The first day of spring did not produce any green shoots in the market as worries over China weighed on stocks.

Market Statistics

The markets tumbled at the open after a comment from miner BHP Billiton suggested demand growth for iron ore could decline into the single digits in 2012. Iron ore demand in China has been growing at a double digit pace for more than a decade with +11% growth in 2011. The president of BHP's iron ore division, Ian Ashby, said Chinese demand was flattening. However, China's economic base was much larger and growing rapidly and even though demand was slowing percentage wise the size of the total market was larger. Ashby said BHP was rapidly expanding its iron ore business to keep up with future Chinese demand that was expected to "more than double" by the end of the decade.

Clearly the market heard "flattening" and "single digits" and quit listening to the rest of the story. How many people would like to be suppliers to a market that size and expected to double in the coming years?

Morgan Stanley said "Sentiment in Chinese steel markets is improving as mills gradually raise prices and inventories decline." Chinese steel production up +5.3% month over month in February but down -0.3% compared to February 2011. No big market moving news there.

We already knew the Chinese economy was slowing after they projected a +7.5% growth rate for 2012. That is still strong growth but less than the 10%+ seen over the last decade. We also need to remember that is 7.5% from a much larger base. It simply can't keep growing at a 10% rate forever the law of diminishing returns prevents it.

China also said it raised fuel prices for the second time in five weeks. The Chinese government sets fuel prices and they were forced to raise prices 7% and the biggest increase in 33 months. They had to raise prices because refiners were losing money given the rising oil prices. After the price hike that took affect today the cost of a liter of regular gasoline is $1.17 and diesel $1.22. A liter equals 0.264 U.S. gallons so that makes a gallon of gasoline $4.43 and $4.62 for diesel. Analysts were afraid the increase of 8-cents per liter of gasoline would somehow cripple consumer demand. What they are missing is that anyone owning a car in China is in the top echelon of wage earners and 8-cents is not going to be a big deal.

A Chinese government official said auto sales in China were softening as well. Gu Xianghua, deputy secretary general of the China Association of Automobile Manufacturers said production may only grow by 5% in 2012. The association predicted full year sales of 20 million vehicles back in January. That would make China the first country to hit the 20 million mark. Problems slowing sales are rising prices, higher taxes and higher license fees, limits on the sales of autos in certain cities and rapidly rising parking fees. Cities are rapidly escalating license fees, which can run $8000 to $10000, in an effort to slow down traffic growth. Shanghai limits licenses to 8,000 per month and sells them at auction. Prices hit a record so far in March at $9,270. 24,897 potential drivers bid for the available licenses in March. Cars registered outside the city have to pay tolls to enter the city and they are not allowed on the expressways during rush hours. Beijing is already ranked as having the worst traffic in the world and there are now strict limits on the number of cars that can be sold and registered in the city. There are currently 4.7 million vehicles registered in Beijing.

There were 62,387 roadway deaths in China in 2011. That is down from 65,225 in 2010 and more than 94,000 in 2004. Deaths are declining because of the higher traffic congestion limits the speed of travel and produces fewer fatal wrecks.

There were 225 million vehicles registered in China in 2011 compared to 220 million in the USA. The U.S. had 32,788 deaths.

Let's assume China does not hit its 20 million vehicle target for 2012. Let's say they only sell 19 million. That is still a huge number and gives you an idea how +7.5% GDP growth is still very strong growth.

I think blaming the market decline on the BHP comments was incorrect. The market was looking for a reason to take profits and the BHP comments fit the bill. Maybe traders were not specifically looking for an excuse but were just being overly cautious because of the lack of conviction we have been seeing in the market sentiment.

Shifting focus back to the U.S. economics the New Residential Construction starts declined to 698,000 from 699,000. The actual decrease was not important. The consensus was for a gain to 700,000 but some analysts were looking for as many as 715,000. At the 698K number starts are up +35% over February 2011.

The real news was the increase in permits to 717,000, the step before a housing start. Permits increased by +5.1% compared to a +1.6% increase in January and a -1.3% decrease in December. This was a huge increase that suggests starts are going to rise sharply in March. Single family permits are up +23% over the same period in 2011 but -73% below the peak in 2005.

The homebuilders are definitely ramping up for the spring selling season. I hope the Fed can keep the rates in check until the season ends because home sales will provide a strong boost to the economy.

Housing Starts Chart

The Risk of Recession report for February declined to 22% from 26%. This is the risk of the economy falling back into a recession over the next six months. This is the fifth monthly decline and the lowest level since early 2011. With Q1 GDP expected to be between 2.1% and 2.5% the economy appears to be comfortably in positive territory and economic indicators are improving.

Moody's Risk of Recession Chart

The economic calendar for the rest of the week is still weighted towards housing data plus a grouping of economic data from Europe and China. The FedEx earnings on Thursday and the Darden earnings on Friday will also be closely watched for signs of economic slowing in their guidance.

