The markets appeared fearful that Santa would leave them a lump of coal in their stocking for Christmas. The economic Christmas cards traders received during the week contained multiple warnings that the New Year may be rocky. This dampened expectations for market performance and traders continued taking profits in winners ahead of the holidays.
Dow Chart - Daily
Nasdaq Chart - Daily
The Durable Goods report for November rebounded with a +1.9% headline gain. This put the report back on track after two months of monster imbalances. In September there was a spike of +8.7% followed by a dip of -8.2% in October. Those numbers were obviously anomalies due to huge orders for Boeing planes in September (+21%) and are now just a footnote in the past. However, the news was not as good as it appeared on the surface. The +1.9% headline number dropped to a loss of -1.4% for capital goods and -1.1% for durable goods once transportation orders were removed. The +40% increase in defense aircraft orders and +7.2% gain in civilian aircraft orders distorted the headline number significantly once again. Orders ex-transportation have fallen four of the last five months. Orders for core capital goods, a proxy for business investment spending fell -1.4% following a drop of -3.9% in October. This suggests businesses are pulling back from investing for 2007 until they see where the economy is going. Inventory levels continue to rise and present the biggest risk to the manufacturing sector with the inventory to sales ratio for autos the highest it has been since 2000. Other categories are also at multiyear highs many at their highest level since 2003. This is not a good sign but one that is consistent with an economic slowdown. The key is to manage it into a soft landing rather than a crash. You may recall the ISM Manufacturing Survey for November showed a contraction for the first time since mid-2003. There is no question the economy is picking up speed to the downside.
Personal Income rose +0.3% in November while spending rose +0.5%. That should be no surprise to anyone that consumers are still spending more than they make. The savings rate fell -1.0% while wages and salaries rose +0.3% to stretch their gains to +6.3% over the last 12 months. The key indicator in this report was an unchanged Core PCE deflator, which brought down the 12-month change to +2.2%. This is the number one indicator used by the Fed to gauge inflation and any drop is a welcome sign. This was the first drop since the high of +2.4% was reached in August. That high held unchanged for three months. Core prices were also unchanged and this was the first time since Oct-2002 they have not risen. Top line inflation did rise by +1.9% after having fallen to 1.5% in October. This is still well below the highs of 3.5% seen back in June.
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The final reading for December Consumer Sentiment rose to 91.7 from the preliminary reading of 90.2 but was still below the November level of 92.1. For all practical purposes both readings were an insignificant change. Rising gasoline prices are being offset by holiday cheer with the minor rebound in the housing market letting consumers breathe easier. The rise in wages seen in the personal income report is also good news for workers.
Earlier this week we saw the GDP revised downward to +2.0% growth from +2.2% and the Philly Fed Survey drop -9 points into negative territory at -4.3 and the Chicago Fed National Activity Index posted its 3rd consecutive month in negative territory with a -0.26 reading. In only a week the economics have done a complete 180 reversal and the potential for a Fed rate cut rose once again. This weekly reversal in economic data is simply demonstrating that economic volatility is increasing and nobody has a firm grip on direction. The markets are not likely to continue their upward direction until this economic haze clears.
Next week we have another manufacturing survey on Tuesday from the Richmond Fed followed by the Kansas Fed survey on Thursday. The Chicago Purchasing Managers Index (PMI) also on Thursday will give us another look at prices paid and inventory levels. Last months PMI reading of 49 was the first reading under 50 since April-2003 and well off the cycle high of 69 in March-05.
Ten-Year Note Yield Chart - Monthly
Stock news was almost nonexistent with most traders, analysts and news desks more concerned about leaving for the holiday rather than some obscure earnings warning. RedHat (RHT) was the big winner with a +25% gain after reporting earnings that beat the street. Revenues jumped +43% with earnings of 14 cents. The stock had been trading down since May on fears that Oracle was going to take over that space.
Micron (MU) gained +3.4% after an earnings report that showed margins were benefiting from stronger sales of memory chips. Sales rose +16% with earnings of 25 cents well over the analyst consensus of 20 cents. Micron said the demand for DRAM chips was strong and they had shipped everything they could make ahead of the user version of Vista due out next quarter.
