The Dow declined -190 points intraday after the Merkel-Sarkozy post meeting press conference failed to show any meaningful agreement.

Market Statistics

The markets may have declined after the Merkel-Sarkozy press conference and all the market reporters blamed it on the lack of any major new program for Europe. In reality the market was simply tired from the +800 point Dow gain over the prior three days. We were due for a rest.

The Merkel-Sarkozy meeting did not please analysts who were hoping they would announce a bigger EFSF bailout fund or even the possibility of a Euro bond that would be backed by all the EU countries. They not only did not announce a EU bond but basically said it would be a cold day in h*ll before one was ever approved. (I have to disguise even limited profanity because the email censors will bounce your newsletters if there are ANY undesirable words in the content.)

A further negative was the announcement of a potential tax on financial transactions. That would fund some of these bailouts. That means every stock, bond and futures trade would incur a tax and that would cause a drastic slowdown in trading and drop in liquidity. U.S. lawmakers tried to add that to the Dodd-Frank bill and eventually dropped it because of the potential negatives to the market.

The EU version of this tax has about a zero chance of being passed but just floating the suggestion means Merkel and Sarkozy don't have their head in the game yet. The post meeting press conference came after the Europe markets closed so the reaction in Europe on Wednesday is not expected to be positive.

All the European banks that trade in the U.S. immediately dropped sharply as did the NYSE Euronext (NYX) because that would cut trading volumes drastically.

Sarkozy said the EFSF at €400 billion was "sufficient" to contain all the current EU problems. Analysts have settled into a range of what will eventually be needed of €2 trillion in additional funds. That breaks down to €1.2T for Italy and €400B for Spain with the existing €400B for Ireland, Portugal and Greece. The difference between "sufficient" and €2.0 trillion is unbelievable. This suggests Sarkozy is still in denial of the overall problem.

In the U.S. Industrial Production for July surged by +0.9% with a +0.6% jump in manufacturing production. However, most of those gains came from a rebound in automobile production as parts from Japan finally made it into U.S. factories. Ex-autos the production growth was anemic at +0.3%. June was revised +0.3% higher to +0.4% growth.

New residential construction for July declined to 604,000 annualized units from 629,000 in June. Declines in single family housing starts fell -4.9% and permits declined -3.2%. Completions rose +11.8% as builders rushed to complete homes before the end of summer. The Census Bureau revised June numbers lower by -4%. Multifamily starts rose +6.2% thanks to the very strong rental market and millions of people who will not be able to buy for a long time after losing their homes to foreclosures and short sales.

Despite the decline in starts this is the first time since March 2010 that consecutive months show building at a rate over 600,000. However, this is likely just a seasonal blip and we will see lower numbers in the months ahead.

Internet Ecommerce sales rose to $47.5 billion in Q2 and a +3% gain over Q1. This was +17.6% higher than Q2-2010. It will be interesting to see how sales react to the eventual imposition of a coordinated sales tax policy on Internet sales. I see zero possibility this won't eventually occur. When you add sales tax and shipping to online prices the Internet vendors lose much of their competitive edge. However, there is still much more variety on the web with the ability to buy anything where consumers in rural areas have a much more limited shopping experience at brick and mortar stores. Internet sales won't die but they will probably take a significant hit.

Import and Export prices rose +0.3% for July compared to a -0.5% decline in June. Consensus was for a decline of -0.1%. The rise in import prices plus the rise in industrial production suggests the deflation worry was premature. Both are indicative of an economy growing very slowly but not one with deflation worries. While these reports are not normally market movers they are bricks in the foundation of future growth.

The economic calendar for the rest of the week includes some more inflation data with the PPI/CPI plus the more important Philly Fed Survey. The NY Empire Manufacturing survey on Monday posted another decline of -7.7 points and the third consecutive month in contraction territory. New orders fell to -7.8 and the third month in contraction. Back orders declined to -15.2 and the second month in steep decline. If the Philly Fed Survey shows similar results on Thursday the market will react negatively. The Philly Survey is expected to show growth but only minimal expansion at +4.0 compared to the 3.2 reading in June.

Economic Calendar

The economics were not a material drag on the market today but earnings reports had their fair share of negative items. Dick's Sporting Goods (DKS) posted earnings of 52-cents compared to 43-cents in the year ago quarter. That also beat the street estimates of 50-cents. Revenue was light at $1.306 billion.

