After a three day rebound from critical support levels what does next week hold?

Market Statistics

I wish I knew the answer to that question but without a functional crystal ball we can only make an educated guess. The rebound lifted the major indexes back to resistance and Friday's gains were minimal. However, we can't determine anything from the lack of a material gain on Friday because the geopolitical risk over a three-day weekend most likely kept investors from adding to long positions.

On the positive side earnings have been better than expected or at least quite a few companies have beaten the lowered expectations for Q1. Future guidance seems to be improving and that could put the "sell in May" cycle in jeopardy.

The S&P had one of its biggest weekly gains in 2014 at +50 points. What happened to the correction? The extremely oversold conditions allowed plenty of opportunities for buying the dip not that tax selling ended and shorts were forced to cover. Conditions have now equalized and we get to start all over again on Monday with the three-day weekend behind us.

The economics were positive for Thursday but worry over geopolitical risk kept investors from buying the news. The Philly Fed Manufacturing Survey for April spiked from 9.0 to 16.6 and the highest activity level since September. It was also the second month of major increases. In March the headline number rose from -6.3 to +9. Apparently the February dip into contraction territory was temporary and has been quickly erased.

New orders rose sharply from 5.7 to 14.8 but backorders declined slightly from 2.6 to 2.0. The employment component rose sharply from 1.7 to 6.9. Shipments vaulted from 5.7 to 22.7. The internals of the Philly survey suggest that manufacturing sector in that region is roaring back to life after four months of weakness. With spring weather with us now the numbers should continue to improve.

Weekly jobless claims rose only 4,000 to 304,000 from a seven-year low of 300,000 the prior week. The sudden plunge from the 325-330,000 level suggests business is improving and companies are no longer laying off workers at the same rate. This would probably mean they are also hiring new workers and the April employment report could show a huge improvement. We could see job gains in the 250,000 range.

Next week there are three Fed activity reports from Chicago, Kansas and Richmond. The Richmond survey is the most important of the three. We also get the existing home sales and new home sales for March. Everything else is filler.

Earnings will remain center stage rather than economics. The highlights next week will be NFLX, AAPL, FB, AMZN and MSFT. By the end of next week we will have a very good idea on how the earnings cycle is going to end. All sectors will have seen some reports and analysts will be able to project the trends by sector and forecast the outlook for Q2. Most of the larger companies will have reported by next weekend and the small companies still to report typically have weaker earnings.

According to Bespoke Investments UTX, LMT, ISRG, UA and V have beaten estimates more than 90% of the time. HAL, ISRG, AAPL, FB, QCOM, CELG, UA, AMZN, BIDU, V and WYNN have averaged the strongest gains after their reports.

Several large names posted disappointing earnings last week but overall most were positive. Actually there were many more earnings beats than I expected. This is clearly the result of the lowered expectations more than a surge in business activity.

There were some exceptions with companies like Schlumberger and Baker Hughes posting sharp earnings gains BUT most of their increased activity came from the Middle East, Asia and Africa. Other stocks like SanDisk reported strong earnings because the comparison quarter in 2013 was weak.

It will take another week before the earnings totals will have any real meaning. Only about 10% of the S&P has reported and about 57% of those have beaten street estimates, 17% met estimates and 26% have missed estimates. That is an improvement over the prior week's numbers of 53%, 17%, 31% respectively.

Summary of just a few of the companies that reported over the last two days.

SanDisk (SNDK) shares rallied +9.4% on Thursday after reporting earnings that increased +62% as a result of a better product mix, rising gross margins and the rapid push into flash memory products for server storage. Flash drives or Solid State Drives (SSD) for servers are the hot commodity today. SSD storage is significantly faster than the average mechanical hard drive currently in use. It does no good to have a super fast server but populate it with hard drives that operate several hundred times slower than the processors. Flash drives remove some of that bottleneck by providing the data at memory speeds rather than mechanical drive speeds. SanDisk upgraded revenue guidance and margin projections.

Chipotle Mexican Grill (CMG) posted good earnings but was punished for them not being good enough. Profits rose +8.5% on a +24% rise in revenue. Same store sales rose +13.4%. Those numbers sound fantastic but shares declined -6% on Thursday.

Earnings were $2.64 but analysts were expecting $2.86. When you consistently blow away earnings estimates the analyst community will consistently raise those estimates until they reach a point where they are no longer attainable and this was the case here.

Another factor in the decline was the announcement they were raising prices +3.5% to offset rising food costs. Analysts and investors worried that higher prices would drive away business and impact future earnings. Personally I think raising the price of a burrito by 20 cents is not going to send people fleeing to Taco Bell. Chipotle serves high end organic food and we all know what you get at Taco Bell. People go to Chipotle for the quality not the price. If your $6 meal costs 20 cents more you are probably not going to notice. The average ticket in the "fast casual" sector occupied by Chipotle is $7.40 while the average price for "fast food" stores like Taco Bell and McDonalds is $5.30.

