With Dow Component Alcoa set to kick off the Q2 earnings cycle on Wednesday after the close traders were more focused on the Michael Jackson memorial than buying stocks ahead of earnings.
Market Stats Table
The economics for the day were minimal. The weekly Chain Store Sales snapshot came in at 0.1%, down from +1.6% in the prior week. There is too much noise in the weekly numbers to be of any interest to traders.
The Job Openings and Labor Turnover Survey (JOLTS) for May came in at -36.3% compared to -36.2% in the prior month. That means job openings were down -36.3% from May 2008. Openings were down -1.9% from April. This was a lagging report for the May period and did not tell us anything we did not already know. The report was ignored by traders.
Wednesday's is going to be devoid of any material reports with only the Mortgage Applications, Oil Inventories and Consumer Credit.
The biggest event on Wednesday will be the $19 billion in 10-year notes. Tuesday's $35 billion auction of 3-year notes was weaker than analysts had hoped. The bid to cover was 2.62 times the offer amount but analysts said it was below the average BTC rate for May and June. Foreign investors and large institutional investors were still the major bidders. Analysts fear that all the demand is going into the short-term notes and demand for the $19 billion in 10-year notes on Wednesday and $11 billion in 30-year notes on Thursday will be weak. With $2 trillion in U.S. debt coming to market in 2009 analysts are afraid we will eventually run out of buyers.
The big news today was not really in the markets but in the Los Angeles Staples Center where 17,000 people gathered for the Michael Jackson memorial. The event was carried on dozens of channels, some without commercials, and was filled with appearances by stars and VIPs. Unfortunately for California it was another $4 million headache for the cash strapped city and state. Inside the Staples center the costs were covered by various people and the family. Outside the center the city of LA and the state had to supply security, traffic control, sanitation, etc and estimates for the cost range from $3 million to $4 million. The city and state were asking for online contributions to defray costs. Sure, like that is really going to happen.
While the memorial was in progress there was already a move underway to process the estate and collect taxes. In a hearing while the memorial was underway a judge was set to rule on the 2002 will and appoint John Branca, a Jackson attorney and John McClain, a music executive, as co-executors. Their task will be to determine how much of the $500 million estate is fact and what is fiction.
Under Federal law estates of more than $3.5 million must pay a 45% death tax to the IRS in cash within 9 months of the death. Everyone knows Michael Jackson had no cash and was deep in debt. It will be up to the executors to unravel the maze of conflicting details and come up with a final valuation and the cash to pay the IRS. That is going to be a tough job. If it requires a fire sale of some Jackson assets then those sales will have to be organized quickly. Jackson had a family trust but nobody knows what was in it. He also had an insurance trust outside the estate that is normally used to pay the estate taxes. Since the tax rate for contributing to that trust was also 45% while he was alive there is a lot of doubt that a cash strapped Jackson contributed enough to defer more than just a fraction of the estate taxes.
While reading about the tax vultures already circling it made me decide to review my personal arrangements again. I strongly suggest anyone with a material estate should review their arrangements again. As Jackson's (age 50) death along with the sudden departure of Billy Mays (age 50) last week aptly showed, you never know when your time on the earth may come to an abrupt end.
In the energy markets today the price of oil fell another $1.60 to close at $62.92 and right on the 200-day average. This is more than a $10 drop in the last two weeks. The big drops this week are related to fears of a lingering recession and lower decline as well as some regulation fears. The CFTC said today the commission would hold hearings this summer on limiting speculation in commodities.
The fear of regulation and putting limits on position sizes has also caused a rout in the energy market. A survey last week showed that passive investors increased their oil holdings by more than 600 million barrels in June, up +30% from year-end.
Whenever potential position limits are discussed in the press the price of that commodity always falls. Many institutions accumulate large positions as hedges and swaps against the actual commodity. They do this so they can cover hedges for customers and maintain an orderly market. If they are suddenly forced to sell tens of thousands of contracts because some overzealous regulator decides to make a political statement then their losses could be huge. Whenever this talk appears in the market they always lighten up on their positions to reduce risk.
Crude Oil Chart
The commodity ETFs are running scared and the managers for the USO oil ETF filed a statement with the SEC on Monday in an attempt to rebut the constant claim that the ETFs were hazardous to the commodities market. The USO managers supplied charts of open interest and prices that contradicted the common claim that ETFs were to blame for price increases.