Dicks same store sales +2.5% but below analyst estimates of 4% and Dick's guidance of 3%. Although Dick's raised earnings FY guidance they lowered same store sales to a gain of only 1% to 2% compared to its prior estimate of 3%.

Despite the slower same store sales the ecommerce business rose +31.9%. Margins improved by 130 basis points to 30.7%. Dick's shares declined sharply at the open but rebounded to close only 14-cents lower on the day. Unfortunately the guidance depressed the rest of the retail sector.

Wal-Mart (WMT) had its best day since December 2008 after posting earnings of $1.09 compared to 97-cents in the year ago quarter. Analysts were expecting $1.08. Revenue rose +5.4% to $109.4 billion. International sales rose +16% to $30.1 billion an Sams Club rose +9.5% to $13.6 billion.

Same store sales in the U.S. were flat after eight quarters of declining sales. However, Wal-Mart stores saw sales declines of -0.9% while Sam's Club saw +5% gains to bring the overall average to zero. Wal-Mart continues to be pressured by the 9.1% unemployment and higher fuel costs limiting consumer spending on other items.

However, traders were expecting the worst after Bloomberg releases the contents of an internal memo last month saying same store sales were down sharply. Traders were expecting negative news and the positive earnings caused a +4% spike in the stock price. If it were not for Wal-Mart the Dow would have been significantly lower.

Wal-Mart Chart

Urban Outfitters (URBN) declined -6% after saying same store sales declined by -2% even though revenue came in at a record of $609.2 million. Earnings per share dropped to 35-cents from 42-cents. Gross margin fell from 42.5% to 37.9% as they slashed prices to move dead inventory. Cost of sales rose +19% and inventory rose +24.6%. If they expected higher demand this fall that rise in inventory would not be troubling but they are guiding towards slowing demand.

Estee Lauder (EL) also reported earnings on Monday that beat the street but guided expectations lower. They predicted earnings of $4.00-4.20 compared to analyst estimates at $4.36. Retailers are definitely struggling.

After the bell Dell reported earnings of 54-cents that beat the street with a gain of +69% from the year ago quarter. Analysts were expecting 49-cents. However, that is where the good news ended. Revenue of $15.66 billion came in short of the $15.7 billion expected but still close. However, Dell lowered its full year revenue growth projections to 1-5% from their previous guidance of 5-9%. Dell said revenue would be flat in Q3 and analysts were expecting a +5% gain. Dell raised its profit expectations to 17-23% year over year from its previous view of 12-18%. Dell said sales were shifting towards more profitable items. That did not help the stock in after hours where it traded down -8%. Dell is apparently willing to give up market share to increase profits but traders did not appear impressed.

Dell Chart

Analog Devices (ADI) reported earnings that rose +10% to 71-cents on revenue of $757.9 million. Unfortunately analysts were expecting 73-cents and revenue of $780 million. The CEO said the revenue shortfall was a result of the break in the supply chain and not a change in underlying demand. However, "that being said we are concerned about growing uncertainty about the global economy could cause our customers to become more cautious in the short-term and that could reduce our revenue in the forth quarter." ADI now expects current quarter earnings of 60-68 cents and $715-755 million compared to analyst estimates of 72-cents and $780 million. ADI shares declined in after hours trading.

This will probably weigh on the market reaction from Applied Materials when they report earnings next week. Citigroup has already slashed estimates and is warning the report could be rocky.

The best earnings report of the day came from Home Depot (HD). The company posted earnings of 86-cents compared to 72-cents in the year ago quarter but beat the street estimates of 82-cents as well. Earnings rose +19.4% on revenue that rose +4.2% to $20.23 billion compared to $19.4 billion a year ago. Same store sales rose +4.2% globally and +3.5% in the USA. Margins rose from 10.6% to 11.3%. Home Depot raised full year earnings guidance to $2.34 from $2.24.

Home Depot Chart

An earnings report later this week could be trouble for the tech sector. Hewlett Packard reports earnings on Thursday and there are rumors of trouble. The HP TouchPad does not appear to be selling. Prices are being slashed on a weekly basis and still not selling. Reportedly Best Buy has taken delivery of 270,000 TouchPads and only managed to sell 25,000 or less. Best Buy is reportedly demanding that HP take back the devices and has refused to pay for the unsold tablets. Analyst Rich Doherty said the same lack of sales is plaguing Wal-Mart, Microcenter and Fry's. He said the rapidly changing prices have caused consumers to wait in hopes the price continues lower.

