The market open was better than a triple cappuccino at producing a strong surge of adrenaline for traders long the market.

Market Statistics

The carnage started overseas when China changed the collateral requirements to buy stocks. They said only AAA or AA bonds could be used as margin collateral. This was the equivalent of raising margin requirements for all Chinese investors. The Shanghai Composite declined -8% before rebounding slightly to close down -5.4% or the equivalent of -960 Dow points. This was the biggest drop since the Great Recession.


Also disrupting markets was news of an early election in Greece and the potential for the radical left Syriza party to win. The Greek ASE crashed -12.8% or the equivalent of nearly -2,000 Dow points. This was the biggest drop in 27 years. Prime Minister Antonis Samaras called for a December vote in a political gamble. If the Syriza party wins they could walk away from the $297 billion Troika bailout program that ends this year and withdraw from the EU.


The declines overseas sent our markets into a panic decline with the Dow falling -222 points at its lows and the Nasdaq down -66. About 10:30 a monster rebound began to push the Nasdaq back into positive territory with a +26 point gain. The Dow was not so fortunate but still finished well off the lows at -51. There was a rumor Mario Draghi was talking up QE for Europe again but I could not find any confirmation.

The financial uncertainty saw investors fleeing into bonds to push the yield on the ten-year down to 2.187% at its lows. As the equity markets recovered the yield rose to 2.23%.


With the drop in oil prices and the turmoil in the overseas markets there is almost no way the Fed can raise rates until late 2015 or even 2016. Every day another analyst pushes his expected rate hike date farther into the future.

On the U.S. economic front the NFIB Small Business Optimism Index rose +2 points. The headline number rose from 96.1 to 98.1 and a new cyclical high. That is the highest level since February 2007. The largest number of respondents since November 2010 at 13% expect the economy to improve over the next six months. That was a 16 point improvement over the prior month and the largest jump since April 2009. Those planning on hiring rose from 10% to 11% and those planning on capex expenditures declined only slightly from 26% to 25%.

The Job Openings and Labor Turnover Survey (JOLTS) for October showed the available jobs increased slightly from 4.7 million to 4.8 million. The openings rate rose to 3.3%. Hires declined from 5.075 million to 5.056 million. Separations increased from 4.809 million to 4.824 million. Quits declined from 2.735 million to 2.72 million. Layoffs increased from 1.653 million to 1.7 million.

While the headline number appeared to show a positive improvement the internal components above showed a negative bias. This report is ignored by the market because it is lagging data from two months ago.

The calendar for Wednesday has nothing of importance for the market. Thursday provides a little more with the Retail Sales for November as the highlight.

The big event is still the FOMC meeting for next week. We are likely to see the end of the "considerable period" language and investors will want to see how they word the replacement phrase.


Helping crush the Dow this morning was a -4% drop in Dow component Verizon. The company said it was losing customers because of increased competition and it will become more aggressive to counter promotions by rivals. This will pressure earnings in Q4. The company said customers are departing at a higher rate than they did in the prior three quarters. This higher churn rate is occurring despite a wider acceptance of 4G and upgrade from 3G phones. Last week Sprint advertised it would cut customer bills in half if they would switch from AT&T and Verizon.

Cowen & Company said "value oriented customers" appear to be shifting to T-Mobile and Sprint while Verizon and AT&T continue to battle over higher spenders. Verizon declined -$2 to account for -16 Dow points and AT&T lost $1 for -8 Dow points. Shares in all the carriers declined on worries over a 2015 price war. AT&T fell -3%, Sprint -4% and T-Mobile -5.4%.


Dow component Merck (MRK) fell -$2 after the company said it was still committed to the Cubist (CBST) acquisition despite a court ruling that will allow faster generic replacements for their best selling product. Cubicin is the largest selling product for Cubist and used to fight skin infections. However, a district judge in Delaware invalidated 4 Cubicin patents and ruled that Hospira can offer a generic replacement as early as 2016, some 2 years earlier than expected. Merck said it was considering an appeal of the decision. MRK lost -$2 or -16 Dow points.


Citigroup warned on Q4 earnings saying they would take a $3.5 billion charge for various problems. They will take a $2.7 billion charge for settling foreign exchange, LIBOR and money laundering cases. They will take another $800 million in charges for closing down some overseas operations in a restructuring effort to shrink its global footprint. The charges will basically erase any chance for a material profit in Q4. All of these issues are well known but apparently Citigroup had underestimated the legal ramifications and the extent of the potential fines. Citi also said revenue would decline about 5%. Citi shares declined slightly.


Bank of America (BAC) warned lower trading revenue in Q4 would pressure earnings. The CEO said low trading volume was only one of the revenue headwinds that were facing the bank in Q4. The COO said he had cut costs in the markets division reducing the amount of trading revenue needed to break even from $3.5 billion to $2.5 billion. Shares declined slightly on the news.