Research in Motion (RIMM) fell -3.70 after it missed earnings by a penny and gave weaker guidance than analysts had expected. RIMM said Q4 earnings would be in a range of 92-99 cents where analysts were expecting the high end at 98 cents. RIMM added 875,000 subscribers in Q3.
Crude Oil Chart - Daily
Oil finished down only slightly at 62.45 with no material events to provide motive power. Shell finally gave up on the Sakhalin-2 project and turned control over to Russia. It was either give them control or lose their investment entirely. Russia decided several months ago they wanted a piece of this project and began pressuring Shell and the two Japanese investors who owned the project to sell a 51% stake to Russia. Shell refused and promptly had their license threatened and were charged with environmental violations. With the threats increasing and no help forthcoming from ruling bodies outside Russia Shell finally agreed to "sell" half of the project to state owned Gazprom. Under the deal Gazprom will buy 50% plus 1 share in the $22 billion development for $7.5B. The current investors will each see their stake cut in half. Shell will end up with 27.5%, Mitsui 12.5% and Mitsubishi 10%. Once Russia set their sights on owning a controlling interest in Sakhalin-2 it was a losing battle for the original investors. They were going to lose no matter how hard they fought and at least this way Russia was forced to pay them something for their investment due to the high profile news surrounding the takeover. It was nice that Russia waited for the $22 billion project to near completion before deciding to take control. No need to jump in early and have to pay those pesky start up costs. Of course Putin disclaimed any involvement in the blackmail leading up to the deal. "The fact that Gazprom has taken a decision to participate in the work of Skahlin-2 is a corporate decision," Putin said. "The government of the Russian Federation has been informed about this and we have no objections." If you believe that you are dumber than a box of rocks.
Russia is quickly gaining control of every energy project within its borders with BP the next company under siege with new environmental charges being levied against its project in northern Russia. The lesson should be clear to any private firm thinking about doing business in Russia. DON'T DO IT! Some analysts think this is just the first stage of the energy grab and once Russian workers understand the technology and the complexities of running the various projects there will be another round of charges against the minority owners forcing them out altogether. This is the main reason I quit recommending ConocoPhillips over a year ago once they started pouring money into Lukoil to acquire a 20% share. Russia basically told them if they wanted to do business in Russia they would be required to make the investment. That investment can now be erased with the stroke of a pen.
Friday was a ghost town in the markets with volume across all markets only 3.2B shares. This is well off the 6 billion level seen the prior Friday. Nobody expected it to be any different but the direction was the surprise. Sellers appeared to overpower what few buyers had lingered to see the final bell. Internals were better than 2:1 to the downside.
The name of the game for the week was selling winners and I am surprised the indexes did not fall any further than they did. Examples of profit taking included Apple Computer (APPL) -5.2%, Wynn Resorts (WYNN) -4.2%, Google (GOOG) -5.3% and Chicago Mercantile Exchange (CME) -4.5%. This was happening on a broad scale and the Nasdaq seemed to bear the brunt of the selling.
The Dow Transports fell all the way to 4500 from last Friday's high of just over 4750 for a -4% drop. Only the oil sector suffered larger losses with the oil indexes down more than 4% and the oil service index down nearly -6%. Whatever had been a strong performer for the last quarter was taken to the cleaners ahead of year-end. I warned everyone for the last three weeks that this was coming and we still have a week to go although most of the portfolio shuffling should already be done. The funds try to make the changes before the holidays and maintain a skeleton crew from now till year-end.
Dow Transport Chart - Daily
For the next seven days the average gain since 1950 is +1.5% as year-end retirement contributions and holiday bonuses are put to work in the market. While Santa is making his rounds it is investors who are making a list and checking it twice of the additions they want to make to their portfolios for the coming year. At this point I would definitely wait until mid January before making any long-term commitments. Odds are increasing that you will have a chance to buy them lower over the next five weeks.