I would love to see CMG shares decline to support at $482. Any decline to less than $500 is a buying opportunity.

Sears Holdings (SHLD) rallied +14% on Thursday after director Thomas Tisch disclosed he purchased 475,000 shares to bring his total holdings to 3.7 million. Tisch has been on the board since 2005 and has had the opportunity to buy them as low as $26 during the company's rocky years. Sears completed the spinoff of Lands End (LE) on April 7th and shares of Sears declined from $50 to less than $32 after the spin. Evidently Tisch thought that was a buying opportunity and added to his hoard.

Sears shareholders received 0.3 shares of LE for each share of SHLD they owned. After the spinoff 85.3% of LE was owned by only four shareholders. ESL Investments (Eddie Lampert) owns 15.5 million, Fairholme Capital 7.3 million, Baker Street Capital 2.7 million and Force Capital 1.8 million. None of those hedge funds have posted notices of any sales. LE shares dropped -$6 in the week after the spinoff. Various analysts have suggested this was probably the result of funds not interested in holding a clothing retailer rather than what they are getting with Sears. That is a general lines retailer with massive land holdings. Fairholme and Baker Street have previously said they were in Sears because of the massively undervalued real estate holdings. Fairholme said in a presentation "Sears is one of the largest corporate real estate organizations in the world, with a portfolio of retail locations that is second to none." Sears has more than 256 million square feet of retail space.

Also on Thursday an article in Forbes by Robin Lewis said a takeover of Sears by Amazon was a no brainer deal. LINK Lewis said Amazon would gain 2,400 stores overnight in the U.S., which would become mini distribution centers and retail stores. Amazon has more than two million products for sale. They could turn every storefront into a megastore where customers could see, feel and touch the many Amazon products and browse for other impulse sales.

Eddie Lampert would get a golden parachute exit strategy from the nightmare that Sears has become for him. He has been closing stores, spinning off businesses and all the while trying to rebuild the brand. He may be nearing the finish line of that endeavor but selling Sears to Amazon would be a high profile exit of all the remaining Sears headaches. Amazon has plenty of high dollar stock to make the acquisition and the current $4 billion market cap of Sears would be pocket change for Amazon. It will be interesting to see if Amazon takes the bait dangled by Lewis.

Herbalife (HLF) is not getting any breathing room. Already under investigation by the FBI, DOJ and FTC the company found out on Thursday the Illinois Attorney General Lisa Madigan was launching an investigation as well. Madigan said they had received consumer complaints about Herbalife dating back to 2008 claiming it was a pyramid scheme. This mirrors the complaints by Bill Ackman claiming the company is a fraud and the stock should go to zero. Herbalife issued a statement saying they had "15,000 members and many more thousands of satisfied customers in Illinois and we look forward to resolving any complaints from the AG office." Shares declined slightly but they have been under pressure since January on similar complaints. This was simply another chapter in the same saga.

What is in store for us next week? The S&P posted one of its best weekly gains in 2014 at +50 points. However, I looked at several hundred charts on individual stocks this weekend and the vast majority are still broken. The actual rebound for the week was only a fraction of the prior decline. For instance the ETF for the Nasdaq 100 (QQQ) the obvious support produced only a lackluster bounce.

The longer term uptrend support was broken and is now going to be strong resistance. Investors trapped at higher levels are now going to be sellers when that uptrend resistance is reached. That assumes we actually reach it.

The Nasdaq Composite rebounded exactly to downtrend resistance on Thursday and stalled. The short covering is over and now stocks have to rebound on purchases made by investors coming back into the market. This close to the "sell in May" cycle it remains to be seen if investors are going to put that cash back to work for a week or two before the seasonal decline that normally begins in May.

Oversold conditions have now equalized and Monday starts a new week with the three-day weekend behind us. Will the real market please stand up?

The daily chart it is not a bullish chart. The lackluster rebound stalled at the 4,100 level and there are two strong resistance levels above that. The support at 4,000 appeared to be strong but if we dip back to that level again I expect it to fail. If this was a chart on an individual stock I would not be a buyer.

Art Cashin pointed out some research from Jason Goepfert regarding the Nasdaq decline. Jason noted that there have only been two other times where the Nasdaq declined more than -8% from its 52-week high but the VIX remained under 17.5. This shows relative complacency in the face of the decline. Those two occurrences were March 28th, 2002 and May 15th, 2008. In both cases the S&P declined more than -15% over the next three months. Past performance is no guarantee of future results but we should pay attention.