The natural gas ETF UNG was halted for trading Tuesday afternoon because it had distributed all available shares and had suspended the issuance of new units until the SEC approved their registration statement for additional shares. The UNG fund requested authorization from the SEC back on June 5th to issue an additional billion shares. The SEC has not yet approved the request and some feel this is due to the ongoing move by the CFTC to limit position sizes. Trading resumed at 2:22 PM after the news had been disseminated. The UNG saw an influx of $1.7 billion in new money in June making it the largest inflow of the top ten ETFs by nearly 100% over the second place TIP bond fund at $942 million. The rest of the top ten inflows in sequence were VWO, IVV, XLF, SDS, DIA, DBC, GSG and number ten IJH.
I believe this is a tempest in a teapot and there will be no material change in the position limits. The commodity markets were constructed so that producers and consumers of commodities could use speculators to reduce their risk of price fluctuation. There has to be an equal number of speculators in order to lay off the risk. If you eliminate the speculators there will be no way for producers and consumers to hedge their risk and the volatility in prices would escalate substantially.
If you are a producer, say a farmer raising corn, you have to buy seed, fertilizer, equipment, pay wages, etc, but your paycheck only comes once a year. They hedge their risk by selling corn futures contracts for future delivery to speculators. They use the money to pay their bills until the corn if harvested and delivered. Because speculators exist to bet on corn prices rising the farmer is able to run his business and prices remain relatively stable. If there were no speculators in the market the actual consumers would be able to low-ball the price to the farmers because there is no speculation in the market price. If the top 100 corn buyers decided they would pay $2 a bushel then that would be the price. That means many farmers could not make a profit and they would quit raising corn. That drop in supply would make prices rise sharply the following year as the shortages developed and those same consumers were forced into a bidding war for the shrinking supplies. Farmers seeing the price spike would then over plant the following year and prices would plummet again. The commodities markets cannot function properly without the speculation component to reduce the volatility risk and keep prices stable.
Over the last several years I have been warning that we were headed for a war with China over oil. We are the largest oil consumer in the world and China is number two. China will be number one by 2020. Boone Pickens was on CNBC today warning that because of the current low price of oil China was very active worldwide in tying up future supplies of crude. In the last six months they have done deals with Brazil, Kuwait, Iran, Saudi Arabia and two with Russia. These deals lock up future supply for China's needs and are not for sale on the global market.
Pickens also told of an oil pipeline being permitted from Fort McMurray Canada to the west coast so China can gain access to oil sands production. They have tried to buy up the oil sand production several times over the last three years. Canada is currently the second largest supplier of oil to the USA. Once the pipeline is completed our energy relationship with Canada may change. Instead of being locked in to selling oil to the USA because of our close proximity they will be able to sell it to China instead. That will negatively impact the price we pay for oil in the US.
CNBC had an analyst on to talk down this idea but another analyst gave his opinion that was exactly like mine. I have been preaching for years that China is locking up these supplies for China's benefit only. The oil is not going to be resold on the global market and will be held for China's future growth. This effectively takes this oil off the market and means the available future supplies available to the U.S. and world are shrinking every time a new deal between China and an oil producer is completed. I know it is tough to see a $10 drop in the price of oil over the last couple weeks and then worry about future supplies but I am telling you this will come back to haunt us.
The energy sector is going to post lousy earnings starting with Chevron (Nyse:CVX) this week. Oil was over $125 last June and under $70 this June. Profits are going to drop about 79% in the energy sector.
In stock news Merrill Lynch upgraded several chip stocks and said demand could grow by +21% in 2010. Intel (Nasdaq:INTC) was upgraded from neutral to buy, LSI (Nyse:LSI) from underperform to buy, Marvel (Nasdaq:MRVL) from neutral to buy, Maxim (Nasdaq:MXIM) to buy from neutral and National Semi (Nyse:NSM) to neutral from underperform. The Merrill analyst said "recent macro data suggests a definitive turn in end demand, thus warranting a more constructive stance." He also said the Merrill economic team was raising estimates on GDP growth. The upgrade kept the chip sector positive until late afternoon until the overall market selling increased.
Weyerhaeuser (Nyse:WY) made news this morning with a dividend cut from 25-cents to 5-cents. They cut from 60-cents to 25-cents earlier this year. WY lost -7% on the news to close at a new 3-month low. S&P said they have counted more than $50 billion in dividend cuts so far in 2009 and they expect more before this quarter.
