One day does not make a trend. A short squeeze after three days of losses is normal.

Market Statistics

The short squeeze was triggered by an article on Politico titled "Trump's team and lawmakers making strides on tax reform plan." Unfortunately, 99.99% of traders only heard of the article rather than read it. The article stated there was a broad consensus on some of the best ways to pay for tax cuts. However, having six guys in a room agree on potential changes in the tax code is a long way from actually getting a tax reform bill passed in the House and Senate.

The options discussed included capping the mortgage interest deduction, ending the deductions for state and local taxes, eliminating the interest deduction on business loans and phasing in full expensing of investments in equipment or facilities for small businesses.

We all know that capping the mortgage interest deduction would be a major challenge for voters unless the caps were very high. Killing the deduction for state and local taxes against your federal taxes would also be a major sticking point. High personal tax states in the Northeast and West would be hit hard. The only thing that keeps voters from storming the state capitals every time the local taxes are raised, is that they can deduct it from their federal taxes. Changing that deduction would cause serious problems for high tax states. The lobbying against it would be massive.

Gary Cohn hinted last week that we have a great "skeleton" for tax reform. That is about all it is and you are not going to change 75,000 pages of IRS tax code with a skeleton plan discussed by a six guys in a room over a weekend. The "Big Six" as they are being called includes, Gary Cohn, Steven Mnuchin, Mitch McConnell, Paul Ryan, Orrin Hatch and Kevin Brady. The article also quoted Cohn as saying "we would like to put some skin and muscle on the skeleton and drive tax reform forward by the end of the year." Investors got excited and covered a few shorts and I am sure nobody saw that "end of the year" comment. There was also a comment that any reform program will "require" companies to repatriate cash from overseas. That may not go over well if the government is going to lower the tax only slightly but require repatriation. Another decision being considered is whether to make the cuts permanent or sunset them after 5-10 years.

The short squeeze in response to this headline was definitely a case of premature expectation since nothing has changed and nothing is likely to change until late in the year. The market trend has not changed. Three days down, one day up is normal for Aug/Sep.

Contrary to normal short squeezes where the market gaps higher and then trades sideways the rest of the day, this started as a squeeze at the open but actually rose the rest of the day. This suggests it was not all squeeze. There was some follow through buying. The key will be its ability to last for several days and not fade on Wednesday.


The economic reports were sparse for Tuesday. The FHFA purchase only home price index for June rose 6.5% and slightly less than the 6.9% in May. This was a lagging report for three months ago and it was ignored.

The Richmond Fed Manufacturing Survey for August was flat at 14.0. The only component to change significantly was employment, which rose from 10 to 17 and their highest level since March. This unchanged report was also ignored.



After the bell, the API inventory report showed a decline of 3.595 million barrels of oil. This was significantly smaller than the last EIA report with a decline of -8.9 million barrels. API said gasoline inventories rose 1.402 million barrels with distillates rising 2.048 million. The gasoline inventories were for the week before the eclipse. Given all the driving to and from the eclipse viewing sites it will be interesting to see what happens in next week's report. Various states reported 6-10 times the normal interstate traffic.

Wednesday's calendar has the new home sales with only a minor gain expected. The big event is still the Yellen speech on Friday where she is expected to mention tapering QE. That could have a cooling effect on the market depending on the wording.


Toll Brothers (TOL) reported earnings of 87 cents that beat estimates for 69 cents. Revenue of $1.5 billion rose 18% but missed estimates for $1.51 billion. The average price of a delivered home was $791,400 compared to $842,700 in the year ago quarter. The company has added a new home style of lower priced homes for millennials in addition to their normal luxury homes. These lower priced home sales weighed on the average selling price.

They delivered 1,899 homes, up 26%. They expect to deliver 7,000-7,300 homes in 2017. That was up from prior guidance of 6,950-7,450. The average delivered price is expected to be between $800,000-$825,000. Toll said a recall on floor joists by the manufacturer pushed the completion of 150 homes into 2018. This caused them to narrow their revenue forecast for the full year from $5.4-$6.1 billion to $5.6-$6.0 billion. New orders rose 24% to 2,163 in Q3. Shares declined $1 on the revenue miss.


DSW Inc (DSW) reported earnings of 38 cents compared to estimates for 29 cents. Revenue of $680.4 million also beat estimates for $669.2 million. They guided for full year earnings of $1.45-$1.55 compared to estimates for $1.44. Same store sales rose 0.6% compared to a -1.2% decline in the year ago quarter. They said online sales rose 27% thanks to large growth in mobile traffic. DSW has an active rewards program for online shoppers. Shares spiked 17% on the earnings.


Cosmetic seller Coty Inc (COTY) reported zero earnings compared to estimates for 9 cents. Revenue of $2.24 billion beat estimates for $2.17 billion. For the full year, they reported earnings of 63 cents, down -54%, and missing estimates for 76 cents. On the full year basis revenues declined 5%. They ended the quarter with $535.4 million in cash and $7.2 billion in debt. Shares crashed 9% on the news.


Medtronic (MDT) reported earnings of $1.12 that beat estimates for $1.08. Revenue of $7.39 billion missed estimates for $7.45 billion. The company said it was hurt by a global IT disruption in June and the shortage of diabetes sensors. The company guided for a 4%-5% increase in full year revenue and 9%-10% rise in earnings. Shares fell slightly on the report.