Even more concerning is the duplicate performance by the Russell 2000. When the Russell and Nasdaq are performing in lock step the outlook is seldom good. The small caps normally lead on the upside and they lead in sell cycles. They are not leading today. They are following the Nasdaq momentum stocks and there is a good chance those stocks are going to roll over. Resistance is 1,140.

The S&P rebounded +50 points from the strong support at 1,815 that held for three consecutive days. The last rebound stalled at 1,872 and Friday's rebound stalled at 1,869. We would normally expect some profit taking after a rebound of 50 points. When coupled with the normal seasonal trends with the Monday after Easter normally lower this suggests we could start the week out negative.

The wildcard here is the events in the Ukraine. There was a peace initiative announced on Thursday between Russia, the USA and Ukraine but only hours later Putin and the Ukraine leaders were firing headlines at each other again so the announced peace initiative may not have any impact on the market on Monday.

Resistance 1,872, support 1,840 and 1,815.

The Dow high on the prior rebound on March 9th was 16,456. The high on Thursday was 16,460. The Dow closed -50 points below its high with a loss of -16 points for the day. The 16,460 level is decent resistance dating back to early March. It was pierced in early April but the stronger resistance at 16,580 was rock solid and the index fell back into the congestion pattern.

I have serious doubts the Dow can break out of the current pattern to set a new high. I would be very surprised if the upper resistance level is even tested. The Dow rebounded nearly 400 points for the week and that used up all the oversold sentiment traders could generate. To move higher from here means traders are expecting a summer rally and I seriously doubt the bulls have that kind of conviction today.

Resistance 16,460 and 16,580. Support 16,065 and 16,025.

Next week is going to be a pivotal week. It is the heaviest week of the Q1 cycle for earnings with more than 250 companies reporting on Thursday alone. By Friday we will know how the quarter will turn out and what analysts are expecting for Q2 and beyond. If the majority of companies continue to beat on earnings and the economics continue to improve then possibly we could see a summer rally. I am not making any predictions until the end of April but today I am bearish until proven wrong.

The sell in May cycle may have turned into sell in April and we may not recover. However, if we do rally into the FOMC meeting on the 30th we could be hit with some bearish comments out of the Fed with markets and economics improving. I just think there are too many potential negatives over the next two weeks and very few potential positives but all of those headlines are constantly evolving.

Random Thoughts

Within minutes of the signing of the Geneva document between the U.S, Russia, EU and the Ukraine the Ukraine's acting Foreign Minister Andrey Deshchytsa said "Kiev is not bound by the documents recommendations. The troops in the East of the country are carrying out a special operation and remain where they are." The soldiers occupying the government building said the document did not pertain to them since they were not a party to the talks.

The document said everyone should de-escalate and disarm but apparently nobody wants to go first.

Partial text of the agreement:

All sides must refrain from any violence, intimidation or provocative actions. The participants strongly condemned and rejected all expressions of extremism, racism and religious intolerance, including anti-semitism.

All illegal armed groups must be disarmed; all illegally seized buildings must be returned to legitimate owners; all illegally occupied streets, squares and other public places in Ukrainian cities and towns must be vacated.

Amnesty will be granted to protesters and to those who have left buildings and other public places and surrendered weapons, with the exception of those found guilty of capital crimes.

NATO said it was sending four warships to the Black Sea to increase the security of the eastern European allies in response to the Ukraine crisis. The ships are from Norway, the Netherlands, Belgium and Estonia. NATO said the ships are not intended to escalate the situation but to "demonstrate solidarity" and improve NATO's readiness.

Paraphrased quotes from Putin. "I lied about the soldiers in Crimea with no markings on their uniforms not being from Russia. They were our soldiers. However, I am not lying about the unmarked soldiers in the Ukraine not being from Russia."

Also, "Russia did not annex Crimea by force, but created conditions, with the help of special formations and the armed forces, for people's self-determination. The decision to join Russia was made by the people themselves."

Here are some interesting facts from Ambrose Evans-Pritchard on the potential for a Russian-American confrontation. Apparently the U.S. has the capability to shutdown the Russian banking system but the backlash could be brutal. Russian cyber warfare could cripple the USA. Did you know a shutdown of an Illinois water treatment system in 2007 was traced back to Russia? Read the article here. Tail Risks are Rising

The bipartisan Congressional Budget Office (CBO) said they now see the U.S. debt rising from the current $17.7 trillion to $27 trillion by 2024. Claimed debt to GDP will be approaching 100% but including off balance sheet liabilities like Social Security and Medicare will push that ratio well over 100%. The consequence of the end of QE and the constantly rising debt will bankrupt the U.S. by 2025. With the Fed's interest rates at zero today the Federal government is getting a bargain rate on its monthly debt sales. In 2013 the government paid $415 billion in interest on its debt with interest rates near zero. When rates return to normal and the ten-year treasury yields somewhere in the 4.5% range the annual interest paid will double to something in the $1 trillion a year range. That accounts for the increased debt generated over the next two years before the Fed raises rates materially.