The Dow, with only a -102 point drop for the week was the best performing index. After coming within 1.7 points of tagging 12500 on Wednesday it was all down hill but 12350 emerged as decent support on Friday's swoon. Stronger support remains 12250-12300 followed by 12000-12050. Personally I believe if we break 12250 we could see a much bigger correction appear.
The Nasdaq literally crumbled from Monday's 2471 high to close just over 2400 on Friday. The -2.28% drop on the Nasdaq Composite was beaten by the Nasdaq-100 with a drop of -3.3%. Nasdaq 2400 should be decent support but with the weakness in chips we could easily see this support break and a new plunge to 2325. The Russell-2000 actually firmed slightly midweek and I thought for a day or so we might be seeing a change in sentiment by fund managers but the flush intraday on Thursday convinced me otherwise.
The S&P-500 performed almost exactly as I expected with another half hearted attempt to retest the highs and then a complete roll over into Friday's close. If you recall I told you on Tuesday I had turned bearish and exited my long positions in preparation for going short on any rebound weakness or a break of 1418. Tuesday afternoon's rebound from 1418 managed to hit 1429 before a solid bout of selling took hold pushing the index to 1410 on Friday. It was a perfect setup and follow through and I hope you followed my suggestion.
SPX Chart - Daily
EBAY Chart - Daily
I also mentioned last Sunday that I felt a short/put on Ebay was a wise move. Unfortunately I was targeting the 2-3rd of January for an entry. If you were watching it after my mention you would have seen a strong pattern of selling appear beginning on Monday morning that pressured EBAY to close at the low for the week on Friday at $30.24. This resulted in a -9% drop for the week but I don't think it is over yet. We could easily see EBAY continue downward to real support at $26. January is typically weak for Ebay and with this dive beginning early we could see a lot of follow through once January appears. I missed getting in at the top this week but I did buy some puts a week earlier than I had planned once I saw there was not going to be a rebound.
For next week I would remain cautious. I know the next seven days are historically bullish but any rebound may just provide fund managers another bounce to sell. Hopefully they are done with year end portfolio shuffling as I mentioned earlier. The end of year rally typically occurs on the last five days of the year and the first two of the new year. In 2006 the early January bounce lasted seven days before a two-week slide began. December had closed weak. In 2005 the January bounce lasted one day before a three-week slide appeared. 2004 had closed with a bang after the markets went nearly vertical gaining +1100 points on the Dow from the October correction bottom. It was only logical that profit taking would occur once safely into the new tax year. In January 2004 the opening January bounce lasted 5 days before a week long profit taking session appeared. December had been very strong and that carried over into January with the eventual January high being made on the 26th.
I laid out all that Dec/Jan history to illustrate what I expect to happen this January. The markets have been very strong since July with only four light bouts of profit taking. Basically they were better described as dips to buy rather than decent selling pauses. The last one lasted only two days right after Thanksgiving. I believe there is a huge amount of profit still being held in portfolios and we could see that profit taken in January once safely into the 2007 tax year. It is one thing to be bullish and another to be stupid. We should prepare for the worst, a sharp drop to Dow 12000 or so where traders would then pause to view the economic surroundings and the beginning of the January earnings cycle. Next week is the beginning of the warning period so we could get our first taste of investor sentiment should any material warnings appear. The markets are still very overbought and bullish sentiment was at multiyear highs just last week. I missed buying calls on the VIX when it bottomed at 9.39 last Friday but I remedied that on Wednesday when it returned temporarily to 10.03. The 12.50 calls were cheap thanks to all the bulls buying the Tuesday afternoon dip. I exited my shorts on Friday given the historical gains for the week after Christmas but beginning Tuesday I will be looking to enter new short positions on any end of year bounce. If you are looking for direction it would be to short a break of SPX 1410 or on any weakness should a holiday bounce actually appear. I would NOT go long the broader market for any reason until reassessing in mid January. We did get the dip in energy stocks I was expecting and I do continue to hold energy stocks and add to them on the dips. After doing weeks of additional research for my end of year energy update report I am even more convinced that energy is the only reasonably safe long-term investment. There will always be peaks and valleys regardless of what you own but the trend in energy should always be up.
