Market Internals

Introduction

In an interview appearing in a German magazine over the weekend, Richmond Fed President Jeffrey Lacker linked the words "exit," "must" and "quick" in a way that some market watchers worried would rattle markets. He said that the Fed's exit from its bond-buying program could be and should be executed quickly and would likely begin by the end of this year. However, this stance is not a new one for Richmond Fed President Lacker, and he is not a voting FOMC member this year. We should look beyond his statement if we're searching for a reason for market weakness other than profit-taking ahead of important economic developments.

Wednesday, of course, the FOMC announcement may give us more insight into when and how bond purchases will end. Or, it may not. However, another announcement may give even more insight into what will happen with yields as a result. The Treasury will announce its quarterly fund sales on Wednesday. Bond dealers are forecasting that the Treasury will begin reducing debt sales. That may curtail rising yields as the Fed reduces its purchases, some speculate, or at least may change the shape of the yield curve. A Bloomberg article, "U.S. Paring Debt Sales," reports that the reduction could begin as early as next month. The article also concludes that the differences in the European economy and ours vindicates the choices our Fed made. That choice was for stimulus rather than the austerity measures Europe's central bank imposed. The article notes that our deficit reduced by about half since 2009 and our economy is perhaps poised to grow next year at its fastest rate since 2006, in contrast to Europe's.

Those market participants looking for reasons for weakness in Asia and hesitancy elsewhere could find more reasons. Some experts in Asia pointed to an urgent call for China's National Audit Office to audit all government debt. Yesterday, China's official newspaper reported that the audit would begin this week. The move raises concern about debt levels in China. Others looking for reasons behind Asia's weakness pointed to disappointment after the Bank of Japan's Governor reiterated previous inflation targets but added that they may take some time to be achieved.

Weakness in Asia and hesitancy in Europe translated to weakness and hesitancy in U.S. markets, too. The SPX dropped 0.37 percent; the Dow, 0.24 percent; and the NDX, 0.24 percent. The RUT lost 0.75 percent, and the SOX, 0.67 percent. The Dow Jones Transportation Index, one of the bellwether indices, dropped 1.10 percent. Volatility indices tended to be higher, but that is to be expected ahead of potentially market-moving economic events later in the week. We can't tell too much from that yet.

Gold futures (/GC) for August delivery settled at 1328.40, up 6.9 points. Today, Nouriel Roubini noted that gold could drop to $1,000 per ounce by 2015. He believes that risk to the global economy have been reduced and inflation will remain low. Copper (/HG) for September delivery (the most active contract) settled at 3.1075, up 0.002. Silver for September delivery settled at 19.864, up 0.093.

The geopolitical situation heats up. Light sweet crude (/CL) for September delivery traded sideways again. It settled at 104.55, down 0.15.

Monday's Developments

Most Asian bourses declined last night, with the Nikkei 225 leading the way to the downside. The Japanese bourse's performance was hurt by currency moves, with the dollar weakening against the yen. This occurred despite Richmond Fed Jeffrey Lacker's statement. The Nikkei 225 dropped another 3.3 percent after Friday's descent, and the Hang Seng eased by 0.54 percent. At the last moment, the Straits Times managed to climb into positive territory, gaining 0.03 percent. China's Shanghai Composite lost 1.04 percent.

In Europe, ECB Executive Board members Benoit Coeure and Joerg Asmussen said in an interview published today that credit provision continues to be constrained in Europe. Coeure wanted to avoid the term "credit squeeze," but he also didn't see credit provisions loosening in recent times. Neither believed that the Eurozone faces deflation. Both members thought the ECB should release the minutes for its rate-setting meetings. Several news sources also reported that the ECB will release its rules for emergency liquidity assistance, determined upon in mid-July.

European bourses started out positive but trended down all day, ending in mixed territory. The FTSE 100 lost 0.42 percent. However, the DAX was still up 0.17 percent at the close, and the CAC 40 ended flat, up only 0.07 points and 0.0 percent. Spain's IBEX 35 managed to hold onto a gain of 0.27 percent despite trending down all afternoon, but Italy's FTSE MIB dropped 0.89 percent.

Today's U.S. economic reports began with June Pending Home Sales at 10:00 am EST. The prior report had shown a rise of 6.7 percent, but the current report was expected to drop 1.1 percent. The National Association of Realtors (NAR) instead reported that pending home sales dropped only 0.4 percent. However, the prior 6.7-percent rise was revised lower to 5.8 percent.