Bluebird Bio (BLUE) spiked 72% to $84 after reporting a successful trial for a gene therapy that will allow patients with anemia and low hemoglobin to skip blood transfusions. Patients in the trial were able to go 5 months or more without a transfusion. The company extracts blood stem cells from the patient and then corrects the defective gene and the blood is re-injected back into the patient where the new gene performs correctly.


Beleagered CEO Michael Jefferies, who topped several polls as the worst CEO, abruptly resigned from Abercrombie & Fitch. The resignation was immediate. Falling sales, repeated scandals, stiffer competition and changing tastes finally took its toll on Jefferies. Activist hedge funds had lobbied for him to be replaced after he said ANF goes after "attractive kids who can fit into our clothes" and alienated millions of customers. He will get $5.5 million in severance benefits. His employment contract was not up until February so odds are good sales are not doing well this quarter. Shares rallied +8% on the news.


After the bell YUM Brands (YUM) slashed its outlook for Q4 and the full year saying sales were not recovering quickly from a food scare in China. The company cut its full year profit growth to 5%, down from the 6-10% prior estimate and the "at least 20%" forecast from earlier in the year. YUM and MCD both suffered after a meat processor in China was found to be selling out of date meat. This scared away customers once again. A similar scare last year took almost a year to recover. Food safety and cleanliness in China has a very bad record. YUM shares declined -6% in afterhours.


Conn's Inc (CONN) cancelled its 2015 guidance saying credit delinquencies were a growing problem. The company also said the COO would be leaving immediately and that is not a good sign. Two months ago Conn's said it was investigating strategic alternatives including a possible sale. Conn's missed on Q3 earnings on both revenue and earnings with the credit division posting a -$33.2 million loss. Shares fell -41%.


Late in the afternoon the Federal Reserve said it was going to assess capital surcharges for banks deemed too big to fail starting in January 2016. The 8 banks named were JPM, BK, C, BAC, GS, MS, STT and WFC. The surcharges would range from 1.0% to 4.5% of risk weighted assets annually.

Here is the kicker. In the press release the Fed said net capital shortfall for the 8 banks mentioned was $21 billion. That means they have to come up with $21 billion in additional capital by the end of 2019. However, during a Fed conversation the Vice Chair, Stanley Fischer, said $22 billion of that was additional capital required by JP Morgan. That means the entire $21 billion in the press release was actually all JP Morgan and the other banks actually have a small surplus in the aggregate. Since JP Morgan makes about $20 billion a year in profits they can accumulate that additional capital by retaining earnings until the total is reached.


Crude prices were stable today above $63 where WTI may be trying to put in a bottom. However, external events suggest this level may not hold. Kuwait Petroleum said prices would remain in the $65 range for at least half a year until OPEC cuts production or economic growth rebounds. Kuwait produces about 2.9 mbpd. Prices have declined about 40% from the highs in June. Economic weakness in Europe, China and Japan has reduced demand and analysts believe there is 1.8 million barrels per day of excess production.

Iraq followed Saudi Arabia in slashing prices to Asia offering the largest discount in 11 years. Iraq set the discount to $4 per barrel below the average of the Oman and Dubai grades. Those are the benchmark grades for the Middle East. Saudi Arabia announced a $2 discount about a month ago and that accelerated the selling in crude. That is the widest Saudi discount since June 2000.

OPEC produced 30.56 mbpd in November, down about 420,000 bpd from October. The U.S. produced 9.083 mbpd last week and that is the most since January 1983.

Some technicians are targeting $53.50 for WTI prices because bear markets in oil typically retrace 50% from their highs. With the high at $107 in June a 50% drop would take it back to that level. There is also support at the $57.50 level from the monthly lows in 2007. Either level would create an entirely new round of carnage in the energy sector.

Companies are already slashing capex plans with Conoco (COP) saying they will cut capex by -20% in 2015 and they are just one of many that have already announced. Drillers in the Bakken are saying there will be no more wells if the price falls under $60. Several other shale plays with breakeven numbers well over $70 will be shutting down even faster. For the shale producers in the Bakken their oil prices are already in that mid $50 level. Bakken crude was selling for $54 late last week. They have to discount it because of transportation issues from North Dakota. Getting only $54 per barrel definitely makes most new wells unprofitable.

There have been multiple rumors of a potential emergency OPEC meeting in either January or March. The next scheduled production meeting is on June 5th. Rumors are just rumors until something is actually announced. However, if OPEC does announce an emergency meeting I would go "all in" on energy stocks. There is no reason to call an emergency meeting except to cut production. Many of the OPEC nations are seriously suffering with prices this low. At least half of the 12 OPEC nations have budgetary problems with anything under $90 and we are way under $90 today.

These low prices are going to be self perpetuating because the only way to make up that lost revenue is to produce more oil. They will be pumping every barrel they can to offset the revenue decline.