Economic Calendar

In stock news Hewlett Packard (HPQ) announced it was merging its printing business and PC unit to save money. Printers and ink, normally a strong profit center for HP has been slowing as competition increases and actual printing declines. The two units made up about half of HP's $30 billion in revenue last quarter. Merging the two units will save money and reduce headcount. The executive vice president in charge of the printing unit is expected to leave HP.

New CEO, Meg Whitman, said on the last conference call that HP would take several years to turn itself around because money had been spent in the wrong places in prior years. "We didn't make the investments we should have in the past few years to stay ahead of customer expectations and market trends. As a result, we see eroding revenue and profits today."

Hewlett Packard Chart

Oracle (ORCL) reported earnings after the bell that rose +18% to 49-cents per share or $3.5 billion. After removing acquisition costs the adjusted earnings were 62-cents and easily beat the 56-cents analysts expected. Revenue grew only +3% to $9 billion. New software licenses rose +7%. and have been stealing business from Oracle. CEO Ellison once called the cloud a kooky concept. However, they have recently been expanding into cloud services in an effort to halt that customer drain. Ellison said today they are much better positioned to succeed in the cloud than their long time competitor SAP. Oracle has been spending billions to buy smaller companies that specialize in cloud computing. Oracle is a serial acquirer and their acquisition of Sun Microsystems for $3.7 billion has been tough to digest. Ellison said they may not see equipment sales turn around until late this year. Hardware revenue declined -11% last quarter.

Guidance was decent. Oracle said revenue would decline -2% to -4% compared to analyst estimates for -4%. Earnings would be 76-81 cents and analysts expected 76-cents. Oracle shares rose 40-cents after the earnings.

Oracle Chart

The New York Times reported that Yahoo and Alibaba are back in talks again. On the NYT DealBook page the times said Alibaba CFO Joe Tsai flew to Silicon Valley this week to meet with Yahoo CEO Scott Thompson. Also attending the meeting was Ronald Fisher, a managing partner of Softbank Capital, the largest investor in Yahoo Japan.

The talks concern Alibaba buying back Yahoo's 40% stake and the desire of Yahoo to sell its 35% stake of Yahoo Japan to Softbank. Earlier in the day Stifel Niclaous analyst Jordan Rohan issued a research note claiming the companies were making progress behind the scenes.

Yahoo Chart

Apple shares resisted news of problems with the new iPad and rallied to close at a new high. After thousands of reports of iPads overheating, Consumer Reports compared the new version and the prior version running the same high use program and the new version ran significantly hotter at 116 degrees, a 13 degree increase over the prior version. This was supposedly because it was running a high compute intensity gaming program. However, others reported the same heat when using the 4G-LTE communications just browsing and tweeting. Apple issued a comment saying the tablets were performing within their "thermal guidelines."

Shares immediately rebounded to send the shorts running for cover. There have been numerous complaints about the new version from battery life to excess hype over the new high definition retina display. So far Apple is bullet proof to the complaints.

Apple Chart

Amazon (AMZN) posted a +4% gain after analysts released positive notes about its purchase of Kiva Systems for $775 million in an all cash transaction. Kiva builds robots used in distribution centers. Amazon said it would continue to sell those Kiva robots to anyone interested. Kiva already has a long list of clients including Gap, Staples, Saks, etc.

Amazon also rallied on its morning promotion where it sold $10 Amazon gift cards for $5 on its AmazonLocal website. Amazon is ramping up its battle against Groupon and Travelzoo. The cards sold out in a matter of hours. Amazon will lose money on each card but they will get a lot of new customers. Most people don't realize Amazon is a major investor in deal site They invested $175 million in LivingSocial two years ago and that company helped Amazon launch its own site where most of the deals are provided by LivingSocial. Amazon does not disclose how many customers it has on AmazonLocal but Amazon has 164 million customers worldwide for its other products. Shares of Amazon rose +$7 on the news.

Amazon Chart

Crude prices fell on worries over China's possibly weakening economy and because of comments from Saudi Arabia. The Saudi oil minister said the kingdom was pumping nearly 10.0 million barrels per day (old news) and the most in three decades. He said Saudi was willing to pump up to 12.5 mbpd if needed. That claim remains to be tested and most analysts believe it is partly true, partly wishful thinking and partly deliberate misinformation. Claiming to have that much readily available excess capacity is a status symbol. All OPEC countries claim to have more reserves and capacity than they actually have. The OPEC boys club is built on reserve envy.

The minister said Saudi had transported 10 million barrels to locations outside the Persian Gulf to help build a cushion for local markets ahead of the Iranian embargo. He said the market was "well supplied", a common claim by OPEC when prices rise. He claimed current production was currently 1.0 mbpd over demand and current prices were not justified.