Rising mortgage rates and home prices, along with lack of supply, were responsible, the NAR said. Prospective buyers are changing their minds as rates rise. A bright spot was found in the West, where pending sales rose 3.3 percent. That strength was offset by slight declines in the South and Midwest and flat activity elsewhere.

Moody's reported its weekly Business Confidence Survey results at the same time. This week's result showed no change, with the 27.1 value for the index matching last week's. Moody's reiterates its belief that "the economy's growth is holding firm at the high end of its potential" with the indication of potentially stronger growth later this year.

Thirty minutes later, the Dallas Fed released its July Texas Manufacturing Outlook. The prior Business Activity Index had measured 6.5, with the consensus for the current report at 6.4. Instead, the index measured 4.4. The production index dropped from the prior 17.1 to 11.4. Growth continued, the Dallas Fed noted, but at a slower pace than in the prior report from June.

Similarly, new orders and capacity utilization remained positive but showed a slowing rate of growth. Shipments inched higher, and labor markets showed increasing strength, both good developments. The employment index, at 9.3, was the strongest it's been in almost a year, the Dallas Fed announced. Wages and benefits remained positive, at 16.4, but was lower than the previous 20.

Prices showed mixed results. Input prices, reflected in the raw materials price index, rose to 15.9 from the prior 14.3. However, selling prices did not change appreciably, with the finished good price index at -1. Expectations indices fell but remained "strongly positive," the Dallas Fed noted.

In another development today, Judge Thomas Wheeler of the U.S. Court of Federal Claims cleared the way for FOMC Chairman Ben Bernanke to be deposed in a lawsuit regarding the AIG bailout. AIG's former chief Maurice "Hank" Greenberg brought the suit.

Companies reporting earnings today included Lowes Corporation (L, 46.06, up 0.01 or 0.02 percent). In the reverse of the typical pattern from the last couple of quarters, L disappointed on earnings/share but beat revenue expectations. Adjusted earnings were $0.69/share against expectations that the company would produce earnings of $0.79/share. However, the year-ago comparable was $0.14/share. Growth was helped by the strong performance of CNA Financial, the biggest of the hotel, energy and financial companies in the Lowes Corp. conglomerate. Revenue of $3.73 billion beat estimates.

Sohu.com Inc. (SOHU, 63.05, down 6.95 or 9.93 percent), the owner of China's third-largest Web portal, followed the more typical recent pattern of a beat on EPS and a disappointment on revenue. The stock dropped almost 10 percent on volume that was 3.86 times the average daily volume. SOHU reported adjusted earnings of $0.58/share against expectations of $0.49. The company attributed the upside surprise to an increase in advertiser spending due to an increase in video viewers. Revenue of $338.9 million missed expectations of $340.27, however.

SOHU's CEO also confirmed the company's search for investment in its Sogou search unit. The company reportedly been talking to Qihoo 360 Technology Co. (QIHU, 60.72, down 1.78 or 2.85 percent), another Chinese search engine company, about an agreement to become business partners.

Hertz Global Holdings, Inc. (HTZ, 26.23, down 0.66 or 2.45 percent) met its EPS estimate and edged just above its revenue expectation. Today's loss was on more than double the average daily volume. The company reported adjusted earnings of $0.45/share on revenue of $2.71 billion. The company was expected to report $0.45 share and report revenue of $2.7 billion. The year-ago comparison was $0.35/share. Global sales from car rentals increased 23 percent. While EPS and revenue was increasing, so were expenses, however.

HTZ announced that it will offer the Jaguar F-Type in Europe, a development that garnered the company many headlines. The company wants its customers to "live the dream" of driving a high-performance car.

Wynn Resorts (WYNN, 131.27, up 0.29 or 0.22 percent) missed on both EPS and revenue when reporting before the open. The company reported adjusted earnings of $1.51/share, earnings that increased over the year-ago level but failed to meet the $1.57/share expectation. The company reported revenue of $1.33 billion, also higher than year-ago levels but below the projected $1.34 billion. Sales growth in Macau was not as strong as it had been a year ago.

Anadarko Petroleum Corporation (APC, 88.65, up 0.14 or 0.16 percent) reported after the close. Most headlines trumpeted its swing from a loss in the year-ago period to this quarter's gain. Some also mentioned the gain in output. Excluding items, the company reported earnings of $1.05/share, beating the expectation of $0.91/share. Revenue was $3.5 billion, with revenue expected at $3.53-3.57 billion, according to the source.

