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Market Wrap

Majors Mixed Despite Shanghai's Resurgence

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After a bullish June Triple Witching trade, the major indexes started the week out flat despite the continued resurgence in China as the mainland's Shanghai Composite ($SSEC) reclaimed the 4,250 level by jumping 120 points, or 2.92% 4,253, helping ease fears of a rapid global economic slowdown.

After a bullish reaction to last week's Beige Book report from the Federal Reserve, and tame inflation readings at both core PPI and CPI levels, Treasuries stabilized with the benchmark 10-year bond finding some buying. The 10-year Treasury yield ($TNX.X) fell 2.9 basis points to 5.142%. Last week, the benchmark bond rose above the current fed funds target rate of 5.25%.

On Monday, the longest-dated 30-year Yield ($TYX.X) fell 1.1 basis points at 5.252% having risen to 5.408% on Wednesday (06/13/07) morning, just prior to the U.S. retail sales and import price reports.

While stocks traded mixed in the U.S., major European bourses also found a mixed session of trade, but have recouped the bulk of their June 4-8 declines after the European Central Bank raised rates 25 basis point to 4.00% on June 6th.

Major Global Markets and Currencies

On the currency front, the Euro/Yen cross rate finds the euro recouping its June 4-11 benchmark decline against the yen, and European bourses have mirrored the rebound. Germany's DAX edged up 5-points, or +0.07% on Monday to close at an all-time high of 8,036 having pulled back to 7,550 support on June 8th.

The Shanghai Composite's 15.32% rebound over the last two weeks has now erased its early June's decline, and with just two weeks left in the quarter, the Shanghai Composite holds a 25.47% quarter-to-date gain. The Shanghai Composite ($SSEC) jumped 120-points, or 2.92% on Monday to 4,253, while Hong Kong's Hang Seng ($HSI) gained 565, or +2.69% to 21,582.

Shares of Baidu.com (NASDAQ:BIDU) $149.05 +4.17% are nearing their IPO debut high of $153.98 from August 8, 2005 and after gapping higher from the $109 level on 4/27/07 on a stronger-than-expected earnings report, refuse to give up its rising 21-day SMA ($137.41) and there's still some room to their point and figure chart bullish vertical count of $203.00.

U.S. Market Watch - 06/18/07 Close

In last Monday's Market Wrap I thought the regional banks as depicted by the S&P Banks Index ($BIX.X) would be a "key sector/index" for traders and investors to keep an eye on, and explained the fundamental dynamics (positive and negative) that could come from higher Treasury yields.

Not much has changed there, but the BIX.X is getting nearer the 405 level of key resistance, rising 4.26 points, or +1.06% from last Monday's close.

The 10-year yield ($TNX.X) did see early trade this morning at last Monday's closing yield of 5.137%, and in this afternoon's OptionInvestor.com Market Monitor, I noted that we probably saw some technical selling in the benchmark bond as it then backfilled its 6/11-6/12 gap higher in YIELD, or gap lower in PRICE.

As crazy as this may sound to an intermediate-term to longer-term equity bull that is considering a NEW bullish entry point for a major index, or adding back on to a 50% bullish stance above SPY $150.86 and its 05/11/07 doji close, I think that type of equity bull really wants to see one more "push higher" in Treasury yield, say 5.40% on the 10-year Treasury Yield ($TYX.X), and THEN the type of reversal witnessed on June 13th, just to make sure the sellers have been washed out.

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Energy prices were also mixed, but July Crude Oil (cl07n), which settled up $1.09, or +1.60% at $69.09, looks set to test the $70/bbl.

Oil's close settlement above $69.00 was a nine-month high. Traders cited news that Nigerian oil unions called a general nationwide strike to begin Wednesday in protest of a government price hike on automobile fuel further oil's rise after last week's turmoil in the Middle East.

Analysts said the news out of Nigeria was prompting large funds to buy energy futures, driving prices higher. But analysts are skeptical that the unions will follow through and actually strike.

"These Nigerian labor unions threaten to go on strike all the time, and then settle at the last minute," said Phil Flynn, an analyst at Alaron Trading Corp. in Chicago.

July Natural Gas (ng07n) settled down $0.2280, or -2.80% at $7.69, giving back about 1/3 of its post-EIA weekly storage report from Thursday. A forecast for cooler temperatures across much of the U.S. helped cap recent gains at the $8.00 level.

