There was a minor bit of early morning volatility but for the most part it was steady as she goes.

Market Statistics

The markets have moved sideways for the month of November as though fund managers are waiting for a sign before adding or deleting positions. Everyone is waiting for somebody else to do something first.

The morning volatility caused a -117 point drop in the Dow but it was quickly bought. The volatility dip was caused by better than expected numbers from the ISM Nonmanufacturing Index for October. It was a minor beat but after the ISM Manufacturing Index on Friday soared to a 2.5 year high the stage was set for some overreaction.

The ISM Nonmanufacturing otherwise known as the ISM Services rose +1 point to 55.4 for October. Consensus estimates had been for a decline from 54.4 to 54.0. Not everything was rosy with the new orders component falling from 59.6 to 56.8. The gains that impacted the top line came from the business activity component that rose from 55.1 to 59.7. Employment also increased from 52.7 to 56.2. Imports rose +4 points to 55.0 but exports declined -4.5 points to 53.0.

Despite the component declines the better than expected headline number unsettled the market. Too much good news from the ISM Manufacturing and now ISM Services could prompt the Fed to cut QE sooner rather than later. It was the typical good news is bad news scenario.



The market should not have worried about the Fed pulling the trigger too early on stimulus reductions. In a report prepared by Fed governors for the coming IMF meeting the Fed may not move on interest rates until 2017. The research paper said instead of a 6.5% to 7% unemployment trigger to begin raising rates the Fed could lower that threshold to 5.5% to 6.0%. The paper outlined why the unemployment rate was no longer relative because of changes in hiring practices, the graying of America and technology throughput. Those not in the workforce are expanding faster than those finding new jobs. That forces the unemployment rate lower even though the number of new jobs is not even keeping pace with the number of new candidates entering the job market each month.

The report suggested the Fed should not be in any hurry to raise rates. The Fed normally panics when inflation begins to rise and they raise rates too quickly prompting an economic downturn. The paper suggested the Fed had years to gradually raise rates and keep the economy in growth mode. Good luck with that since this is the largest stimulus program in history.

The recent spurt of good economic news and analysts upgrading earnings estimates for Q4 have pulled back on the QE taper date to the current estimate of March. Some were out in June and a couple outliers were questioning if it would happen at all in 2014.

The economic calendar for the rest of the week is headlined by the Nonfarm Payrolls on Friday and GDP on Thursday. The GDP for Q3 is expected to fall to only +1.9% growth, down from the +2.48% in Q2. Estimates are all over the board since the monthly reports were very choppy. This could be a market mover if it varies much from the estimate. Again, good news of a stronger number could be bad news for the market because of expected Fed action.

The mother of all economic reports is the Nonfarm Payrolls on Friday. Estimates are for a gain of only +125,000 jobs due in part to the government shutdown. There are estimates for a print under 100,000 and some wild eyed optimists still expecting numbers in the 180,000 range. This will be another good news = bad news opportunity for the market. If jobs fall sharply the Fed will remain on hold but that also means the economy was slowing in October. Fortunately this was the "shutdown" month so almost any number that appears will be discounted as noise due to the two week shutdown and delay in conducting the employment surveys.


The Q3 earnings cycle is winding down but there was still a flurry of reports. Probably the most watched on Tuesday was Tesla Motors (TSLA). Tesla reported earnings of 12 cents, a penny above estimates. Revenue was $602.6 million compared to estimates for $534.6 million. They produced 5,500 model S cars in the quarter compared to their prior forecast for 5,000. On the surface that would appear to be a strong report for a fledgling car company. Not so for a momentum stock.

Shares declined -$21 in afterhours because the reality did not live up to the hype. There were whisper numbers for production in the 6,000 to 7,000 range. There were whisper numbers on earnings up into the 17-18 cent range. So, while Tesla did better than they had predicted they were unable to live up to the outlandish expectations in the market.

Tesla guided for Q4 profits to be roughly equal with Q3 despite analyst estimates in the 20 cent range. The problem for Tesla is not demand. Elon Musk said on the call that demand was strong and they could easily sell every car they could bill. The problem is the lack of batteries. Last week they inked a deal with Panasonic to supply 2 billion lithium ion cells over the next four years. Since it takes 7,000 cells to produce a battery pack for one car that suggests Tesla is expecting to build 300,000 cars over the next four years. With their production for 2013 in the range of only 22,000 that means they are expecting to dramatically increase production.

In Q3 they only delivered 4,500 cars to the U.S. market with 1,000 going overseas to customers that had been waiting 2-3 years in some cases. Tesla plans to deliver slightly under 6,000 cars in Q4. Tesla reported a gross margin of 21% compared to estimates of 18%. Musk has said they plan to raise that to 25% but they are spending heavily on charging stations, new dealerships and expansion overseas. Considering GM has a gross margin of roughly 5% the performance by Tesla is nothing short of spectacular. As they complete the new factories to double and triple capacity the profits will come rolling in. To get to that 300,000 car estimate above they would need to produce 75,000 cars per year. Since the ramp up will take a couple of years that suggests significantly more production in the latter two years as n 125,000 cars each. By the end of 2014 Musk believes two-thirds of his sales will be overseas.

