The tape painters did a magnificent job of pushing stocks higher as the quarter heads for a close on Friday. The S&P hit a new five year high and the Dow closed at its second highest close ever and a six year high at 11669.39. It was a big cap day as fund managers put money in the safety of blue chips and shunned small caps and many techs. The Russell 2000 gained only a paltry +2.52 points and the Nasdaq hit a resistance wall at 2260 where it stalled once again. On the surface it definitely appeared the bulls were in control but their reign may be nearing an end.
Dow Chart - Daily
S&P-500 Chart - Daily
On the economic front the Richmond Fed Manufacturing Survey for September jumped unexpectedly to a +9 compared to +3 in August. The internal components showed sharp increases with the six-month outlook jumping from +5 to +31. Shipments jumped from -8 to +9 and new orders rose to +10 from +5. This was exactly opposite the sharp drop we saw in the Philly Fed survey last week. It was the difference between night and day and it could not have come at a better point on the calendar with only three days left in the quarter. It was exactly what the bulls had ordered and it provided hope that the economy really was headed for a soft landing.
Consumer Confidence for September also rose +4.3 points to 104.5 and well over the 101 consensus. Both the present conditions and future expectations components showed nice gains. If you recall the August reading showed a headline number that fell sharply from 107 to 100.2. The September reading recovered half of that drop. The gains came on falling energy prices for both gasoline and natural gas, falling real interest rates, rising stock market and the perception that jobs were plentiful. These points offset the continuing drop in home prices probably because the drop in interest rates suggests a bottom for the housing implosion in the months ahead. Expectations for inflation fell while expectations for the stock market rose.
The S&P Case/Shiller composite index on housing showed home prices were falling in five of the top ten areas surveyed. This was done over the July period so the data just released today is somewhat dated. Overall the index was clinging to an annual growth rate in prices of +6.7% compared to +15.8% in July 2005. Home prices fell in Boston, New York, San Diego, San Francisco and Washington. Of the ten cities surveyed Denver showed the most relative strength with prices rising in July. S&P said the drop in those high profile areas was even worse when you take into account this was the most active period of the year when prices should be strong. I believe this was seen as old news and the market has already been factoring it in for quite a while.
The rising confidence and surprising jump in the Richmond Fed survey combined on a day when fund managers were already trying to put every spare dollar to work ahead of quarter end. It was a match made in heaven and the big cap indexes celebrated. All the news was not positive with warnings from several high profile companies.
Lennar (LEN) reported earnings that fell -38% and warned that conditions were still deteriorating. CEO Stuart Miller said, "The U.S. housing market has continued to deteriorate, trailing down further and faster than anticipated." Land sales for the quarter went negative at -$300,000 compared to +$46.4 million gain for Q3-2005. Lennar incurred a -$15.8 million write-off for deposits and options on land it does not now intend to purchase. Despite the drop in earnings Lennar delivered 12,337 new homes, a +17% rise from 2005 and has back orders for 11,056 homes, down only slightly from 11,614 in the same quarter in 2005. The gloom and doom from Lennar did nothing to depress the sector and most builders posted nice gains despite the news. We recently added DHI as a play in the LEAPS Trader because their outlook is different from the rest of the builders. They remain cautious but still positive. Check out a recent presentation from DHI here: http://tinyurl.com/oyggu
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Another warning related to the housing sector came from Lowes (LOW). Lowes said profits for the full year would be at the low end of its prior estimates. They said the slowing housing market was hurting sales and the lack of any hurricanes would make Q3 a difficult comparison. Hurricane sales of things like plywood ahead of a storm and then building materials for repairs after the storm create a strong surge in sales. The major storms in 2005 created a strong extended surge that is only now subsiding. The lack of any storms this year will make Q4 sales comparisons to that 2005 period very difficult. Overall this warning had little to do with Lowes normal business but more to do with weather cycles. Lowes traded positive and negative during the day but ended fractionally positive.
Eagle Materials (EXP) a maker of cement and sheetrock cut its outlook for 2007 earnings due to weaker demand in the housing market. Eagle lowered its forecast to $3.80-$4.20 from the prior range of $4.40-$4.70. Analysts were expecting an average of $4.55. This was a warning directly related to the slowdown in housing and the drop in demand for sheetrock although I am sure they also have a comparison problem from post storm demand in 2005. EXP fell -4.08 in regular trading.
