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Market Wrap

Triple Digit Expiration

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The Dow only gained +44 points on Friday but it traded in a triple digit range every day last week. In fact you have to go back to June 23rd to find a day where the Dow did not trade in a triple digit range. The volatility has been extreme but for the last week there was no direction. The only real trend in the markets is the strength in the Russell and Nasdaq. I highlighted them in the graphic above as the only major indexes with four consecutive weeks of gains.

Wilshire 5000 Composite Chart - Daily

Friday had a heavy calendar of economic reports but they were all the equivalent of a mailbox full of junk mail. None had any real importance for the market. The NY Empire State Manufacturing moved back into positive territory for the first time in four weeks. The headline number was an anemic +2.8 but still the highest reading since January. That is a good sign regardless of size of the gain. The prior month was -4.9 making that a +7.7 point gain. However, shipments turned fractionally negative at -0.9 from +13.5 in July. New orders also turned negative at -2.2 from +8.3 in July. There was still plenty of weakness in the internals so I would not expect the headline trend to improve much.

July Industrial Production rose a better than expected +0.2%. Capacity utilization rose to 79.9% and the highest level in four months. Manufacturing production rose +0.4% and mining +0.9% but utilities fell -1.9% dragging the headline number lower. The cooler weather in many parts of the country was responsible for the utility decline. Business equipment production rose +0.8% and the fastest rate of growth since September. Computer and peripheral equipment rose +0.6% and just slightly slower than the +0.7% in June. Despite the gains overall production is still running at recessionary levels.

Friday's Economic Reports Table

August Consumer Sentiment rose for the second month to 61.7 but remains very weak. The current conditions component fell from 73.1 to 69.3 and only 2 points above the June low. The six-month expectations rose to 56.8 from 53.5. Lower gasoline prices provided a burst of improved spirits but the trend quickly faded. This suggests the back to school shopping season is going to continue to be dreary for retailers. Remember, the June low of 56.4 was the lowest level since 1980 and clearly indicates a recession mindset for consumers.

Consumer Sentiment Chart

Internet E-Commerce Sales rose to $34.6 billion in Q2 and the highest level ever. After Q1 sales went nearly dormant at $33.6 this was a solid improvement. E-tailers report that fear of identity theft is growing and concerns over the safety of online shopping are slowing sales. We have seen some very good phishing emails lately that were nearly indistinguishable from real E-tailer advertising complete with authentic looking websites. This makes it even more important that you don't open any unsolicited emails even if they claim to be from major sites like Ebay or Amazon. If you do open them NEVER click on any link. Go to the website by typing the name of the store in your browser. Consider using PayPal as your online payment plan. Retailers never get your credit card info from PayPal and PayPal will not fund scammers. PayPal also has a feature where they can assign a single use MasterCard number to an online purchase for merchants that don't take PayPal directly. I use my Bank America Visa account the same way with single use numbers available on the BAC website.

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On a side note CNN was the victim of a clever phishing program over the last two weeks. Unsolicited mails started appearing with random news headlines. The emails claimed to be from your CNN alert settings. To change your settings or unsubscribe from future alerts click the link below. Of course everyone was hostile at the new spam source and immediately clicked on the link to unsubscribe. The link took you to a page where you had to re-register to access your settings if you could not remember your password. Since it was a bogus site there was no password to remember and everyone had to reregister to obtain their forgotten password. A person filling in their email, name, address and info to get a new password to gain access to their settings just gave the phishers everything they needed to impersonate your identity. The website was very convincing and proved the scammers are getting smarter every day. Within a week a copycat phishing scheme appeared for MSNBC.com. Remember, NEVER click on an unsolicited email link.

CNN Phishing Email

Next week's economic calendar is almost as bland as last week with only the PPI and Philly Fed Survey as highlights. The PPI is expected to show a decline in prices/inflation due mostly to the decline in energy prices. The higher dollar has also pushed commodity prices lower so producer costs over the next 90 days should decline. This week's report may be too early in the cycle for a major dip in prices but it is coming.

The Philly Fed Survey is expected to continue in negative territory but the last three months have seen a minor gain to -16.3 from April's low of -24.9. The improvement is expected to continue but only slightly.

