EBAY may have some consolidation ahead of them, even if those gains are to be sustained.

The big after-hours report today was Microsoft (MSFT), with early commentary crowing about the numbers, although some conceded that guidance might not be what some investors and analysts had hoped to see. MSFT reported EPS (earnings per share) of $0.26, with consensus having been $0.23. Revenue was $12.5 billion with just under $12.1 billion the expected figure.

What had commentators so excited, however, was the deferred revenue figure, a measure of how MSFT might do in the future. That was $1.76 billion, soundly beating all estimates, with highest prediction somewhere near $1.5 billion. Deferring that revenue resulted in a 25 percent drop in sales for this quarter, with a 5 percent drop in Office. MSFT had earlier warned that it would defer Windows and Office revenue to the current quarter to account for coupons that allowed those who had recently purchased computers to upgrade to Vista and Office software.

For the full-year, the company said to expect $1.45 to $1.47 a share, with expectations currently near $1.45. For the current quarter, the company believes earnings will be $0.45-0.46 a share with revenue at $13.7-14.0 billion. Analysts had expected $0.46 and $14 billion, so the quarter's guidance might not be particularly cheery.

One commentator noted that this will be a transition quarter as the company rolls out new products. He further noted that MSFT under promises and over delivers with its guidance, and so he wasn't worried about the guidance disappointing. We'll see tomorrow if investors agree. As this report was typed, MSFT traded at $30.89 in after-hours trade after closing at $30.45 in regular hours. That $30.89 was down from the after-hour highs.

Tomorrow's Economic and Earnings Releases

Tomorrow's economic releases begin with December's Durable Goods number, released by the Census Bureau at 8:30. Since market watchers look to this number--comprised of orders, shipments and unfilled orders--as a leading indicator of manufacturing activity, this number can sometimes move the markets. Expectations are for a 1.6-percent increase, on top of the prior 1.9-percent one, but experienced market watchers know that changes in big-ticket items such as aircraft and defense orders can distort the headline number.

Experienced market watchers will be looking at the various components, too. What market-watchers want is a number that's strong enough to ward off too much weakness in manufacturing while not so strong as to bring on the rate-hike hawks. Watch bond yields as a gauge for how bond traders interpret the number, at least. Remember that the bond market opens ahead of the cash-market equity open, so you can watch TNX, for example, just after the Durable Goods number is released.

At 10:00, December's New Home Sales will be released. With the housing market much in the news this week with various analysts and builders commenting on the health of the industry, this might gain some attention. Today some blamed the Existing Home Sales figure for the markets' trajectories, but then how do they account for the Nikkei's performance? Still, this can be an important and much-watched report.

The ECRI Weekly Leading Index follows at 10:30.

Companies reporting earnings tomorrow include CAT, CDWC, HON, CHRT and KBR.

What about Tomorrow?

Remembering that the FOMC meets next week, it's easy to imagine that today was about positioning ahead of that meeting as well as positioning ahead of Microsoft's after-hours earnings announcement. In an earnings season in which fewer-than-normal companies are beating expectations, investors likely wanted to lock in profits ahead of this heavyweight's report. The drops were relentless, not allowing new longs to exit, trapping them, and all this occurred on decent but not excessive volume, so we don't have evidence that this was a selling crescendo in which all sellers sold all they wanted to sell. Some will be evaluating tonight, deciding what to do.

That suggests that there could be some follow-through, but none of the charts we've seen above yet predict the eventual direction indices will take. With the exception of the SOX, they're all within their established formations with their respective RSI within theirs, too. Scanning back across those formations show other times in recent months when prices have tumbled pell-mell down to the supporting trendline without the formations being violated.

They will be someday and those who favor directional trades will again be happy while those of us who favor spreads will be the ones gritting our teeth.

I wouldn't be surprised to see the SPX eventually test its 72-ema again, with that average now just under 1400, or maybe even retest the support of a long-term rising trendline now at about 1380. However, for tomorrow, I would protect any short-term bearish positions you might have entered at today's high at the 50-sma, if tested. The possibility of a doji-type day tomorrow exists, but on the SPX and all other indices, you now have well-defined trendlines and, mostly well-defined RSI trendlines, for corroboration.

Trade the breakouts if you trade breakout plays, but do so with stops that will take you out if you're proven wrong. This is not a time for trading without account-appropriate stops since a fake-out move could lead to a quick reversal that traps you in a play. You're facing another risk, too: it's common for indices to tread water ahead of the FOMC meeting and decision. It's possible that we'll see some piercing of support or resistance levels over the next few days followed by a tight-range consolidation that keeps prices right at resistance or right at support, right into that meeting, with your option premium deteriorating the whole time. This time, also contemplate where your stop should be if based on how much loss you can endure in your option's price if there's no movement of the underlying.

My best guess is that if Durable Goods shows something that raises fear of rate hikes in our future, markets might retreat to firmer support, so that we might see follow-through tomorrow morning. If those fears aren't raised, that might not happen and a bounce attempt might ensue. Whether a bounce or a decline starts the day, however, the 10:00 release of the New Home Sales might turn things around again. That makes for a perfect set up for a choppy or maybe doji-type day, one in which only the most accomplished scalpers benefit. It all depends on the data tomorrow and how that data impacts rate-hike and recession fears, and those aren't numbers I can predict tonight. Know where you'll enter, know whether you'll hold over the 10:00 release of New Home Sales, and now the conditions under which you'll hold an under-performing play, much less a losing one, especially over the weekend.
 

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