PMCS lost ground after warning that sales of communication chips were slowing. PMCS lowered expectations for the quarter to about $115 million and well below current analysts expectations for $123.2 million. While some analysts issued downgrades for PMCS, Merrill Lynch analyst Srini Pajjuri reiterated a buy rating and a $10 target price. He felt that over the next 4-6 quarters PMCS would benefit from demand for broadband products.
Jabil Circuit (JBL) posted earnings that saw revenue rise +50% but it will not be able to file its full financials until a probe into stock option grants is completed. Revenue jumped to $3 billion from $2 billion in the same quarter in 2005. This was slightly better than the $2.84 billion expected by analysts. Jabil expects revenue to rise about +20% for the full year to about $12.36 billion. JBL lost a buck on the news.
After the bell Red Hat said it now expects to report a profit of 12-13 cents on revenue of $105 million. This was about a -34% drop due to acquisition costs and a sharp increase in operating expenses. RHAT fell -8% in after hours.
Intel CEO Paul Otellini took the stage on Tuesday to announce a new chip breakthrough for Intel processors. The new Quad Core chip has four processors on one chip and significantly more processing power over the current Dual Core models. The new chips will be called Core2 Extreme Quad-core and offer +70% more power than the current speed leader the Core2 Duo chips. Intel said it had already shipped more than 5 million Core2 Duo processors since the late July release and over one million Xeon 5100 chips using the same technology. According to Intel it was the fastest 60-day ramp in history. The new quad-core chips for desktops will be available in Q1-2007 with versions for gamers and servers due out later this year.
Oil prices were all over the map once again but support at $60-$61 appears to be holding. That may only be a temporary event but new support noises are starting to be heard from within OPEC. The president of OPEC Edmund Daukoru told Reuters on Tuesday that "the current low in oil prices was harming investments and something needs to be done." And, "We are already talking among ourselves in the OPEC fold. The price is very low and it is not good for investors." Saudi Oil Minister Ali Al-Naimi last week called prices at $62 reasonable. Given the comments coming from OPEC officials it definitely appears they are going to support prices and $60 could be the unofficial trigger point. The sharp increase in prices over the last few months was successful in creating some demand destruction on a global basis and we are positively swimming in oil at present. The current drop in oil prices will revive that demand but it is a long process that could take several months. At the current price levels various countries will be adding to their strategic petroleum reserves and that will help absorb the slack. The oil inventory report tomorrow is expected to show a drop in crude around -1.6 mb, a rise in gasoline of +1.1 mb and a gain in distillates of +2.0 mb.
November Crude Futures Chart - Daily
October Natural Gas Futures Chart - Daily
The October natural gas futures contract expires tomorrow and prices set a new low at $4.38 ahead of the event. The November contract is still trading at $5.97 in hopes of some cold weather over the next month. Energy analysts were out in force today recommending gas stocks with the consensus picks being DVN and XTO but don't forget UPL, ECA and CHK as candidates. With the October gas contract expiring along with the quarter I would expect a temporary pause in the decline of gas prices once the November contract becomes current. The gas inventory levels on Thursday could be another week of very large insertions pushing us that much closer to the 3.5-3.6 TCF maximum. The cold front over the weekend was very mild and probably required very little in extra gas for heating.
The Dow closed at its second highest level ever at 11669 and equaling the intraday high set back on May 10th. This is only -51 points below its highest intraday level ever at 11750 set on Jan-14th 2000. The S&P sprinted for a nice gain to close at 1336 and a new five-year high driven by the same blue chip stocks powering the Dow. The S&P performed a perfect swoon to our 1315 trigger point last Friday and then blasted off once again for that +20 point romp. Those following my S&P recommendations should be happy campers. Unfortunately not all indexes are breaking out to new highs.
The Nasdaq came to a dead stop at 2260 and exactly the resistance level that held us back on the last bounce. Chip stocks are turning in mixed results and tech earnings fears are starting to creep into the collective investor consciousness. This is creating a drag on techs after their +12% rebound from the July lows. The small caps as evidenced by the Russell 2000 are positively lethargic. Resistance at 732 for the last month held once again this week and it is well away from the 785 high set last May.