Economic Calendar

The US Dollar continued its monster run to close at 77.18 on the dollar index. The rebound in the U.S. GDP and the perception that the worst is over for the U.S. has been responsible for the move. Oil and commodities in general have been crushed by the dollar rebound. There is also a growing perception that Europe and Asia are accelerating into the economic weakness while the U.S. is slowly recovering. That makes the dollar the investment vehicle of choice rather than the Euro. Over the last two weeks the dollar got another boost from the Russian attack in Georgia. Every time a conflict erupts overseas investors flee those currencies to the safety of the dollar. To the extent that U.S. inflation is slowing that also helps the dollar. The key is going to be that strong resistance at 77.75 on the dollar index. Many analysts expect that to be the end of the current rally followed by weeks of consolidation if not outright decline. That would resurrect the commodity sectors for a brief rebound while the dollar rested prior to its next move.

U.S. Dollar Index Chart

While I am on the topic of a potential halt to the dollar's rise I am going to diverge into gold for a paragraph. I heard two interviews this week on the potential for a rebound in gold. I always listen to the gold bugs with a partially deaf ear because they tend to always believe another $100 move is just around the corner. Both of these guys sounded reasonable and credible. The talking points were potential profit taking in the dollar, a continued growth in global demand, growing economic weakness overseas, the seasonal fall buying cycle and gold at strong support levels. I will be the first to tell you I am not a fan of trading gold. The moves never seem to pan out as the "experts" predict and they always have a hundred reasons why it did not happen. Now that I have painted myself into a corner I will tell you I tended to believe them this week. I must be getting soft in my old age. They actually made a reasonable case for getting long so I am going to test that next week. I would also warn that Goldman recommended selling gold this week as the end of the inflation trade. If inflation is going to decline then there is a good chance gold will as well. Fortunately the chart gives us a clear entry and exit setup. Long over $76 and short a break under $75. That gives us a trade regardless of direction. We don't really care which way it goes just as long as it picks a direction and sticks with it.

Chart of GLD - Weekly

The tech sector and the small caps continue to lead the markets higher. One of the reasons for the tech rally is the growing demand for chips. International Data Corp announced on Friday that worldwide chip shipments grew +3.1% in the second quarter from the first quarter and +16 increase from Q2-07. Analysts credited the strong demand for notebooks and a very aggressive push by Intel in PC chips. Analyst Shane Rau said Intel's processor shipments drove the growth with a 4.3% growth in processors for the quarter and 20.8% year over year. He also said aggressive pricing by Intel in the middle to lower end of the market led market revenue to decline -4.5% sequentially. Intel accounted for more than 80% of the processor market.

The two companies going counter to the trend are Texas Instruments (TXN) and SanDisk (SNDK). TXN has seen its market share erode as Nokia started using multiple vendors for their chips rather than just TXN. SanDisk is tanking because of an extreme glut of flash memory chips. When you can buy 8GB USB flash drives for under $10 you know there is a glut on the market. Hopefully the new flash memory replacement drives for laptops will divert some of that manufacturing capacity away from things like storage cards for cameras and USB flash drives. The low or even negative margin in some of those markets is already doing a job on the marginal producers.

The SOX is butting its head on the 200-day and as you can see by this chart the 200-day rules the SOX. This is a picture perfect example of respect for the 200.

Retail sales for July declined by -0.1% despite the tax rebates, $4 gasoline and $180 billion in aircraft orders. This has led to a list of earnings misses by several big name retailers. Abercrombie and Fitch said profits and sales fell in Q2 and warned that sales would be below analyst estimates for the rest of the year. Where stores like American Eagle and Aeropostale have been focusing on sales to boost revenue and reduce inventories ANF said on Friday the company is taking a longer term view. CEO Mike Jefferies said, "We do not compete on price or promotion regardless of macroeconomic conditions. We will not sacrifice our inventory investment and growth plan for short term results." I guess that is why there were no shoppers in my local ANF store last week. I was at the mall again on Friday and walked by to see if conditions had changed. The mall was packed but there were only two shoppers in ANF. Abercrombie expects same store sales to drop -7% in the fall quarter. I guess if they want to remain stuck on themselves while the rest of the retailers fight for their market share that is their prerogative. That is probably why their stock has fallen from $86 to $50.

Abercrombie Chart - Daily

SunPower (SPWR) shares spiked +14 on Friday after announcing a purchase by PG&E of 800 megawatts of Sunpower and OptiSolar. The company said that was enough energy to power 239,000 homes each year. SunPower also said it was equivalent to a years production by SunPower. The two plants when completed will generate more energy than all the PV solar-electric systems panels installed in the U.S. in 2007. That was 473 megawatts. Privately held OptiSolar will complete their 550-megawatt Topaz Solar Farm project in 2011 and SunPower will deliver their 250-megawatt project to PG&E in 2010. Both are contingent on the renewal of the expiring tax credit by congress.

