The Dow hit -113 at its lows before Bill Gross tweeted about the Draghi bond buying plan and short were forced to cover. Was that the real reason?

Market Statistics

The morning started off bad after the economics showed a worsening situation in the USA. The Dow declined -113 to 12,977 and pierce the 13,000 support level. After battling back above 13,000 two hours later it moved sideways at about -85 points until 2:PM. The market reporters gave Bill Gross the credit for the rebound when he said, "Draghi appears willing to write 2-3 year checks to peripherals. Very reflationary. Buy gold, TIPS, real assets." By peripherals he meant Spain, Italy, etc.

Unfortunately Bill's tweet did not come out until 2:30 not 2:00. The market was already in rally mode well before he made that tweet. This appears to be a case of reporters trying to match the news to the tape and not doing a very good job. The Russell 2000 started rallying at 12:30 and kicked into high gear at 2:00 and that breakout was probably the result of a buy program. Around 2:PM is a time when we normally see buy programs kick in and the uptick in the Dow, S&P and Russell was exactly at 2:05 across all indexes. News related spikes don't occur on the dot with such velocity.

Lastly, the Russell 2000 gained +10 points for the day, a rebound of +15 from the low. The Dow and S&P closed negative. It sure looks to me like a Russell buy program was responsible for the market rebound.

RUT Chart

The morning economics were led by the ISM Manufacturing for August. The headline number came in at 49.6, a decline from 49.8 in July. This was well below consensus estimates for a rise to 50.9. This is the third month in contraction territory and at that level it suggests the economy is very close to a recession. Normally a decline to 45.0 means the economy is in a recession.

The internal components were also weak. The New orders component declined again to 47.1 from 48.0 and the third month in contraction territory. The back orders component declined to 42.5 from 43.0 and the fifth month in contraction territory. Production declined to 47.2 and the first month in contraction after posting a cycle high at 61.0 in April.

The last time the headline number was under 50 for three months was early 2009 when the economy was emerging from the recession. The prices paid component rocketed higher from 39.5 to 54 suggesting the rise in commodity prices was exploding through the manufacturing sector. This means the cost of products to the consumer will be going up.

This is not a good report with the headline number the lowest level since July 2009.

ISM Chart

Construction spending for July fell -0.9% compared to estimates for a gain of +0.5%. This compares to the June reading with a +0.4% gain. This was the biggest drop since July of 2011. Private construction declined -1.2% and private residential construction fell by -1.6%. Public residential construction fell -1.1% and is now down -19.4% year over year.

This was a negative report but this is lagging data for July and investors don't pay much attention to the month to month news and focus on the longer term trend and that is turning negative.

Moody's Construction Spending Chart

The good news of the day came from the vehicle sales report for August. Sales rose to an annualized rate of 14.5 million compared to the 14.1 million in July. Analysts were expecting only a minor gain to 14.2 million. At 14.5 million that is the highest level since the recovery began although we did see that same level in February before fading slightly in the spring. At the 14.5 million pace sales are now +16.5% higher than the same period in 2011. However, a lot of that is tsunami related because Japanese brands were not available in the USA.

Analysts believe the improvement in the housing market is helping with truck sales. However, sales of cars increased to 7.37 million from 7.12 million. Truck sales rose from 6.95 million to 7.13 million.

The average age of a vehicle in the USA is now 11 years and that will continue to push sales higher as those cars begin to self destruct and wear out. High fuel prices are also pushing consumers to purchase new cars with higher economy standards. Analysts are expecting sales to rise to 15.7 million in 2013 assuming the country does not fall back into a recession.

Moody's Vehicle Sales Chart

The economic calendar for tomorrow is really overshadowed by the product announcements for new phones. Microsoft, Nokia, Motorola and Verizon are all trying to get their news out a week ahead of Apple's iPhone 5 debut on the 12th.

Thursday is the big day for the ECB and expectations are huge that they will announce a bond buying program of up to 3 years for those countries that request rate assistance. The details of the discussions have been leaked but there has not been any timeline. The ECB is not likely to announce its program other than to say it is considering some rate assistance because they don't want to put the German vote on the ESM on the 12th in jeopardy. Several analysts believe the ECB will cut rates but that is all they will do on Thursday. That would be very frustrating for investors that have already built up their hopes for a big QE announcement.

The ADP Employment will be a preview of the Nonfarm Payrolls on Friday and a material decline there could be a disappointment as well.

The Nonfarm payroll estimates for Friday are slipping. Officially they are still looking for a gain of +128,000 jobs but I am now seeing whisper numbers in the +75,000 range. That would guarantee FOMC action at the meeting next week.

Economic Calendar

Also depressing the markets at the open was a drop in China's August PMI to 49.2 from 50.1 in July. That was the first decline in nine months for the PMI. This was below the estimates of 24 economists. The HSBC and Markit Economics PMI fell to 47.6 from the initial reading of 47.8 on August 23rd. Any number below 50 represents economic contraction.

Oil prices declined by just over a dollar because China is the second largest user of crude oil. A continued slowdown in China would weaken demand. Crude closed at $95.34. The EIA inventory report will be delayed until Thursday by the holiday.

The dollar rose slightly but gold and silver bucked the trend and moved higher as well. Gold briefly traded over $1701 for the first time since March 13th on the prospect of QE from the ECB and Fed. Silver traded up to $32.47.

WTI Crude Chart

Silver Chart

Gold Chart

In stock news NetFlix (NFLX) declined -6% after Amazon (AMZN) signed a deal with Epix for downloadable content. Netflix had an exclusive deal with Epix that recently expired and Amazon was quick to jump into the fray. The Epix catalog has movies from Viacom, Lions Gate (think Hunger Games), MGM and access to Marvel/Disney movies through a Viacom link.