JP Morgan cut the railroads saying their checks showed slowing volume and no confirmation of the early Q2 bounce in shipments. Buffett's favorite Burlington Northern (Nyse:BNI) lost 5% to increase its losses to nearly $10 over the last four days. CSX (Nyse:CSX) gave up -4% and Union Pacific (Nyse:UNP) -3%.
The airline sector should be flying higher on the drop in oil prices but there is no joy in the sector this week. I have been reporting on some of the growing list of charges they are using to raise revenue from falling passenger traffic. Ryanair (Nasdaq:RYAAY) has come up with a new gimmick to pack more passengers into their planes. Not only are they going to charge one British pound for a bathroom visit but now they are going to offer "standing room only flights." A portion of their seats will be removed and they are going to replace the area with a standing room only space. The tickets will be 50% the price of a regular seat and will only be available for flights of less than 90 minutes in duration. There will be some way to seatbelt the standers to a pole or some sort of stool that will keep all the standers from ending up stacked on the floor like cord wood after an unexpected bout of turbulence. Reportedly Chinese airlines are also experimenting with the concept. Also, despite the charge to use the bathroom they are reducing the number of bathrooms to only one from the current three. This will allow them to add another six passenger seats to the plane. I wonder how may standers that equates to? The definition of a cattle car is definitely going to apply to Ryanair planes.
Google (Nasdaq:GOOG) closed at $396 and the first time under $400 since May 26th. According to Comscore Microsoft's BING search engine continues to gain market share. It appears people who try Bing are liking it and are telling their friends. Microsoft's search share has risen to about 16.7% from something in the 12% range back in May. While this may be coming at the expense of Google you have to wonder how it is impacting Yahoo. If the trend continues Yahoo could end up in third place very soon. Instead of buying Yahoo search Microsoft appears to have built a better mousetrap that could make Yahoo search obsolete. I wonder what Jerry Yang is doing today?
Discover Financial Services (Nyse:DFS) announced a 500 million common stock offering late Monday. The stock price paid the devil his due today with an 11% drop to $9.36. The stock offering was to pay off the TARP loan of $1.2 billion and to be used to recapitalize the business.
Part of the market weakness today was due in part to multiple democrats voicing the need for a second stimulus program. The market did not react well to the potential for more government spending OR that maybe the economy is still worse off than what we have been led to believe. Laura Tyson, advisor to President Obama and the second ranking democrat in the House, Steny Hoyer, both suggested the administration should be open to a second stimulus bill to correct the faults of the first. They claim the money was not spent quickly enough, roughly 70% is still unspent, and a second stimulus should be directed at quickly restoring jobs still being lost. These followed weekend comments by VP Joe Biden that the economy was worse than they expected and maybe the economy needed more help. The administration spokesman downplayed these comments and continues to claim no further stimulus is needed.
The economic worries pushed the Dow to close at 8159 and well under support at 8200. This is not a good sign. The 8200 level was tested over and over in May and held every time. It was tested again in late June and held there also. A failure today suggests that we could see a decline to something around the 7750-7800 level. Nine Dow stocks lost more than a buck in the decline.
The S&P-500 has been projecting a head and shoulders pattern for the last week or so and even with Tuesday's decline it has yet to break strong support at 880. Should it break here it projects a retest of 800. All the indicators are turning progressively weaker and we are seeing a decline in market sentiment. This is a preview to the summer doldrums setting in a couple weeks from now.
The Nasdaq did break below key support at 1760 and appears headed to retest support from May at 1660. Normally a big chip sector upgrade like we saw from Merrill today would have been enough to rescue the Nasdaq from the general market weakness. The fact it did not is a critical key to what is going on this week. Sentiment, even in the face of the chip upgrade, is weakening across the board. The tech stocks had been the stronger index but the weakening market sentiment finally got to them as well.
The key points for the rest of the week are the 10-year note auction on Wednesday, 30-year auction on Thursday, Alcoa earnings on Wednesday and Chevron on Thursday. The Alcoa CEO made some positive comments about signs of a recovery on Tuesday afternoon so maybe their earnings will not be as bad as expected. We already know Chevron will be ugly simply because of crude prices.
If the market sentiment does not improve on Wednesday I would expect a flush for the rest of the week. Sometimes these declines simply take on a life of their own and they have to hit those strong support levels before buyers will venture back in the water. There have been two other declines of this magnitude since March and both recovered. However, the internals are much worse this time and suggest a real retracement rather than just a hiccup in the move higher. Keep your powder dry because unless earnings are a blowout to the upside there is a good chance you can buy stocks lower than today's close.