The current official price for a 16GB model is $399 and $499 for the 32gb model but they are selling lower than that in the market. HP may not report unit sales of the TouchPad with earnings and instead report "channel sales" which means we sold XX amount to retailers but not how many those retailers actually sold. It would also not include any not yet returned to HP for credit. I am thinking a straddle/strangle on HPQ on Wednesday might be a valid play.

Hewlett Packard Chart

Gold prices rallied to $1785 at the close. Futures have been higher intraday as we saw with the spike to $1817 last week before the CME raised the margin by 22%. Worries over Europe and the lack of any material change in the outlook was the driving force today.

Gold Chart

The Nasdaq cratered on Tuesday for more than just earnings problems. S&P cut Google from Buy to Sell based on the implied risks in the Motorola acquisition. There is a hold rating between those levels but they skipped right to sell. The analyst, Scott Kessler, cut his price target to $500 from $700. He believes Google will have trouble closing the transaction until late in 2012. He also believes Google paid too much and will have trouble assimilating the cell phone company. He also believes once they do close on the deal it will negatively impact Google's overall profit margins and distract from their core business.

The reason Google bought Motorola was to acquire their monster patent library in order to protect the Android phones from patent challenges in the market place. Motorola has so many patents it would be difficult for a challenger to mount a strong offense with tens of thousands of patents in Google's arsenal. A challenger could burn up a lot of money trying to prepare a challenge only to find out later there was no hope of winning.

Google's market cap has declined nearly $10 billion since the Motorola announcement. Google declined -$18 today and is now down -$25 for the week.

Google Chart

The S&P has stalled for two consecutive days at 1200 and that gives us a level to watch for a clear signal for future rallies. If the S&P can move over 1205 I would see that as a bullish breakout. 1204 was the intraday high on Tuesday and the closing level on Monday. We now have a clear point of failure at that same 1205 level. Bears will be shorting that on any rebound on Wednesday and a break over 1205 would trigger another short squeeze.

On the downside 1175 is initial support. There were several technical analysts out this week projecting new lows in the 950-1050 range with one even lower. However, Goldman and Citigroup reiterated 1400 as their year-end targets. Barclay's is targeting 1450 and JP Morgan 1475. Obviously we have to develop a direction over the next several days before we can start picking targets. The extreme oversold conditions are over and there appears to be a lack of conviction on either side this week. Volume has fallen back to just over 8.2 billion shares and half of what it was on the big declines last week. There are bargain hunters in the market but there is no rush to buy the dip.

This is an option expiration week and market makers and traders alike may be hoping to pin the S&P at 1200 to expire as many positions as possible. The monster ranges over the last two weeks probably blew out most of the large positions and only a few small fry are left with some dip buys. They may not have enough capital to really move the market so that lets the market makers play games with the Friday open.

S&P-500 Chart - 90 Min

S&P-500 Chart - Daily

The Dow also has a clearly defined range between 11,200 and 11,500 and we are likely to finish the week inside that range unless there is some big news event to move the market. Large caps are still in favor but without WMT and HD the picture today would have been worse. A move over 11,500 would be buyable and a dip below 11,200 a shorting opportunity.

Dow Chart

The Nasdaq had a stiff headwind today with Google and Apple both negative. Apple was sued again over possible patent violations but it only lost -$3. Expectations for new product are helping to hold its gains.

The 2500 level should be decent support and it is definitely a clear shorting opportunity should that level break. On the upside 2565 would be a confirmation level for a bullish breakout.

Nasdaq Chart

I remain neutral for the rest of the week. The fact we did not sell off hard today is somewhat of a testament to the lack of sellers left in the market. After three weeks of declines they appear to have exhausted their inventory of shares. However, this remains a volatile market and we could easily move triple digits in either direction. I could build an equal argument for each direction and that is evidence that neither argument is convincing.

I would continue to look for breakouts over 11500, 1205 and 2565 as confirmation the bulls are back in town. Breaks below 11200, 1175, 2500 would be shorting opportunities.

Jim Brown

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