Nasdaq Chart - Daily
Russell-2000 Chart - Daily
The divergence between large caps and small caps and the relative weakness in techs only three days before the end of the quarter is a very real cause for concern. If funds are not buying small caps it means they have no confidence about the future and don't want to get caught holding low volume high volatility positions ahead of October. The October lows are typically where funds take positions in small caps. Those funds holding cash and waiting for an October dip are probably getting very nervous. They likely gave in to temptation and bought helping to fuel the big cap romp today in an effort to avoid showing large cash levels on their Q3 statements with markets at new highs. It is a tough call for fund managers with large bonuses at risk.
The Q3 window dressing scenario is in full bloom as I described in Sunday's commentary. I suggested we could see gains on Mon/Tue and then range bound for the rest of the week as managers try to hold the indexes at these levels. The party is off to a good start but there is a strong possibility of a hangover next week. Fund managers will begin trimming those positions entered to produce attractive statements and raising cash for the next dip. Despite the Richmond Fed Survey today we will get the Kansas survey on Thursday, NAPM-NY and Chicago PMI on Friday and the all-important national ISM survey on Monday. I would be very cautious about any gains you are currently holding. Continue to follow the herd higher but keep those stops tight and try to avoid immediately jumping back if you are stopped out. Next week will be the key but it is possible even a market friendly ISM may not stave off an October dip. The market is very overbought but that doesn't mean it can't get more overbought. It just means there is an even stronger reason to be cautious.
New Long Plays
New Short Plays
Long Play Updates
Advance Auto Parts - AAP - cls: 34.20 chg: +0.20 stop: 31.89
Shares of AAP hit new three-month highs on Tuesday with a 0.58% gain. Volume came in a little below average. We remain optimistic but we're not suggesting new positions. Our target remains the $35.80-36.00 range. We do not want to hold over the early November earnings report for AAP.
Picked on September 12 at $32.93
Hovnanian - HOV - close: 31.31 change: +1.11 stop: 27.99
Housing stocks shrugged off bad news yet again. Lennar (LEN) issued another earnings warning but that didn't stop the DJUSHB home construction index from posting a 1.68% gain. Shares of HOV out performed its peers and the broader market with a 3.6% gain on strong (and rising) volume. We are inching up our stop loss to $27.99. Our target is the $34.00-35.00 range.
Picked on September 25 at $30.11
Intl. Game Tech. - IGT - close: 40.74 chg: +0.82 stop: 38.95
The slumbering shares of IGT have awakened. The stock added more than 2% on better than average volume. Today's gain also marks a new two-year high and a breakout over the $40 level again. We had been suggesting that readers use a move over $40.32 as a new entry point to go long. Our target is the $44.00-45.00 range. We do not want to hold over the early November earnings report. FYI: The P&F chart points to a $57 target.
Picked on September 17 at $40.26
United Tech. - UTX - close: 63.61 chg: +0.38 stop: 61.99
Dow-component UTX posted another gain but honestly we expected more with the DJIA hitting new one-year highs. UTX turned in a relatively volatile session with an intraday dip midday. We remain skeptical of the rally but the pattern in UTX remains bullish. Our target is $66.00.
Picked on September 10 at $63.34
WebEx Comm. - WEBX - close: 38.77 chg: -1.32 stop: 37.45
Shares of WEBX erased a big chunk of yesterday's gains after the stock was downgraded this morning. The stock reacted by plunging toward $38.00 this morning and slowly struggling to rebound. We are not suggesting new bullish positions at this time. Our target remains the $42.50-44.00 range. The P&F chart is very positive with a bullish triangle breakout buy signal.
Picked on September 12 at $38.49
Short Play Updates
Commercial Metals - CMC - close: 19.92 chg: +0.83 stop: 21.05*new*
Reversal alert! CMC has erased all of our potential gains with a big 4.3% rally on Tuesday. It was a common occurrence in the steel sector. CMC and others in the industry were breaking down last week. Monday brought some downgrades for the group, which pushed them, and CMC, to new relative lows. Yet the market's strength on Monday sparked a strong intraday rally and the rebound continued into Tuesday's session. The rally today appears to be a reaction to a positive earnings warning from RS. We warned readers yesterday to expect a bounce toward $20 and we got it today. The three-day candlestick pattern looks like a bullish reversal. More conservative traders may want to adjust their stops toward the 10-dma near $20.22. We're going to move our stop loss to $21.05. If CMC rolls over under the $20 level it could be used as a new entry point for shorts. We do not want to hold over the late October earnings report.