I am sure everyone has received the end of year renewal offer by email and I
strongly suggest taking advantage of the steep discount and renewal premiums. I
deeply appreciate your continued support of the Option Investor family of
newsletters and I look forward to the many opportunities
ahead of us as
investors in 2007. As Santa would say, "Merry Christmas to all and to all a good
Lockheed Martin - LMT - close: 91.70 change: -0.24 stop: 88.99
LMT struggled a little on Friday but still managed to use its 10-dma ($91.23) for support and it suffered less than the broader market's sell off. Because it's reaching overbought we don't suggest any new plays at this time. A pullback to its uptrend line from June and its 50-dma, both located just under $89, would provide a good opportunity for a new entry. If that support doesn't hold then we have our stop in the correct place. We have two upside targets--our conservative target is the $94.85-95.00 range; our more aggressive target is in the $99-100 range.
Picked on November 29 at $ 90.62
Intuitive Surgical- ISRG - close: 97.02 chg: -1.94 stop: 104.05
With ISRG down 9 days (with a minor bump up in the middle of that) it would appear this stock is ready for at least a bounce but so far our short play is looking good. Today tacked on another 2% decline. We'd like to keep the stop far enough away so as not to get hit on a whipsaw but today is a good day to ratchet it down some. We're lowered the stop to $102.60 which keeps it above its 20, 50 and 100-dma's. It also gets it closer to our entry price. Our target is the $96.00-95.00 range. WE do not want to hold over the early February earnings report. With the stock oversold and price nearing an uptrend line from August, currently at $95.60, we're suggesting taking profits and exiting the play if $95.80 is tagged. There is a gap up on November 20, 2006 that would be closed at $95.79. We can always look for another entry on a bounce.
Picked on December 18 at $102.05
Mohawk Industries - MHK - close: 74.27 chg: -0.49 stop: 79.01
MHK looks like it's ready to break support in the $75 area. Friday's close was below its 200-dma at $74.51. But Friday's sell off was on low volume and may not mean much. Watch for potential support at its uptrend line from July, currently near $73.25. A bounce back up to its 10-dma at $75.73 or 20-dma at $76.55 would not be out of the ordinary and could make for another entry point for a short play. A break below its uptrend line would also be a good entry. In the meantime we'll keep our stop above the December highs in case we see a bounce to relieve its oversold conditions. Our downside target is the $70.75-70.00 range, near November's low.
Picked on December 17 at $ 76.02
3M Co. - MMM - close: 78.35 change: -0.46 stop: 80.01
After dropping from its November highs MMM has been consolidating during December in what appears to be a sideways coil. This should be a continuation pattern for another leg down so our short play continues to look good here. We are suggesting puts for the more aggressive traders with the stock under $79.00 while more conservative traders can look for a decline under $78.00 or the 200-dma near $77.53. We consider this to be an aggressive, higher-risk play because MMM does have support at its 200-dma, its uptrend line from July, currently at $78.15, and is holding above its October gap up. It takes a break below $76.40 to enable bears to breathe a little easier. Our target is going to be the $72.50-70.00 range. The P&F chart is more bearish with a $47 target.
on December 17 at $ 78.31
NewMarket - NEU - close: 57.78 change: -0.08 stop: 62.01
It's the battle of the trend lines here. NEU has a longer term uptrend line from October 2005 where price bounced on Tuesday 12/19/06. That uptrend line is currently at $56.70. The downtrend line from the end of November coincides with the 10-dma at $58.80 and this line/dma held price down on Friday. The test of that resistance on Friday offered another opportunity to buy some puts. Our stop level is above the 20-dma ($60.89) which makes it a good place to keep it for now although more aggressive traders can consider lowering it to $61.01. Our downside target is the $54.00-53.50 range. FYI: The P&F chart points to a $51 target. Plus, short-interest is about 7% of the 14.8 million-share float, which is probably enough to raise the risk of a short squeeze if NEU abruptly turns higher.