After the bell, Salesforce.com (CRM) reported earnings of 33 cents, which beat estimates for 31 cents. Revenue of $2.56 billion beat estimates for $2.52 billion. They guided for the current quarter for earnings of 36-37 cents and revenue of $2.64-$2.65 billion. Analysts were expecting $2.61 billion. For the full year, they guided for $1.28-$1.31 and revenue of $10.35-$10.40 billion. Shares were down slightly in afterhours.


Chipmaker Cree Inc (CREE) reported earnings of 4 cents that missed estimates for 5 cents. Revenue of $358.9 million beat estimates for $350.3 million. They guided for the current quarter for revenue of $353-$367 million and analysts were expecting $368.5 million. Shares fell 10% in afterhours.


La-Z-Boy (LZB) reported earnings of 24 cents that missed estimates for 29 cents. Revenue of $351.1 million missed estimates for $357.7 million. The company said low volume in their plants was not enough to absorb the fixed costs, which impacted margins. Translated, that means earnings were weak due to slow sales. Shares fell -15% in afterhours.


Earnings for Wednesday will be headlined by Hewlett Packard, Lowes, PVH and Guess. Broadcom is the big dog on Thursday.


After the bell, the Wells Fargo CEO warned employees to brace for another round of negative headlines. He said the bank would announce over the next several weeks the completion of a third party review of the consumer sales scandal. He said, the results will "generate news headlines" but the best thing the bank can do is focus on fixing problems. They have already paid out $5 million in individual settlements and are facing several hundred million more in class action settlements. They have already paid $185 million in fines and penalties. CEO Sloan took over after the bank was found to have opened about 2 million fake accounts without customer authorizations. Shares fell $2 in afterhours but recovered to close unchanged.


Restaurant Brands International (QSR), parent of Tim Hortons, Burger King and Popeye's, was named a "top pick" at UBS. The analyst said the current initiatives are driving earnings, unit growth and same store sales. Shares rose 2.4% on the upgrade.


The Air Force awarded contracts to Boeing (BA) and Northrop Gruman (NOC) to development a replacement for the silo based Minuteman III intercontinental ballistic missile system. The Minuteman missiles are our biggest deterrent against a nuclear strike by another country. Launching a strike against the U.S. by another country would be suicidal for the country launching the strike. The U.S. could obliterate any other country on earth if attacked. The Minuteman missiles are one of the three legs of the nuclear triad with ballistic missile submarines and missiles/bombs delivered by bombers the other two legs. Currently there are 400 silo-based missiles on standby to respond to any attack. However, these missiles are decades old and need to be replaced. These contracts are just the first step in designing a replacement system that does not depend on floppy disks for guidance info. Seriously, they are really old.





Markets

At its lows on Monday, the S&P was down -2.95% from its closing high on August 7th. That is hardly a serious correction. In a normal market, it is common to get declines like that or worse at least once a quarter. Investors are so accustomed to markets only going up, this was a somewhat traumatic event for some. FAANG stocks actually went down. The end of the world was upon us.

After a less than a 1% rebound today, all is right with the world if you believe the chatter from traders. New highs are being predicted and the declining trend has been forgotten. Unfortunately, those who do not learn from history are doomed to repeat it.

There is nothing specific to discuss about the markets this evening. The indexes were down for several days and a short squeeze appeared. Move along, there is nothing to see here.

The key point is that the trend has not changed. If you look at the S&P, Nasdaq and Russell charts, the trend is still bearish. Until the market rallies for a week and starts to break through some of that overhead resistance, it will remain bearish. One day does not make a trend.

The S&P tested support at 2,420 twice and then rebounded to 2,450. Until it moves over 2,475, the trend is still bearish and today's candle is just another lower high.


It was a good day for the Dow. Only 3 components were negative and there were some strong gainers. We would all be thrilled if this continued for the rest of the week but I would not hold my breath. While it is possible, it is not probable.

The Boeing headline caused a $4 spike in the shares and a gain of nearly 28 Dow points. As long as there are 3-4 companies a day with outstanding gains, the index can move higher.

However, resistance is now 22000-22050 and until that level is broken, we remain in a short term down trend. The longer-term trend remains bullish but only over a much longer window. Some of the gains here were definitely short covering after some of the stocks suffered serious declines over the last two weeks. Remember, the Dow was down about 450 points over the last two weeks.



The Nasdaq big caps were back in force today. They powered the Nasdaq Composite to an 84-point gain and the Nasdaq 100 to an 87-point gain. However, you would have thought the gains in the big caps would have caused an even bigger rise but there was still some undercover selling.



The negative trend in the market is easily seen in the Nasdaq chart. The declines are larger than the gains and resistance is still intact.


The Russell 2000 had a nice gain of 14 points but compared to the -103 point decline that was hardly material. The small caps are still the weakest index but they did hold at initial support of 1,350. A break under 1,340 would be the signal to short the market.


Contrary to what I might have implied in the comments above, I am not bearish on the market. I would be thrilled if the rally continued. However, given our point on the calendar, the Yellen speech on Friday and the expected political volatility in September, I simply believe we are at a great risk of further declines than further rallies. One day does not make a trend and until the negative trend changes we should respect the current market direction.

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