Most investors either love or hate Tesla. Very few investors are neutral. They either think Elon Musk is out to change the planet with Tesla, Solar City and Space X and the sky's the limit for the shares of his companies or investors think Tesla is the most overpriced stock on the exchange. I happen to think Musk is a genius but that does not mean his stock is bullet proof.

After dropping nearly -15% after earnings it rebounded slightly but there may be more pain ahead. I would be a buyer of TSLA in the $140 level for a trade and I would be more interested in holding it longer term if I could steal it at $120.


Regeneron Pharmaceuticals (REGN) soared +7% to $302.51 after reporting adjusted earnings of $2.40 compared to estimates of $1.88. The company said expenses rose sharply due to increased marketing for the eye disease drug Eylea but sales were climbing as a result. Sales of the drug rose +15% to $488 million in the quarter. U.S. sales rose +49%. The drug is used to treat age-related macular degeneration. With many Americans rapidly reaching the age where that is a common occurrence I would say the outlook is good for Eylea.

Red Robin Gourmet Burgers (RRGB) spiked +10% after reporting sales that increased +34% after a menu revamp that drew in more customers. Same store sales rose +5.7%. Earnings rose to 32 cents on revenue of $230.7 million. Estimates were for 29 cents and $228.7 million. The company guided for Q4 for same store sales to grow another +4% and for a higher average ticket price due to the new menu.


Delphi Automotive (DLPH) fell -5.2% after narrowing guidance for Q4. The company said the annual profit would be in the range of $4.25-$4.35 compared to an earlier forecast of $4.45. They also lowered their expected gross margin from 14.7% to 14.4%. Their earnings of 95 cents beat the street estimates of 95 cents and revenue also beat slightly. The company said lower vehicle production in Europe was the reason for the lowered guidance.

Michael Kors (KORS) surged +6% to a new high at $79.13 after posting earnings that rose +40% and revenue that increases +39%. Revenue rose to $740.3 million and beat optimistic forecasts for $725.9 million. Quarterly same store sales in North America rose a whopping +31% and sales in Europe more than doubled to $114 million. They see Europe as a $1 billion market for them in the near future. They opened 15 new store in the quarter. Licensing revenue rose +65%. This company can seem to do nothing wrong but the stock struggles to maintain a trend. KORS is routinely knocked around by developments in the broad retail markets but you can see by their results they are not even in the same category.


The opposite of KORS is Abercrombie & Fitch (ANF). The company warned ahead of its analyst meeting on Wednesday that Q3 sales fell -12% to $1.03 billion. Same store sales fell -14%. That was worse than the -12.6% decline expected by analysts. The company said it has decided to shut all of the Gilly Hicks lingerie stores and will take a charge of $100 million. ANF predicted Q3 earnings of 40-45 cents and full year earnings of $1.40-$1.50. Analysts were expecting 40 cents and $1.96 for the year. Shares fell about $3 in afterhours to $35.70.


Corning (GLW) declined slightly after a competitor, GT Advanced Technologies (GTAT), announced it had signed a deal with Apple for "sapphire material." Investors were worried Apple was preparing to replace the Corning Gorilla Glass currently in use for Apple products. GTAT expects next year revenue of $600-$800 million with 80% coming from the sapphire segment. Analysts believe the gains in GTAT were over done because the sapphire product weight 1.6 times more than the gorilla glass and appears more prone to breakage. Since Corning supplies the glass to numerous other product manufacturers I suspect the dip is temporary. Gorilla glass is the gold standard by which all else is measured.



Zillow (Z) reported earnings after the bell that were very positive. They lost 5 cents compared to estimates for an 8 cent loss. However, market place revenue rose +73% to reach 64 million monthly unique users. That was an increase in users of 75%. Real estate revenue rose +67%. Mortgage revenue rose +120% while display ad revenue rose +50%. According to Comscore Zillow's share of the market has risen from 27% in January to 34% while competitor Trulia saw their share decline to 21%. Zillow said they were now twice as big as Trulia and four times the size of Realtor.com. Shares of Zillow rose +$4 to $86.50 in afterhours trading. With strong support at $79 and rapidly improving metrics I would be a buyer on any decent dip.


Crude oil declined again to touch $93 and continue a month long trend. Material support at $91.50 should at least be a speed bump for crude but the fundamentals are deteriorating. Libyan production is coming back online. U.S. production is increasing every week. Inventories are building at a rapid rate and there is nothing on the horizon to change the outlook. If the global economy were to accelerate this picture would change rapidly but we are only in the early stages of a recovery and oil supply is currently higher than demand and prices have nowhere to go but down for at least a few more days. There is a buying opportunity in our future as winter demand begins to accelerate. I see that opportunity in the $90-$91.50 range.