Picked on September
21 at $19.90
We are honestly surprised that HRL did not hit our stop loss today. Yesterday the stock had produced a bullish turnaround and was pressing up against resistance at the $36.50 level. Yet there was no follow through higher on Tuesday. Instead the stock plunged to an intraday low near $35.45. We could not find any news to explain the relative weakness. We're still not suggesting new positions. Our target has been the $35.00-34.50 range.
Picked on August 31 at $36.65
Ladish - LDSH - close: 29.52 change: -0.16 stop: 31.01
We are also surprised by the lack of movement in LDSH on Tuesday. The stock churned sideways in a narrow range. More importantly it failed to participate in the widespread rally. This relative weakness is good news but we're still suggesting that readers wait for a move under $28.65 before opening positions. Our target is the $25.50-25.00 range. We do not want to hold over the late October earnings report. FYI: The latest (August) data puts short interest at 6.5% of LDSH's 14 million-share float. That's not a very big float and might be a reason for concern.
Picked on September 25 at $29.65
Linear Tech. - LLTC - close: 31.89 chg: -0.13 stop: 32.66
Semiconductor stocks under performed the broader market thanks to an earnings warning from PMCS. Shares of LLTC oscillated sideways and closed with a minor loss. The lack of strength is bearish but we would be hesitant to open new short plays in this market. The good news today was a lack of follow through on yesterday's big intraday bullish reversal. We do not want to hold over the mid October earnings report. FYI: The latest (August) data puts short interest at 4% of LLTC's 300 million-share float.
Picked on September 25 at $31.79
NTL Inc. - NTLI - close: 24.90 chg: -0.25 stop: 26.05
The relative weakness in NTLI on Tuesday is bearish but for the most part the stock didn't change much. Shares continued to bounced around the $25.40-24.80 trading range. We'd probably wait for a move under $24.80 or $24.75 before opening new short positions. Our target is the $21.00-20.00 range. More conservative traders may want to exit near $23.00. We do not want to hold over the early November earnings report.
on September 21 at $25.01
Closed Long Plays
Closed Short Plays
Charlotte Russe - CHIC - close: 27.25 chg: +0.93 stop: 27.05
We have been stopped out of CHIC at $27.05. We suspect that the stock's 3.5% gain today is in part due to end of quarter window dressing. We'd keep an eye on the stock. A move over $28.10 might be a bullish entry point while a new decline under $25.50 or $25.00 could be a bearish entry point.
Picked on September 22 at $25.75
CSX Corp. - CSX - close: 32.17 change: +1.53 stop: 31.26
We are dropping CSX as a bearish candidate. Our update yesterday said we expected a bounce today but we didn't expect a 5% rally. The railroads produced a strong session, which contributed to the transports strength. We were suggesting that readers use a trigger at $29.75 to short the stock but CSX never hit our trigger.
Picked on September xx at $xx.xx <-- see TRIGGER
Reliance Steel - RS - close: 33.06 change: +3.84 stop: 31.01
We have been stopped out of RS at $31.01. This morning before the opening bell RS updated its earnings outlook. The company raised its earnings guidance to $1.35-1.40 a share compared to Wall Street's consensus at $1.24. The market reacted strongly and RS gapped open higher at $31.00 and then continued to surge. This looks like a major bullish breakout and the news lifted the entire steel sector.
Picked on September 24 at $29.35
Washington Group Intl. - WGII - cls: 58.62 chg: +1.35 stop: 57.25
WGII is not cooperating and the market strength is fueling a strong bounce in the stock. It was our plan to catch a breakdown under the 200-dma with a trigger to open plays at $55.45. WGII never hit our trigger so we're dropping it as a candidate.
Picked on September xx at $xx.xx <-- see TRIGGER
Today's Newsletter Notes: Market Wrap by Jim Brown and all other plays and content by the Option Investor staff.
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