One area of the energy futures I see as looking particularly bullish into the end of year is the heating oil complex. On Wednesday, I noted that U.S. stockpiles of heating oil (Distillate >500 PPM Sulfer) is down 33.28%, or 15.69 million barrels from this time last year. With refineries still having some maintenance and repair difficulties during the peak driving season, and focusing their efforts on trying to meet demand for unleaded, the continued draws in heating oil build to levels that by this winter, may become problematic (in the form of higher prices) for consumers in regions that rely more heavily on heating oil to heat their homes.

December Heating Oil (ho07z) settled $2.12 today. On Wednesday, just after the EIA weekly inventory report, this contract was trading $2.04.

I think other traders also sense/observer some supply constraints for heating oil this winter.

Homebuilders as depicted by the Dow Jones Home Construction Index ($DJUSHB) 587.78 -1.06% were weak today after the National Association of Home Builders (NAHB) said its index of builder confidence declined two (2) more points in June, to 28 from May's reading of 30. Economists were looking for a reading of 29.

June's 28 reading is at the lowest level in its current down cycle and has reached the lowest point since February 1991.

The NAHB's President and home builder from El Segundo, CA, Brian Catalde said, "Builders continue to report serious impacts of tighter lending standards on current home sales as well as cancellations, and they continue to trim prices and offer a variety of nonprice incentives to work down sizeable inventory positions.

"It's clear that the crisis in the subprime sector has prompted tighter lending standards in much of the mortgage market, and interest rates on prime-quality home mortgages have moved up considerably during the past month along with long-term Treasury rates," added NAHB Chief Economist David Seiders.

A look inside the NAHB's figures showed all three component indexes declining in June. The index gauging current single-family sales slipped two (2) points to 29, the index gauging sales expectations for the next six months fell two (2) points to 39, while the index gauging traffic of prospective buyers fell one (1) point to 21.

Three out of four regions posted declines in June. After falling six (6) points in May, the Northeast recorded a three-point (3) gain to 35. The Midwest posted a three-point (3) decline to 19, the South posted a one-point (1) decline to 32 and the West posted a five-point (5) decline to 27.

M&A Activity on Monday

After months of speculation, Genesco (NYSE:GCO) $53.75 +8.36% said it had agreed to be acquired by specialty retailer Finish Line (NASDAQ:FINL) $11.53 -8.70% for $1.5 billion. The deal values Genesco's shares at $54.50. Genesco rejected Foot Locker's (NYSE: FL) $21.37 +1.08% April 23rd $1.2 billion takeover bid of $46/share.

Dow component Alcoa (NYSE:AA) $41.88 +0.67% added $0.28/share, but finished off its intra-day and multi-year high of $42.90 after The Times in London reported that BHP Billiton (NYSE:BHP) $58.60 +1.26%, the world's largest mining company, has revived plans for a $40 billion takeover of Alcoa.

After the Close

While China's Baidu.com was finding buyers on Monday, shares of Yahoo! Inc. (NASDAQ:YHOO) $28.12 +2.96% added to regular session gains in this evening's extended session to $29.45 (+4.72% from close) after the company said Terry Semel will step down as chief executive and would be replaced by co-founder Jerry Yang. Sue Decker, head of advertising and publishing and formerly CFO, has been promoted to president. Some analysts speculate the "shakeup" is in response to Yahoo's poor earnings and share price performance relative to its Internet search rival Google (NASDAQ:GOOG) $515.20 +1.84%.

As of the most recently reported quarter, Google made more money in a single quarter than Yahoo! did for an entire year.

Is the Russell Reconstitution weakness over?

The small caps of the Russell 2000 Index ($RUT.X) 846.28 -0.22% digested an impressive rebound from last Tuesday's low and test of an institutional computer support level of 820 (MONTHLY S1), and while I (Jeff Bailey) was obviously disappointed in how the RUT.X responded to my BULLISH analysis headed into this year's annual reconstitution (when Russell announces additions and deletions to the broadest Russell 3000) from late May/early June, I and other traders/investors asked an important question.

"Why?"

"Why is the Russell 2000 trading weak into its reconstitution, if we're supposed to be bullish?"

"Why aren't the new 52-week lows building in the Russell 2000 like we see in the NYSE, even though the RUT.X/IWM trades week as if the bottom should be falling out?"

iShares Russell 2000 (AMEX:IWM) - 60-minute intervals

For the following commentary and analysis, I feel it important to review some of my observations going INTO the annual Russell reconstitution, for it is the past observations, the then "incorrect" analysis, the "adjustment" and the correct analysis that made of a rather nice BULLISH gain that I think will bring traders and investors up to speed on just what took place, and perhaps give insight into the sessions ahead.