Express Scripts Holding Company (ESRX, 66.93, down 0.73 or 1.08 percent), a company that describes itself as providing a range of pharmacy benefit management services, reported after the close. Excluding one-time items, the company reported $1.12/share, beating expectations of $1.10/share. Revenue fell to $26.43 billion, but that was higher than predictions of $25.50 billion. Falling costs helped the company produce the beat on EPS despite the falling revenues. The company also announced that its CFO would be leaving, effective Tuesday.

The Hartford Financial Services Group, Inc. (HIG, 30.78, down 0.58 or 1.85 percent) reported a net loss of $0.42/share, a deeper loss than the year-ago's $0.26/share. The company blamed asbestos liabilities and costs to retire investments made by Allianz SE. The company was expected to report operating earnings of $0.71/share on revenue of $4.36 billion, but instead reported operating earnings of $0.66/share.

Sourcefire, Inc. (FIRE, 75.47, down 0.03 or 0.04 percent), a provider of intelligent cybersecurity technologies across the globe, reported after the close. The company reported adjusted income of $0.20/diluted share and GAAP net income of $0.07 per diluted share. Revenue increased 29 percent over the year-ago level.

The beleaguered Herbalife Ltd. (HLF, 60.57, up 2.12 or 3.63 percent) was last up almost 6 percent in after-hours trading after its report. The company reported adjusted earnings of $1.41, beating the projected $1.18. Revenue of $1.2 billion also exceeded the expected $1.16. The company raised full-year earnings guidance to $4.83-4.95/share with the prior consensus at $4.80. The company projected full-year earnings of $4.72-4.80/share, ahead of the $4.63/share projection. You can bet that analysts will be pouring over that earnings report this evening, however, and tomorrow we'll hear about their conclusions.

Vertex Pharmaceuticals Incorporated (VRTX, 79.66, down 1.05 or 1.30 percent) also reported after the close. The stock was last at $81.07, up 1.41 from the closing price. The company reported a net loss of $0.26/share, a smaller loss than the year-ago loss of $0.31/share. The company reported strong demand for its cystic fibrosis drug, Kalydeco. The company raised expectations for full-year sales of this drug to $345-360 million from its prior estimated $300-340 million. Another of the company's drugs, a hepatitis C treatment, was put on hold by the FDA last week, however.

Story stocks included Irish pharmaceutical Elan (ELN, 15.46, up 0.53 or 3.55 percent). Perrigo (PRGO, 125.17, down 9.06 or 6.75 percent), a Michigan-based drug manufacturer, will buy ELN for $8.6 billion. ELN's shareholders will receive $6.25 a share and $10.25 in Perrigo stock.

Omnicom (OMC, 64.75, down 0.36 or 0.55 percent) and France's Publicis made the list of story stocks, too. The two firms agreed to a merger of equals. The deal would be valued at about $35.1 billion. The merged companies will constitute the world's largest advertising firm.

Let's look at daily charts.

Charts

Those new to my Monday Wraps might find the following two paragraphs useful when interpreting my charts. Those who have read the Wraps can skip straight to the charts. I set up nested Keltner channels on my charts. It's a run-of-the-mill channeling system like the more familiar Bollinger Bands. As with those more familiar BB's, channel boundaries are often targets for upside or downside moves. They also mark levels where prices might find support or resistance on closes. When several channel lines converge, that potential resistance or support might appear stronger, just as it would if 20-, 50- and 100-sma's all converge in one spot.

For the benefit of subscribers, I mark potential upside and downside target/support/resistance levels with ovals, usually green for upside and red for downside. Orange ovals are sometimes used when the darker-colored ones would not allow for a clear examination of the next target. From now on, I will mention the nearest potential support or resistance level in the discussion on the chart, but not the further-out ones. They can be located on the charts if price breaks through the nearest levels on consistent daily closes. If an interpretation such as "support levels appear stronger than resistance, so up looks more likely than down" is possible, I'll tell you. Often we traders must be able to defend our trade against a move in either direction.

As with any type of potential support or resistance, those with profits should be protective of those profits as support or resistance is tested. If prices find support and climb, look to the next higher oval, even one just broken through, as potential resistance. Do the reverse when resistance is breached. Hopefully, this format provides you with the information you need without requiring all night to read as happens when I list each potential support or resistance level individually.

