The trend for the Tuesday before a Fed announcement to be positive was terminated today.

Market Statistics

The equity markets crashed at the open after crude prices collapsed to $47 on news Saudi Arabia, the leader of the OPEC production cut group, actually produced more oil in February than January. This is the country that bragged last month about how much they cut and how successful the production cut agreement was this time. The news shocked traders and everyone raced to the exits. Later in the day, Saudi Arabia said they were not exporting the oil but storing it for future use. That headline allowed crude to rebound to $48.50 and the equity markets recovered about half their opening losses. That six-day drop from $54 to $47 was -12.9% and crude has now moved into oversold territory.


The economic reports were ignored ahead of Wednesday's Fed decision.

The Manpower Employment Outlook Survey for Q2 found that 39 out of 43 countries expected to expand employment in Q2. The component for net employment in the U.S. rose from 16 to 17. In the U.S. the percentage of respondents expecting to increase hiring rose from 19% for Q1 to 22% for Q2. Those expecting to cut workers fell from 6% to 3%. Those expecting no chance were flat at 73%.

The NFIB Small Business Survey for February declined slightly from 105.9 to 105.3. This was the first decline since September. Economic expectations dipped slightly from 48 to 47. Hiring plans fell from 18 to 15, sales expectations fell from 29 to 26. Nearly every other component declined slightly. Note the post election bounce in the chart below. Some of that optimism is bleeding off as congressional realities appear.

Moody's Chart

The Producer Price Index for February rose +0.3% after a +0.6% rise in January. Analysts expected flat prices for the month. Goods prices rose +0.3% and services prices rose +0.4%. On a trailing 12-month basis, the PPI is up +2.2% with goods prices up 4.0% and services up 1.3%. Analysts believe the rise in crude prices were responsible for the sharp increase in the PPI over the last three months.

The next two days will produce a flood of headlines as the Fed reveals their rate decision, the debt ceiling suspension expires and the Dutch election is held on Wednesday. The Fed is widely expected to hike rates and the futures are predicting a 93% chance of that event. It is the language in the statement and the press conference that will drive the markets.


The debt ceiling suspension expires on Wednesday and I have already heard/seen more comments about that in the last 24 hours than in the last 24 days. Senator McConnell said "obviously, we will raise the debt ceiling" but the timing is unclear. Some House members are already talking about tying an increase to some kind of legislation that will reduce the deficit or other pieces of legislation that could not pass otherwise. Senator Chuck Schumer and House minority leader Nancy Pelosi have already warned that democrats would not support any bill that was not clean with no other items attached. The lines are being drawn and there will be a fight. President Trump and his OMB chief have both said in the past that republicans have always been too willing to raise the limits. He campaigned on reducing the debt. This could evolve into a fight that involves the president in retaliation for democrats blocking his nominees and to establish who has the biggest clout. The market would not act favorably to that prospect.

The Dutch election is important because a win by anti-Islam, anti-immigrant, anti-EU, anti Euro candidate Geert Wilders would be a blow to the EU and the currency.

On Thursday the Swiss central bank, Bank of England and Bank of Japan will all update their monetary policy. They are not expected to make any sudden moves but you can never tell what may come out of those events.

There is a flurry of economic reports on Wednesday as well with the Housing Index and Retail Sales the most important.


Shoe retailer DSW Inc (DSW) reported earnings of 20 cents that beat estimates for 16 cents. Revenue of $674.6 million missed estimates for $695.5 million. Unfortunately, same store sales fell -7% and more than the estimates for a 5% drop. Sales per square foot of space declined -8.8%. Inventory levels remained about $25 million over analyst expectations. Analysts said DSW did not make the appropriate markdown to move slow inventory in the quarter. Analysts said the roughly 1,600 retail store closings already announced by chains like Macys, Pennys and others, would be a problem for DWS because of the liquidation prices available as those stores close. In the longer run, it will be a positive because those stores will no longer be competitors in those areas.


HD Supply (HDS) reported earnings of 44 cents compared to estimates for 44 cents. Revenue of $1.63 billion also matched estimates. You do not see that very often where both metrics are matched. For the current quarter, the company expects earnings of 60-68 cents on revenue of $1.84-$1.89 billion. That was below consensus for 72 cents on earnings but slightly above revenue estimates for $1.85 billion. Shares fell 4% on the news.


China social network YY Inc (YY) reported earnings of $1.46 on revenue of $357.8 million. The company guided for Q1 revenue of $318 to $332.6 million with the midpoint at $325.3 million. That missed estimates at $330.8 million. They ended the quarter with 56 million active mobile users, up 4.8% and 96 million active PC users. Shares fell -4% on the guidance.


The earnings cycle is really winding down with Oracle and Adobe the highlights for the rest of the week.


Disney (DIS) was upgraded to a buy from neutral at Guggenheim and the analyst raised his price target from $118 to $128. The analyst said the major theme park upgrades should breathe new life into the earnings. With a new slate of movies on tap later this year the winning streak should continue. This was perfect timing for our new play that we entered at the open today.


Corning (GLW) was downgraded by Goldman to neutral from buy and the price target lowered from $32 to $29. The analyst said valuations had become stretched. Shares fell -3% on the news.


Valeant Pharmaceuticals (VRX) was getting a lot of attention on Tuesday after Bill Ackman said he closed his 27.2 million-share position for $11 a share or $330 million. He bought into the position around $190 and then doubled down when shares were about $95. Reports claim he took a $3 billion loss. Ackman said even if Valeant doubled it would not move the needle for his hedge fund Pershing Square Capital.