Picked on December 14 at $ 59.11
Sears Holding - SHLD - close: 167.74 chg: -0.19 stop: 173.05
SHLD tagged our trigger at $167.90 so the play is now open. A trend line along the lows since October, currently near $169.40, should continue to be resistance (Friday's high poked above it briefly) now that it has been broken. Our downside target is the $162.00-160.00 range. Aggressive traders can look for a further pullback to near $157 which is the October low and will be near the uptrend line from March 2006 by the time it gets there. Keep an eye on the simple 100-dma near $162.69 which might offer some support. If you missed the entry, any retest of the $169-170 area should offer another opportunity for an entry.
Picked on December 22 at $167.90
Yahoo! Inc. - YHOO - close: 25.55 chg: +0.07 stop: 27.05
Internet stocks (INX.X) continued their decline today and with YHOO being the weak sister in this sector our put play in this stock looks good. This week's break below its 50-dma, currently at $26.15, places it back in a bearish mode. With the 10-dma also at $26.15 any bounce back up to that level offers another opportunity to play the short side. The stop at $27.05 is above the 20-dma at $26.72. Our downside target is the $22.65 level near the October low. More aggressive traders may want to aim lower. FYI: It might be worth noting that short interest is about 6.9% of YHOO's 1.2 billion share float.
Picked on December 20 at $ 25.85
YUM Brands - YUM - close: 58.77 change: +0.22 stop: 60.26
Price has essentially consolidated in what looks like a bear flag since our play was triggered. This is a good sign for our short play in YUM. The chart looks very yummy (sorry) to a bear as the 10-dma continues to hold price down. It's possible we could see a bounce up to its 50-dma at $60.10 so our stop is at the right place. The 20-dma, at $60.29, should cross down through the 50-dma any day now. The 10-dma is currently at $59.20 and continues to offer additional opportunities for entries. Our downside target is the $55.75-55.00 range, which is near the top of the gap up on October 12, 2006. Closing the gap at $54.57 makes for another downside target.
Picked on December 12 at $ 58.49
(What is a strangle? It's when a trader buys an out-of-the-money (OTM) call and an OTM put on the same stock. The strategy is neutral. You do not care what direction the stock moves as long as the move is big enough to make your investment profitable.)
Blue Nile - NILE - close: 35.77 chg: -0.16 stop: n/a
NILE has been struggling to bounce off its December low and while the bounce is not making much progress it is unfortunately just chewing up time. We see the possibility that it's getting ready to drop considering the fact that the bounce attempt looks ready to fail. Friday's close was held below its 50-dma at $35.89 and stochastics is back into overbought. Our problem is time and we don't know if we'll see enough of a move before January expiration. Our estimated cost was $2.40 and we're planning to sell if either side of our strangle rises to $3.90. The options in our suggested strangle are the January $45 call (JWU-AI), which closed at $0.15, and the January $35 put (JWU-MG), which last traded at $1.10. Our best guess is that this stock is ready for a drop which would obviously help the put side of this trade. There's not much value left in the call side. A drop through $34.25 could see some acceleration lower but it will still need to get through its 200-dma at $33.71. For January expiration we'll need a closing price of $32.60 or less in order to cover our cost. There is still a reasonable chance that will happen if the broader market starts to sell off so use that as your guide as to whether or not you want to limit your loss and exit earlier. We'll continue to monitor this play into January expiration or an exit at $3.90 for either side, whichever comes first.
on October 29 at $ 38.92
MEMC Electronic - WFR - close: 39.71 change: -1.12 stop: 39.95
As we feared, the semiconductor index continued its decline and dragged WFR below our stop at $39.95. The stock gapped down on Friday and never attempted to close the gap. This made it impossible to attempt an exit on a bounce. While this play has been stopped out you may want to keep an eye on its uptrend line from July and its 50-dma, both near $38.40, for potential support to try another long play. Our target was the $47.50-50.00 range and the P&F chart is still bullish with a $48 target.