Annotated Daily Chart of the SPX:

If the SPX can sustain daily closes above the red 9-ema, it maintains a potential upside target from about 1697-1715. Even a decline to the bottom of the support zone tested today, to about 1668, would not necessarily undo that potential upside target as long as the SPX quickly scrambled back above the 9-ema and headed higher again. Any failure to quickly reclaim the red 9-ema's support, however, questions the viability of the upside target.

Consistent daily closes beneath the bottom of the support zone currently being tested, at about 1668, sets a new downside target. That target extends from about 1638-1655. A failure to maintain support on daily closes at that zone targets the next lower marked potential support zone.

Annotated Daily Chart of the Dow:

As is often true, the Dow's setup proves similar. The Dow has a potential upside target that extends from about 15635-15800. A drop as low as 15383 doesn't necessarily undo the upside target as long as the Dow scrambles back above the red 9-ema within a couple of days and moves higher from there. However, a drop that low should introduce a little caution about believing too strongly in the bullish scenario.

A failure to reclaim the red 9-ema on daily closes or daily closes that drop below 15383 set up a potential downside target near 15200-15333. A failure to maintain daily closes at or above that zone sets up the next potential downside target marked on the chart.

Annotated Daily Chart of the NDX:

The NDX challenges a potential resistance zone that extends up to about 3100. If the NDX breaks above the top of that zone on consistent daily closes, it sets a new potential upside target from about 3122-3152.

Between 3050 and 3100, the NDX is trapped in a noisy congestion zone. If the NDX instead fails to maintain support on daily closes above about 3050, it sets a new potential downside target at about 2990-3021. These are Keltner targets. While I respect the predictions offered by Keltner targets, they're not infallible, especially on an index such as the NDX. I would not ignore the potential historical and gap support found just above 3030. Don't count on that support holding if tested, but if you're in bearish positions, consider ahead of time how you would manage your trades if 3030 was approached. If the NDX barrels through that zone, you of course know that would-be buyers have been overwhelmed by sellers. However, if the NDX drifts leisurely down to that zone, would you take partial or full profits and see what happens next, or would you follow the NDX lower with your stops?

Annotated Daily Chart of the RUT:

Let's get the potential upside targets out of the way first. The last several weeks, we've had to look to the weekly chart to show us a potential upside target since the RUT had overrun all potential targets on the daily chart. That weekly chart had originally projected an upside target near 1070 but the RUT's climb over the last week pushed that potential target up to above 1080. The weekly chart suggests that traders should keep that potential upside target in mind as long as the RUT maintains weekly closes above about 1015-1017. That's a long drop down for bullish traders to be holding onto a trade, however, especially if it's a monthly, weekly or day trade. Let's concentrate on the daily chart displayed above and see what information we can glean.

We can now see a potential upside target on this chart, too, with that target from about 1056-1071, the zone through which the grey channel line might be pushed on any bounce. However, sustained closes beneath about 1040-1042 lessen the likelihood of that target being reached before the RUT turns lower.

Today's decline brought the RUT into the top of a potential support zone that extends down to about 1030. Keltner channels suggest that if this support zone does not hold on daily closes, the RUT could drop down to 1000-1013. While I respect the Keltner targets and have seen prices move quickly to those targets when I didn't believe it possible that they could, traders should not ignore the potential gap support near 1020. Bears should know how they'll deal with a pause near 1020, if that should occur. Other potential downside targets are marked on the chart, in case the RUT sustains daily closes beneath 1000.

Annotated Daily Chart of the Dow Jones Transports:

The Dow Jones Transports can be used as an indicator index of sorts since it sometimes leads the way for other indices. The DJT has produced several daily closes beneath a turning lower red 9-ema. That's showing relative weakness when compared to several of the indices charted above.

Attempts to climb back above that moving average have not been successful. A potential downside target of about 6349-6350 was set. The DJT tested but bounced off that target's support late last week, but the DJT still maintains that downside target as long as it maintains daily closes below a rounding-lower red 9-ema. Between the two levels, the DJT is caught in a noisy consolidation zone, without too much information about whether it will next plummet down toward 6150-6200 or zoom up to retest the July high of 6608.87. Right now, it's signaling weakness, but that could change after the midweek economic reports and developments.

Tomorrow's Economic and Earnings Releases

This week's important economic events are carried forward from Jim Brown's weekend Wrap. Those with trades at risk should be particularly vigilant with their end-of-day reviews tomorrow because Wednesday morning presents three important, perhaps market-changing economic numbers before the open and a few minutes after the open. Then the FOMC announcement follows later that day.