The conspiracy theorist in me suspects this announcement was orchestrated by somebody in the US. Remember last week when the trial balloon over a possible SPR release was floated? The administration received a lot of negative press about the politics of an oil release from the Strategic Petroleum Reserve just to lower prices. Instead, as if on cue, Saudi Arabia suddenly goes public with a "market well supplied", excess oil production has been positioned outside the Persian Gulf and prices are not justified headline. To top it all off the comments came on the day the U.S. WTI futures contract expired in order to get maximum benefit.

Come on guys, do we really look that stupid? WTI declined -2.50 but Brent only declined -$1.50. Support held in both cases.

It was also announced that the Obama administration had approved exemptions from the Iran oil embargo to 11 nations. Another 12 nations are being reviewed for exemptions. What good does it do to have an oil embargo and sanctions if you exempt the nations doing business with Iran from those sanctions? Exempted today were Belgium, Britain, the Czech Republic, France, Germany, Greece, Italy, the Netherlands, Poland, Spain and Japan. Reportedly those countries had "significantly" reduced the amount of oil they were buying from Iran. As an example they praised Japan as having reduced their purchases by 15%. Wow! A whole 15%. I bet that hurt.

Countries Importing from Iran

WTI Chart

Brent Crude Chart

The treasury market saw some early buying that pushed yields lower but that ended quickly and the afternoon saw a return of the selling to almost push yields to a new five month high. Money is still leaving fixed income but it has yet to flow into the equity market with the exception of Apple shares.

Ten Year Note Yield Chart

Bernanke was bushwhacked by a reporter outside of a lecture he was giving at George Washington University. The Fed head was a guest speaker talking about the Federal Reserve's place in today's economy. When Bernanke left the room the reporter got in a couple questions and Bernanke repeated the party line to some extent. However, he did say the long term prospects for the economy are good but the short term prospects remain very challenging. That "very challenging" comment caused some to speculate there was a growing likelihood of a QE3 program ahead. He also said jobs remained a serious problem.

The comments did not revitalize bonds or gold and they both finished down for the day. Gold lost $19 to close at $1648.

The markets opened significantly lower with the Dow down -115 points. They began to rebound almost immediately but like the rally over the prior weeks there was a definite lack of conviction. It was slow and steady but no volume with only 6.1 billion shares traded. Obviously you want low volume on down days and high volume on rally days. I believe today was a warning of things to come. The lack of conviction is significant and the potential for a negative earnings quarter is very real. S&P is currently expecting only a +0.52% increase in Q1 earnings. It will not take much to push that negative and investor sentiment could sour.

The S&P-500 dipped to 1398 at the open and rebounded to close at 1405. Considering it hit 1414 on Monday before the selling began the rebound was definitely lackluster. The market can continue the two steps forward, one step back for a long time but eventually the lack of conviction is going to turn into a lack of interest.

Resistance appears to have formed at 1407 so that will be the level to watch on Wednesday. Initial support is now 1400. Something spiked the futures +4 points well after the bell but there is a lot of darkness before morning.

S&P Chart - 5 Min

S&P Chart - Daily

The Dow struggled at 13,265 on Monday after opening lower and seeing a mediocre flurry of buying at 11:30. Resistance from Friday at 13,265 held and the sell off began at 2:PM. That continued into the Tuesday open for a loss of -115 points at the lows. The +50 point rebound struggled and there was never any serious attempt to move higher.

CAT was the major drag at -$3 followed by losses in CVX, IBM and UTX. Support appeared at 13,160 but when the smoke cleared it was a loser day. I would not buy the Dow chart based on the intraday performance. I would want to see some stronger conviction before going long from here.

Dow Chart - 7 Min

Dow Chart - Daily

The Nasdaq recovered from a -30 point opening loss to end down only -4. That is a pretty good recovery and the afternoon rebound showed some spunk. Most of it was due to the $7 rebound in Amazon and $10 rebound in Apple. The Amazon chart is most telling.

Amazon Chart

Nasdaq 100 Chart

Nasdaq Composite Chart

The Russell 2000 was a big disappointment for me on Monday and today. On Monday the Russell roared to a +2% intraday gain and broke out well above the strong resistance at 832 before rolling over in the afternoon. I thought we were seeing some evidence of fund manager involvement but it faded like dew in the sunlight.

On Tuesday the Russell gave up another -1% and spent the entire day under that prior 832 resistance. It was very depressing for those looking for a sign of a rally ahead. I would continue to be cautious of adding new longs until the Russell can hold a breakout.

Russell 2000 Chart

It is hard to tell if today's market decline was just a one day wonder and a result of position squaring from the quadruple witching option expiration. As I said earlier I don't think the China news was material and it was simple an excuse applied to the profit taking.

We are facing month end and quarter end after a large three month rally. That is a strong influence on fund managers to window dress to the upside as the quarter closes. Nobody wants to be seen holding fixed income positions or cash after a big rally. Without any material news event we could continue to chop around with an upside bias as a result of that window dressing. With volume declining there does not appear to be much directional force.

I would be worried about adding long positions until the Russell can hold a breakout over 832. Any further declines from here would be a sign the ship is starting to leak.

Jim Brown

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