On the positive side Goldman Sachs claims every 25 cent decline in gasoline creates another 500,000 bpd of demand. With gas down from $3.31 to $2.70 today that is more than one million barrels of additional demand. It does not happen overnight because it takes a while for driving habits to change. Once they do the change will last for a long time even if prices begin to rise. American consumers are saving $630 million a day compared to the price they paid in June. That would equate to a $230 billion windfall if prices stayed at this level for a year.

Energy insiders, officers in energy companies, are buying stocks at a frantic pace. Time Rochford, co-founder of Ring Energy said "this is an absolute fire sale. It is an overreaction and stocks are oversold." He is one of 118 energy insiders that have purchased shares in their companies in November. Bloomberg said it was the biggest wave of insider buying since 2012. The number of insider buys has increased +64% from last November and more than doubled the average from the first ten months of 2014. Lowes Corp, a major shareholder in Diamond Offshore bought 1.18 million shares in November and another 410,000 shares last week. The CEO of Lowes said the selloff in the industry will allow Diamond to acquire assets at a cheaper price. "Hopefully this will allow Diamond to acquire rigs at a discount." The chairman of Chesapeake Energy bought 500,000 shares and the most since he joined the board in 2012.

Energy earnings are expected to drop -15% in Q4 for the worst performance of any S&P sector.


Markets

The rebound today was very telling. It is one thing to sell off -66 points on the Nasdaq but when it is followed by an +91 point rebound that tells you all you need to know about the market. Dip buyers are alive and well and they showed up in volume. Everyone worried about the December rally at 10:AM had a completely different view by 4:PM.

The Dow did not make it back to positive territory because of the losses in Verizon, Merck, McDonalds, Coke and AT&T. Their -7 point collective loss knocked more than 50 points off the Dow and that is exactly where it closed at -51.

The highlight of the day was the Russell 2000. The Russell dropped -10 points at the open then rebounded to close up +21. That is a rebound to be proud of. The motivational factor there was the small gain in crude prices or maybe I should say the lack of a drop. The majority of energy stocks posted decent gains and there are a lot of energy stocks in the Russell 2000.


The Russell is typically weak in late November and early December and then rallies into yearend. This index has vaulted back into the leading indicator position for the rest of December. If the Russell can push through that overhead resistance it will probably lead the big cap indexes for the rest of the year.


The S&P crashed below support at 2,050 at the open but surged back from the 2,034 low to close at 2,060. That +26 point rebound was just enough to get it back to the flat line for the day but remarkable nonetheless. The close back above support at 2,050 was a milestone event. The morning drop cleared a lot of stop losses and weak holders and the rebound was on strong volume. The 7.3 billion shares was the second highest volume since October 31st.

I view the morning drop as a knee jerk reaction to China and Greece and nothing to do with our market fundamentals. I still see 2,050 as support and 2,075 as resistance.


The Dow has been whipped around by individual stocks for the last week. The big caps are still strong but the individual stories are causing havoc. Unfortunately those stories eventually begin to mount up and can cause a change in market sentiment. We have had multiple warnings from Dow stocks and we are starting to hear more and more comments about the strong dollar and weak European economics weighing on earnings. Let's hope that does not turn into a tsunami as we move farther into the earnings warning season.

The Dow did not make it back to positive territory but it did manage to close back above 17,800. That is a sentiment win for the bulls. We have several weak levels of support in the 17,725 to 17,775 range so a close over the round number gives us something to fall back to without damaging the prior trend.



The Nasdaq, like the Russell, rebound strongly from the gap down open. There was no doubt about the tech stocks. Only 15 lost more than $2 with quite a few gaining more than that. Amazon, Google, Netflix and Apple all participated in the rebound and all sectors appeared to participate. The biotech sector was the black sheep with a few losers.


The gap down open did not reach critical support at 4,650 but it did break interim support at 4,725 for most of the morning. The rebound to 4,766 quickly reestablished that level as support again for tomorrow.

I view this rebound as very bullish for the rest of the week as long as that 4,725 level is not violated again. If future gains can move over Monday's resistance at 4,790 then I would expect us to finish the week a lot higher.


I felt really depressed at the open today. I had visions of Greece and EU problems coming back to haunt us again. Fortunately at this point I don't think investors are really interested in what happens to Greece.

The big drop in China was overdue. The markets had been going vertical for the last two weeks and China simply reacted to tone down the irrational exuberance. No harm, no foul but their market weakness could last for several more days.

I still believe the historical trend for a bullish December will hold despite the non historical drag of Europe, Japan and China. Money is flowing into the U.S. from those areas as evidenced by the strength of the bond market. We are the best house on a bad block and that should lift our markets for the rest of the year.

Annual End of Year Renewal Special

It is that time of year again when we offer the best prices of the year on a package of our top newsletters. If you have been a subscriber for several years you know this is the best price and best deal of the year.

Please follow the link below to see for yourself the EOY subscription special for 2015. You will not be disappointed!

Enter passively, exit aggressively!

Jim Brown

Send Jim an email