Last Friday Amazon partnered with Comcast/NBC to bring scores of popular TV series to the Amazon Prime platform. Amazon will announce its newest Kindle Fire on Thursday and all of these content deals will only enhance the Amazon content library.

NetFlix Chart

Caterpillar (CAT) fell -3% on weakness in demand in China and Asia as well as home in the USA. The weak construction spending report and the falling economic numbers in China caused investors to bail even though there was no news directly from CAT. The company was the biggest loser in the Dow.

Caterpillar Chart

After the close today FedEx (FDX) warned on earnings for the current quarter and shares fell -$3 in late trading. The company blamed weak shipments in Asia and Europe as well as "constrained" revenue growth in the FedEx Express division. The company now expects to earn $1.37 to $1.43 compared to prior forecasts of $1.45 to $1.60. Analysts were expecting $1.56 per share. Shares fell to below $84 from a $87.54 close but rebounded to $85.05 in after hours.

FedEx Chart

Facebook (FB) shares hit a new low today at $17.55 but rebounded after the close to $18.08 after Zuckerberg said he would not sell any of his shares for a year. In an SEC filing he said he has no plans to sell for at least 12 months. He did sell 30.2 million shares in the IPO for $1.1 billion so he is not hurting for spending money.

The really big news is that Facebook is waving the lockup periods on employee owned stock. Many were locked up until Nov 14th. While that sound like big news there is a catch and the waived period is not much better. Any employee still working at Facebook through Oct 15th is free to sell their shares on October 29th. That is six days after the October 23rd earnings report. So basically it is a big press release but employees only gain 15 days from the original Nov 14th lockup.

The move comes one day after Andrew Ross Sorkin blasted Facebook officers in the New York Times over the IPO debacle. Read it here

Sorkin attempted to lay blame for the botched IPO and David Ebersman, FB CFO, took a lot of the heat.

Facebook is also executing what would amount to a buyback of 101 million shares by issuing 124 million existing shares to holders of pre-2011 RSU (restricted stock units) and will then withhold 101 million shares to settle tax requirements. Those shares will no longer be "considered outstanding and therefore will reduce the share count." Considering there are 1.5 billion locked up shares coming to market before year end that 101 million is chump change.

Facebook Chart

As I mentioned earlier today's rally was brought to you by the Russell 2000. The small cap index rebounded +15 points to post a +10 point gain and close over critical resistance at 820. Ordinarily this would be a big deal. The fact it came after a large buy program makes it less of a deal but still positive for market sentiment.

The Russell 2000 is the sentiment indicator for fund managers. Since the majority of hedge funds are having a bad year with gains in the low single digits they are tuned into market sentiment in hopes of launching some winning positions before year end.

The fact the Russell was seeing decent buying on the morning dip even before the buy program hit is market positive. I like the close over 822 even though it was short covering at the close. It all counts. The key now will be how well the Russell behaves the rest of the week. If it can hold those gains then we are good to go for a resistance test at 832 and what could be a difficult level.

However, the Dow lost -55 points and the S&P closed down -2. Futures are down -2.50 after the FDX warning. That warning is probably only the first of many in the blue chip space. Earnings estimates are declining daily so that was a shot across the bow warning. If the Russell can survive the shock then the market should move higher.

Obviously that theory will be tested severely by the ECB, Payrolls and Fed over the next seven trading days.

Russell 2000 Chart

The S&P spent most of the day under 1400 with a low of 1396. That is a new lower low. Since we did not close there it has less meaning but it is still a warning signal. The afternoon rebound took it back to 1409 but there were plenty of sell on close orders. That is the third test of 1400 in the last three weeks with the prior test on Thursday.

This is really starting to worry me along with the Dow's constant battle at 13,000. I believe it is simply investors who bought in anticipation of some QE announcements getting cold feet since the market has gone sideways for the last month.

S&P Chart - 90 Min

S& Chart - Daily

The Dow has moved down to a new range. Once the 13,100 support level broke it became resistance and it was solid today. The intraday low at 12,977 was a lower low and the high at 13,092 a lower high. This pressure will be resolved one way or another probably on Thursday. My guess would be to the downside if the ECB does not announce any actual bond buying and tries to kick the can past the German ESM vote on the 12th.

The big problem for the market would be a material decline below Dow 13,000. This could setup a couple days of profit taking without any material stimulus news.

Dow Chart - Daily

The Nasdaq Composite posted a +8 point gain but the Nasdaq 100 was fractionally negative. Apple gained +10 but Google lost -5. Apple finally made the official announcement about the Sept 12th product presentation and that helped fuel gains in the Apple suppliers and supported the composite index. The declines in Google, NetFlix and Priceline helped hold the Nasdaq 100 underwater.

The Nasdaq Composite is still stuck in the 3050-3085 range with the low for the day at 3040.24 and high 3082. You can get much more range bound than that with both extremes tested.

Nasdaq Chart - Daily

I could write ten more pages but the bottom line would be the same. The market is just passing time until the ECB meeting on Thursday and Nonfarm Payrolls on Friday. Those two events are the keys to how we close the week. Other than the Russell buying earlier in the day the market gains were strictly buy program related. Somebody may have been trying to make up for lost time now that August is over or it could have been the Fed trying to keep the market supported until the ECB/FOMC meetings and QE is announced. We know from his comments that Bernanke believes keeping the stock market rising is the key to the wealth effect and increasing consumption in the economy.

If you are not already in the market I would probably be looking for the ECB to disappoint. The unknown factor is whether the market will turn that disappointment into another brick in the wall of worry or the straw that breaks the market's back.

Enter passively, exit aggressively!

Jim Brown

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