This is a big problem for Valeant. Bill Ackman has nearly unlimited patience. For him to throw in the towel at $11 suggests there are some dark days ahead for Valeant. If he thought the stock had a chance at recovery, he would probably have stuck with it. Now that he is out and he is leaving the board, the rumors are going to be flying of all sorts of problems ahead both real and imaginary. They have at least a dozen probes under way by regulators, multiple class action suits and a massive $30 billion debt load that they cannot ease by selling more shares at $11. If they just return to the bottom of their downtrend channel the stock would be $7.


Tesla (TSLA) shares spiked 5% after a British car publication called Autocar, said the company would be building a compact SUV called the Model Y that would sell for slightly more than the Model 3. They even produced a picture of the rumored crossover with a very sleek design. The publication said the new model could be a very popular seller and immediate winner. However, there was not a shred of proof that the story was true.


Elon Musk has said his next vehicle project will be heavy-duty trucks and high passenger density urban transports, similar to small busses. Those are expected to be unveiled later this year.

Tesla is ready to begin shipping the upgraded versions of the Model S and Model X with a 100 KWh battery. The Model S can go 335 miles on a charge and the Model X 295 miles. The cars are ready but Tesla is waiting on EPA approval.

Short seller Andrew Left said on Monday he had exited his short on Tesla. His tone seemed to indicate he had not been successful. He said he exited and "now it will probably go down." He should be glad he got out before today's spike.


Left's next target is Transdigm (TDG) and he expects that stock to fall 40% over the next two weeks. On Friday, he said the stock could fall to $140 and could be the next Valeant but he did not expect it to unwind completely. Left said Transdigm's "days of exploiting and deceiving the Federal Government are numbered." He quoted an inquiry by the Defense Logistics Agency researching disclosures by 12 subsidiaries providing inaccurate ownership information in an annual filing.



Markets

Investors have chosen sides and placed their bets. Now they are waiting for the coming headline storm and hoping they chose correctly. There is really no way of picking a direction today. The major indexes, with the exception of the Nasdaq, all dropped back to retest support at the open on Tuesday and all rebounded slightly from that support test. They did not recover all their losses but enough to lift them back over those support levels.

The small cap stocks were again the weakest with the S&P-600 falling back to critical support at 825. That is about the tenth time that level has been tested in 2017 and if we test it enough it will fail.

The problem with the small caps is that they rallied about 21% post election on optimism about decreased regulation and lower taxes. That is very important for small businesses. That 21% gain has been in consolidation mode for the last three months. Unfortunately, the uproar over the new healthcare plan appears to be increasing rather than decreasing and the odds for passage before the August recess are slipping away. For the small cap stocks that means the potential for a tax proposal getting approved in 2018 is also slipping away. This has not yet become common knowledge but as it does, the small caps are going to weaken further.


The S&P-500 retested initial support at 2,360 and the rebound was lackluster. This is exactly where you would expect the index to settle and wait for the various headlines to pass. If the news is bad, any decline should find support around 2,300. If the news is good, the index is at a launch point where it could easily retest the highs at 2,400. We are just watching and waiting for the headline storm.


The Dow retested support at 20,800 and closed only slightly above that level. The Dow chart is turning bearish and a sell the news event on Wednesday could cause a significant decline. The support is so widely known that it is an obvious point for sell stops if it is broken. The financials are not supporting the index even with an obvious rate hike ahead. That news has been priced in for weeks and the financials are already fading. Add in the weakness in Chevron and Exxon because of the oil price crash and the Dow is vulnerable.



The Nasdaq remains the strongest index with the Nasdaq 100 setting a new high on Monday. Both indexes pulled back slightly on Tuesday but remain well above support. The big cap techs are still holding their gains and could lead us higher on positive headlines on Wednesday afternoon.




Analyst Jeff Bierman compared the current market to the Titanic. The ship's captain ignored six different warnings about icebergs in the area and continued to sail at high speed. When the fatal iceberg was spotted, it was too late to avoid it. Even after the collision, it took hours to sink. He believes the market is sailing at high speed through an environment with multiple icebergs ahead. Investors are so complacent they are like the passengers sitting in the lounge listening to the band while the ship slowly took on water. The captain ordered the band to play to distract passengers.

With the market volatility at three month lows and only slightly off three year lows, the complacency is definitely in place. Investors have convinced themselves there is no danger and the new administration is going to implement so many changes that the market and economy will only move higher. We could be entering a phase where that idea is going to run head first into congressional roadblocks that could take months to resolve. Once those roadblocks become apparent, we could see a change in trend.


The "Sell in May and go away" cycle this year could be especially rough. Investors have a lot of profits from the post election bounce and without any further market progress the arrival of May could be a problem. Actually, the cycle could start early this year for the reasons listed above.

Like everyone else, I am long until the trend changes. I am keeping my stop losses in place and I will let the market take me out rather than forcing myself to make that decision every day. If you get to the point where you start thinking about lowering your stop losses, the end is near. In the long run, that will only cost you money. Bill Ackman is wishing he had set a stop loss $3 billion dollars ago. Set an accurate stop loss and stick to it. There is always another day to trade if there is money in your account.

Happy PI day. Today is 3/14 and that is the first 3 digits in the mathematical constant of PI or 3.14159265359. Today is international PI day. Personally, I prefer the other pie with apple my favorite.


Enter passively, exit aggressively!

Jim Brown

Send Jim an email

 

If you like the market commentary you have been receiving and you are on a free trial then now is the time to subscribe. Don't wait until you miss a newsletter to decide you want to take the plunge.

subscribe now