By 2020 that number could rise to $1.5 trillion and by 2025 $2 trillion a year in interest payments. That assumes we don't have another major recession to keep rates low. The challenge is that we pay the interest on our debt by selling more debt. This is the equivalent of getting a cash advance on your credit card every month to pay your monthly bill. Only the government's credit card has no limits. At least no limits until the world's investors start getting scared about the size of our debt and demand higher and higher rates of interest to buy our treasury notes.

The U.S. is on a path of destruction. There is no way out of this mess and it will end badly, very badly. Anyone with a fourth grade education can do the math and see the disaster ahead. We only take in about $3 trillion a year in taxes of which 66% goes to pay Social Security, Medicare and Medicaid bills, and there is no way we can pay that rising interest when rates begin to rise.

Hedge funds are having the worst start to a year since 2008. Research firm Preqin said hedge funds are up an average of 1.23% through the end of March compared to the +1.3% gain in the S&P. In Q1-2012 they earned 6.07% and in Q1-2013 they earned 3.76%. Funds are struggling and some are returning money to investors rather than continue to fight the volatility in the market. The long/short fund Coatue Management elected to return $2 billion to investors after a "gut wrenching" month of March.

Analyst John Ficenec listed five reasons we are going to see a market crash in 2014. The first is China's credit bubble. We have seen multiple credit defaults in an economy that is notorious for not allowing companies to default. The official government policy has changed and companies are scrambling to cover loan demands and refinance their businesses. This is the "under the headlines" problem that is going to create a lasting impact.

Second is the current IPO fever. We have had a near record number of IPOs in 2014 and they are still flowing. The IPO market is likely to peak when Alibaba appears in the coming months with a monster $150-$200 billion IPO. These IPOs are sucking up investor cash and leaving the broader market on a cash diet. Companies without profits are rushing to IPO just like in 2000. The valuations of these tech companies are very overextended and quite a few of these stocks are seeing their prices decline in the weeks after their IPO. Third, markets don't rise forever. The average bull market lasts for three years and the longest rarely make the five year mark. The current bull market started in March 2009 and is now in its 61st month. It is now the second longest bull market in the last 80 years at 266 weeks. The longest was 406 weeks and started in October 1990. The longer a bull market lasts the deeper the bear market that follows. The current bull market has delivered the fifth strongest performance in over 140 years. Fourth, the market is now the third most expensive (CAPE 10 method) beaten only by 1929 and 2000.

Lastly, the Fed is removing the punchbowl. The easy money is going away and despite the Fed's pledge to keep rates low until 2016 the QE stimulus is fading fast. Over the last five years when there was no QE in force the market declined. When there is no QE later this year and no hope of additional QE the odds are very good the market will decline.

Sell in April and go away? That is what several analysts are recommending. They reference the normal "worst six months of the year" period from May until Halloween and the profits still un-cashed from the 2013 gains. If you add in the strong seasonality of the midterm election year being the worst year for the markets of the four year presidential cycle then it makes sense to be cautious in the coming weeks. The Almanac Investor issued a sell on April 7th and Sy Harding's Smart Report expects to issue a sell on Monday based on the MACD turning negative.

The internals are diverging away from a bull market. Individual new highs peaked in May 2013 at 925. December, which closed at new highs on the Dow and S&P only produced 553 new individual highs. March sank to 512 new highs. The number of S&P stocks with a Point and Figure buy signal has declined to 66% and nearing the 2014 lows.

Did the U.S. Treasury Dept cause the market decline the prior week? Officials from the Treasury Dept and the National Security Council met with mutual-fund and hedge-fund managers the prior week and warned them they were going to add additional sanctions to Russia's financial sector. They warned the funds in advance so they could manage the risk. While the number of Russian stocks traded in the U.S. is minimal the impact of global sanctions on Russia's financial system could have serious consequences. As a result overseas funds may have been liquidating positions to raise cash and reduce that risk. When nations go to financial war there can be a multitude of unintended consequences. It is highly possible the market selling the prior week was fund liquidation ahead of the proposed sanctions.

Enter passively and exit aggressively!

Jim Brown

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"I believe that anyone who is intelligent, conscientious, and willing to put in the necessary time can be successful on Wall Street. As long as they realize the market is a business like any other business, they have a good chance to prosper."
Jesse Livermore