In late May, I and perhaps other OptionInvestor.com Market Monitor subscribers were holding IWM July $83 Calls and after seeing price RISE had written both COVERED June 85 and NAKED June $86 calls respectively on May 31 and June 5 as the IWM rose to $84 and then $85.00. While both of those trades amounted to marginal gain, it is what took place from there, that I feel important for traders to grasp as it relates to this year's reconstitution.

What if I gave you a list of stocks that were going to be DELETED from and existing index on a SPECIFIC date, and you were a fund manager that managed an index that was to mirror the Russell 3000, Russell 2000 and Russell 1000 indexes?

Heck, even if you were NOT a fund manager trying to benchmark your fund to these indexes, you might think ... "those that are going to be deleted, will likely find SELLING once the list of DELETIONS are made public knowledge!"

And that's probably where the MARKET outsmarted my VERY BULLISH analysis on 06/05/07 as the iShares Russell 2000 (AMEX:IWM) closed at $84.29.

The MARKET was thinking ahead, and I was observing a very "bullish" UpTick versus DownTick advance/decline line for the IWM where UpTicks (buy induced trades) outnumbered DownTicks (sell induced trades) by a 7.4 to 2.0 margin!

Imagine my surprise the morning of 06/06/07 when the IWM "gapped lower" from $84.29.

That's when the first question of "Why is it doing that?" was most likely asked.

By June 7th, the IWM was lower still, now testing UPWARD TREND and the institutionally derived MONTHLY Pivot of $82.95.

It's "got to hold here!" I thought to myself.

But it wasn't until last Monday evening, late in the evening, after Russell formally announced the additions and DELETIONS to its indexes, that a light bulb turned on in my head.

That evening, the IWM closed $82.85.

Could the answer to "Why?" have been that SMART money market participants figured out that the DELETIONS of EXISTING components for tolled the WEAKNESS into the announcement? And perhaps into the CLOSE of trading on 06/12/07?

The "light bulb" that eventually lit up in my head was perhaps similar to what I've noted at the end of a TAX year, when investors make decisions on what LOOSING investments to SELL in order to take a tax LOSS to offset their GAINS for the calendar year.

But in order to LOCK IN THAT LOSS, the trader/investor must do so at least three days PRIOR to the end of the year. For U.S. traders/investors, a STOCK sale/purchase does not SETTLE in your account until 3-days AFTER the trade is made.

On June 12, a Russell component that was being DELETED from any of the Russell indexes had to be sold on, or before that day!

Right at MONTHLY S1 (support 1) of $81.45. The IWM closed $81.57 that day.

Once that "artificial selling" as I would call it was completed, the IWM begins its bounce.

On June 13, having "seen the light," I profiled additional CALL option positions for the IWM July $83 Calls, adding to those held prior to June 1 as my conviction for the analysis looked to come to fruition.

After the continued "bounce" into Friday morning's trade, I did think we should PAY ourselves for the bullish stance, or convictions from 06/13/07, and scaled back on the position, selling a portion (3 of the 4 calls).

Once conclusion, or analysis I might suggest traders and investors be open to, is that with Russell reconstitution nearing its end, they perhaps review the schedule and possible "dynamics" of what have taken place, before they begin making some broad economic statements on just what the Russell indexes are saying about the economy.

My INCORRECT analysis from 06/05/07 and "re-think" of the actual logistics of the NEGATIVE impact of DELETING existing Russell components, actually provided a WINNING bullish trade setup, once the adjustment was made.

Those stocks being ADDED at this point, are moving on their own, and have not yet been added, thus I don't give quite as much focus, but if the MARKET was thinking "sell" in advance of the DELETIONS, then market participants may also have a bullish bias into final reconstitution. However, I would now have to think that those stocks being added will likely be FRONT-RUN by bulls in anticipation of the reconstitution, where FINAL reconstitution takes place at the June 22nd CLOSE. A MONTHLY R1 (resistance 1) of $85.77 would be nice!

In my mind, I would think the current "bull run" that is underway for the IWM, may well see a near-term gain into the June 22nd close.

For those that are interested in the knowing more about the Russell reconstitution for year 2007, you can visit the Russell website at this
http://www.russell.com/indexes/membership/US/Reconstitution/reconstitution_central.asp?wt.mc_ID=HomeBodyrecon#Section0

Then take some notes. I'm already looking forward to NEXT YEAR's reconstitution, and hopefully applying some of the lessons, observations made from the last couple of week's action!
 

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