Wachovia Bank (WB) joined the crowd and announced a settlement on the auction rate security issue. They agreed to buy back $8.5 billion in ARS and pay $50 million in fines. Wachovia is the 5th bank to agree to settle. The others were Citi, UBS, MS and JPM. Merrill is under fire and NY AG Andrew Cuomo said he sent a letter to Merrill notifying them he will sue Merrill next week if they don't settle. Merrill expressed surprise that it received a letter saying they thought talks were continuing. Evidently Merrill was not reading the AG as well as they thought. Late Friday the AG office said they were broadening the probe to include Fidelity and Schwab as sellers of the debt and 25 other companies. I feel a Spitzer clone maturing here.

September Crude Futures Chart - Daily

Oil prices fell to $111.34 intraday on expiration pressures. September crude options expired this week and crude futures expire next Wednesday. Short covering at the close pushed prices back to $113.77. Late Friday tropical storm Fay formed in the Caribbean and is tracking South of Cuba with an expected turn north to move up the western coast of Florida. As long as this track holds it will poise no danger to the gulf oil patch. However, not all forecasters are in agreement with this prediction. Several were posting diverging opinions that Fay could continue westward after passing Cuba and turn north right through the middle of the oil patch and possibly hit New Orleans again. It is not surprising some traders decided to close short positions over the weekend.

Track of Tropical Storm Fay

August option expiration went off without any surprises with most high profile stocks pinned to their critical strikes just like the market makers wanted. This kept the Nasdaq pinned to 2450 and the markets in check for the last two days. Volume on Friday was the lightest since the day before July 4th at 6.7 billion shares. The markets ended the week mixed but with the uptrend still intact.

The Dow moved over the resistance lows from Jan/Mar but then fell back to support on Wednesday. Position squaring into expiration put the Dow right back at prior resistance at 11650. Just based on the Dow chart I would be borderline bearish given its reactivity to the financials. However, with the recent flurry of ARS settlements there are quite a few analysts thinking we are suddenly closer to a bottom in the financials than previously thought. If the financials could break out of their current doldrums the Dow and S&P would have a chance. Since the Dow is not the leader of this rebound we need to concentrate more on the techs for market direction rather than the Dow.

Dow Chart - 120 min

XLF Chart - Daily

S&P-500 Chart - 120 Min

The Nasdaq remains comfortably over support at 2350 by +100 points. Now that August options have expired there will not be any artificial support or resistance by the market makers trying to pin prices at specific strikes. The next major stepping stone for tech stocks will be Hewlett-Packard's earnings on Tuesday. HPQ may not be a Nasdaq stock but their earnings guidance will definitely provide direction for techs. The Nasdaq has risen to long-term downtrend resistance at 2450 but the shorter-term chart looks much more bullish. The Nasdaq has rebounded +13% from the July lows with most of the acceleration in the prior week. I believe it was consolidation from those gains and the OpEx that held it a 2450 last week. Note on the 30-min chart how the Nasdaq used prior resistance as support on Friday.

Nasdaq Chart - Daily

Nasdaq Chart - 30 min

The Russell is the hero of the group with a +6% gain for August. The Russell touched June's resistance high on Friday before sliding back on OpEx congestion. The Russell has been rallying on the strength of tech and the strong dollar. I know that sounds crazy but historically the small caps do well when the dollar is rising. The Russell needs to move over that June high at 763 to attract new buyers. The next hurdle will be 800 and the December resistance high. Initial support has risen to 740.

Russell 2000 Chart - Daily

For next week the support levels to watch would be Nasdaq 2400 as light support and 2350 as solid support. I would be surprised to see 2400 break unless HPQ severely disappoints. The support levels on the Russell would be 740 followed by 720. I would look to buy dips to 2350/720 but hope support at 2400/740 holds. The corresponding levels on the Dow and S&P are much more vague and I recommend ignoring those indexes to focus on the Nasdaq/Russell as the leaders for market direction. We are approaching a critical period for the market as we head towards September. So far there has been no indications of a normal third quarter dip but in reality the market hardly ever telegraphs its plan to crash. With the auction rate security problem being addressed you would think the market would see that as a positive. However, you never know when a major landmine is going to be touched. I doubt it is with Merrill but they are on the hot seat for next week. Hopefully they will announce a settlement on Monday and get it behind them. That would leave the market to focus on the Hewlett-Packard earnings on Tuesday. I am still cautiously bullish as long as those lower support levels are not broken. I am not ready to back up the truck but I feel the urge beginning to grow. I would rather buy a Q3 dip but until one presents itself we have to trade what the market gives us and a continued rally would not be a bad gift to trade.

Jim Brown
 

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