While the major indexes have flat lined in November there is no shortage of bullish investor sentiment. The AAII Investor Sentiment Survey last week had 49.2% bullish and 17.6% of respondents bearish. That nearly 3:1 advantage by the bulls is very rare. The long term average is 39% bullish, 30.5% bearish. The current imbalance suggests traders are too optimistic. When that happens we normally find ourselves in at least a temporary correction.

The Volatility Index (VIX) closed yesterday at 12.93 and a three week low and very close to a three month low. This is also warning that market sentiment is excessively bullish and we could see some volatility ahead.

However, the S&P is up more than 23% for the year. Whenever the S&P has been up more than 20% at the end of October it has always finished the year with additional gains. Of course that has only happened four times in recent memory and that was 1975, 1980, 1995 and 1997. You can claim it "always" goes higher but that is a very rare occurrence and past performance is never an indication of future results.

We are faced with multiple factors that will influence our markets in the weeks ahead. Earnings estimates are rising despite a flurry of warnings and earnings misses. Analysts have overdosed on the Kool-Aid and S&P targets for yearend over 1,800 are becoming more common. Let's hope they are right. The Fed will continue greasing the wheels at least until March and that is positive for stocks.

However, the budget battle in Washington will return to haunt us around the December 15th deadline for the bipartisan budget compromise. They are so far apart there is almost no possibility they will reach an agreement. Once those headlines begin to fly in early December the cloud of uncertainty will again settle on the market.

Until then there are no material potholes on the horizon. Of course just saying that in print is a sure guarantee there is a black swan event right around the corner. Something will appear out of nowhere to gum up the works and make the bulls rethink their outlook. Until that happens we should buy any breakout to new highs.

This consolidation at the highs over the last week is normal. Fortunately it gives us a clear picture of future trades. Buy new highs and sell a breakdown from the current level. If a decline were to appear I suspect it would be brief and buyable.

However, Art Cashin warned today of a continuing pattern of divergences in the internals that were a warning sign for the market. He pointed out that even though the markets rallied to new highs last week only about one-third of stocks in the indexes were participating. Fewer stocks are pushing the indexes higher. The market strength has rotated from the small caps back to the big caps. That suggests managers are seeking safety in liquidity rather than additional gains in growth stocks. He said we should be concerned the market has reached stall speed and traders should remain nimble.

The S&P set a new closing high on Oct 29th at 1772 and has drifted slowly downward to close at 1763 today. This is not a material move and simply reflects consolidation unless the trend changes materially. The intraday low on Friday was 1752.70 and the low today was 1755.76. Again, there is nothing in these numbers to suggest any material change in the trend. The morning volatility slammed the index back to 1755 and it held and that gave traders confidence to nibble at stocks. However, decliners were 2:1 over advancers even though the S&P only lost -5 points. Beware the divergences as Art cautioned.

Support on the S&P is 1755 followed by 1740. Resistance is the recent high at 1772.


The Dow worries me. The monster rebound from 14,760 to the new high last week looks terribly overbought. The choppy consolidation at the prior market tops from August and September suggests the buyers are tired. The failure to retest the Oct-29th high will continue to grow more ominous as each day passes. We may be consolidating but buyers are an impatient lot. If they don't see some forward motion soon they could abandon those positions and wait for a new buying opportunity.

Support is 15,540 and resistance 15,650 and 15,700.


The Nasdaq is showing the same basic chart as the Dow and S&P but with slightly more bullishness. The Nasdaq sprinted above 3900 two weeks ago and has held that level on multiple tests over the last five days. This is prior uptrend resistance turned uptrend support and so far the index has honored it with only minor dips. The Nasdaq has resistance at 3950 and it closed at 3940. We could be primed for a breakout except that Tesla is going to be a drag on Wednesday.

The Nasdaq trading plan is simple. Buy a breakout over 3950 and sell a breakdown below 3900. Rarely are the signals this clear.


The odor in the chart closet is coming from the Russell 2000. The Russell led the charge to new highs in October but is now the weakest link. Monday saw a rebound from the three week low but that rebound failed today. Support is now 1100 and 1090. Any break below 1090 could send a very negative signal to the market. If fund managers are rotating out of small caps and into the safety of big cap liquidity it means sentiment is shifting. They are preparing for a quick exit sometime in the near future.

Resistance is 1120.


Rarely do we have such a clear cut trading plan. Buy a breakout to new highs and sell a breakdown to new lows. We don't have to be market wizards to profit from this setup. The best of all worlds would be a quick 3% to 5% decline to clear the weak holders and let new buyers into the market. Lacking a decline a sudden surge to new highs would cause another short squeeze because the bears have been loading up on the last four days of lackluster performance. Bears see a breakdown behind every support test and add to positions. A sudden surge could give us the short squeeze we need to breakout to new highs.

Thank you for your patience over the last couple weeks. We moved to a new location and had some unexpected technical challenges with the new data center. All is running smoothly now and we should be set for the future.

Enter passively, exit aggressively!

Jim Brown

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