In a December 4, 2006 interview with TraderInterviews.com, the great Tom Bulkowski separated patterns that the short-term trader might want to follow from those that might be useful to long-term traders. How would one find a stock fulfilling one of the patterns Bulkowski associates with successful plays or a pattern that a trader has identified as useful?
Two sites help traders identify stocks whose prices are displaying certain key patterns. For example, www.stockcharts.com offers stock scans that pinpoint stocks that have exhibited certain patterns. The trader who wants to identify stocks hitting new highs will find the number of Nasdaq, NYSE and Amex stocks having hit new highs as well as exhibiting many other technical, candlestick and point-and-figure patterns. The chart below displays just a few of the available patterns for which Stockcharts.com searches.
Partial Screen Capture from Stockcharts.com's Stock Scans:
Clicking on the underlined "12" in the "Nasdaq" column beside "Gaps Up" will produce a list of the 12 Nasdaq stocks that have produced such gaps. Columns for NYSE and AMEX stocks widened the table too much to meet formatting guidelines for this article, but are included on the Stockcharts site. Mutual funds are also tracked for some of the technical and point-and-figure patterns.
Stockcharts' "Chart School" even provides some discussion of certain of the patterns for the trader who finds an unfamiliar pattern listed. These Stockcharts.com scans are among the simplest to find and use.
Another site also offers discussion of certain patterns and does it in more depth. Patterns are marked on directly on charts. Information on the failure rate of each pattern to predict the next price direction or meet projected targets is included. Moreover, the discussion comes from Bulkowski himself.
That's because the site is Bulkowski's. It's new, and it's free. It's at www.thepatternsite.com/. For example, after the pattern recognition software from the site was downloaded, and then historical prices for Dell were pulled from http://finance.yahoo.com, "chart" was clicked. A screenshot noted several patterns identified in recent months. (Note: This article was roughed out several weeks ago, and so charts are not up to date.)
Screenshot of Pattern Identification for Dell:
One pattern identified at the top of the screen was the "Pipe Botm" or pipe bottom. Although the screenshot does not capture the button for "Tell," because of width restrictions for the screenshots I can include in my articles, this button allows a trader to click on a candle within such a pattern and be told the significant facts about such a pattern. Bulkowski identifies the pipe bottom as a highly reliable bullish formation, although he cautions that it shows up on a weekly chart and so can result in a delayed bullish entry. For reliability, he awards the formation a score of 2 out of 23, with 1 being the best possible score. Certainly, that particular pipe bottom was reliable, with DELL climbing significantly after it was formed.
Traders who have prefer certain formations as triggers for their plays can customize the patterns page to search for those patterns. Other customizations are offered, too. Traders might be particularly enamored of the "stop" button that allows traders to click on any price bar and be shown a computed one-month volatility stop for up or down breakouts. Another interesting form forecasts the next day's close, with Bulkowski using an exponential moving average of price changes to make that forecast.
Clearly this site offers more information than the Stockcharts version, and many more capabilities exist than have been discussed here, but that greater information comes at a price, too. Traders must download historical price information into a file for each stock they want to scan. Then they must specify the path for the file before the chart can be produced. I'm no guru on the computer, and I didn't experience too much difficulty with this aspect of the site, so I don't anticipate that others with basic to moderate computer skills would, either. However, the Stockcharts version was clearly easier, with Stockcharts providing all the chart data without any need to seek it, download it and delineate the path.
Also, when I accessed some of the special features, screens occasionally froze. Bulkowski offers a page that lists the various glitches that sometimes occur, and, if any such problem is not listed there, he asks users of this shareware to email him, providing a link for his email. He cautions, however, that this is a free site and that potential users should read all the provided information in the tour before they download the pattern recognition software.
If you're a trader who likes trade setups based on certain chart patterns, take
a look at these two sites and see if they help identify those setups.
Today's Newsletter Notes: Market Wrap by Jim Brown, Trader's Corner by Linda
Piazza, and all other plays and content by the Option Investor staff.
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