Companies reporting earnings tomorrow include AET (BMO), AMGN (AMC), COH (BMO), DISCA (BMO), MRK (BMO), NYX (BMO), OXY (BMO), SYMC (AMC), and X (BMO).

What about Tomorrow?

Annotated 60-Minute Chart of the SPX:

The SPX has spent several days churning back and forth across its smallest Keltner channel, with that and the other Keltner channels flattening. This action reveals investor/trader indecision about next direction. The SPX could as easily head down toward 1670-1675 as it could head up toward 1697-1704 and vice versa. When such a formation breaks might be as difficult to predict as the direction. However, we can imagine that the SPX will likely break one direction or the other by Wednesday afternoon, if not tomorrow. Sometimes markets front-run the expected direction the day before economic announcements but not always. I would be hard-pressed to pick an "expected direction" with the number of economic events on Wednesday, and many other traders might be, too.

Annotated 60-Minute Chart of the Dow:

The Dow also churns between the boundaries of a flattening Keltner channel. The Dow might push up toward 15600-15638 as easily as it might drop toward 15390-15440, and vice versa. If the Dow pushes up and through that 15600-15638 potential resistance zone, maintaining 60-minute closes above it, a new potential upside target is set near 15675-15700. If the Dow fails to sustain 60-minute closes above about 15400, it sets a new potential downside target, marked on the chart.

Annotated 60-Minute Chart of the NDX:

The NDX's pattern is different. It's been sustaining many 60-minute closes at or above a rising 9-ema. The NDX does not always move in accordance with these moving averages the same way that other indices often do. Minor breaks of the pattern can't be trusted to signify that the tenor has changed. What we can tell, however, is that enough 60-minute closes have been at or above the red 9-ema to keep that average and the smallest (grey) Keltner channel moving upward. That channel has been flattening for days on the other indices.

Not only did that pattern indicate that the NDX was more likely to move up toward the next potential resistance level from about 3080-3087, but also the NDX rose into a resistance test of that zone early this morning. The resistance held on that test. However, if the NDX should sustain 60-minute closes above about 3087, it sets a new potential upside target about 5 points on either side of 3100.

The NDX weakened near the close, but we can't say that it has violated the 9-ema, much sustained 60-minute closes below the red 9-ema. Sustained 60-minute closes beneath a flattening or rolling lower red 9-ema means that the tenor has likely changed, although we can't always be as comfortable with such assertions on the NDX as we can with other indices. If the tenor changes, the NDX might churn back and forth, as other indices have been doing, or it could head to the next downside target, near 3050-3057. A failure to sustain 60-minute closes above about 3050 sets up a potential downside target near 3025-3035. Failure to hold that support on 60-minute closes sets the next potential downside target, marked on the chart.

Annotated 60-Minute Chart of the Russell 2000:

The RUT has begun sustaining 60-minute closes beneath a turning-lower red 9-ema. As long as that behavior continues, the RUT sets a potential downside target from about 1033-1038. The RUT tested and bounced from the top of that support zone this morning, but its subsequent behavior maintains the downside target. At the end of the day, the RUT sank closer into a retest of that target and potential support zone. A failure to sustain 60-minute closes above about 1030-1033 sets the next potential downside target from about 1012-1017.

If the RUT bounces and maintains closes above about 1047, it sets a new potential upside target near 1053-1056. A retest of last week's 1056.86 intraday high wouldn't be out of the question, either, if the RUT should bounce into that next resistance zone. Bulls should be protective of their profits if such a test occurs, but we know that momentum can keep sending the RUT higher, too.

What do I think will happen next? If I had to bet, I'd bet that indices will break out of their consolidation zones on or before Wednesday. Many active traders I know are closing out their short-term trades before Wednesday or not opening new ones. I'm of course not predicting Armageddon, but I am suggesting that some adroit adjustment may be required to manage price and volatility movements. Ask yourself if your skills up to that kind of trade management. If you have doubts, reduce the size of your trade. If you're staying in, spend some time thinking about how you want to position your trade tomorrow.

Some charts are set up to deliver downturns as the most likely next action but that doesn't prove anything. That chart setup just means that once again, surprised shorts will contribute to the buying if prices move too far to the upside and they have to close to cover.

You know, don't you, that prediction of a breakout one direction or the other just about guarantees that markets will coil sideways in a tight range for the next week?