The mother of all short squeezes appeared in the tech sector last week after Netflix and Google beat overly bearish earnings expectations and shorts in those stocks were crushed. The severity of the squeeze in those stocks caused shorts in other tech stocks to run for cover and the Nasdaq soared to a new high.
It was not a case of irrational exuberance that sent certain tech stocks sharply higher but a major short squeeze in those stocks. Google (GOOGL) spiked +16% or +$98 dollars to a new high but not because earnings were so good that investors just had to buy shares regardless of the price. The spike came after shorts were forced to cover because of the margin calls and rapidly escalating losses. If you were short 500 shares that was a $50,000 loss. That will put a dent in your account really quick. Anybody short calls was forced to either buy them back at a huge premium or buy shares in the market to cover those short calls. Shares were $540 just a week ago and they closed today at $700 and it was not because everyone just had to own Google this week.
Google added $65 billion in market cap on Friday alone and +$100 billion for the last 8 days. Google added twice the total market cap of Hewlett Packard at $50 billion. There are more than 400 companies in the S&P with a market cap less than $65 billion. This was the first quarter since 2013 that Google has beaten on earnings. Expectations were for another earnings miss and more whining about advertising click rates. They knocked the ball out of the park despite a $1.1 billion decline in revenue because of the strong dollar.
I looked at options on Google because we know this spike it not going to last. I looked at selling a call spread or buying a put spread but the premiums were crazy. If you are willing to take a $20 risk you could make about $5 using either method in the September strikes. That does not fit my risk profile.
For a change, the market concentrated on stocks rather than headlines. Yellen's testimony is over and the Greek bailout has begun. China's monster bailout of the equity market has halted the decline but more than 50% of the stocks are still halted for trading and there has been only a moderate rebound. China's GDP miraculously came in at 7% to nobody's surprise since everyone on this side of the pond is convinced it is a phony number manufactured by the government. Still, the 7% GDP soothed some market worries and China slipped from the headlines.
In the U.S. the Consumer Price Index rose sharply at +0.3% for June after a +4.0% rise in May. On a trailing 12-month basis it is now positive at +0.2%. While that may be the weakest sign of inflation you could imagine it is probably enough for the Fed to hike rates in September. Yellen reminded everyone last week that the Fed would not wait for 2% inflation as long as they were convinced inflation is rising.
With oil prices falling again the CPI for July and August is likely to cool off again. Food prices rose +0.3%, energy prices +1.7% and gasoline +3.4%. Gasoline always rises in June ahead of the July 4th holiday. That should also decline in July. Food prices are up because of an 18% rise in egg prices due to the bird flu. That is the biggest monthly gain since the 1970s. Rents accelerated because of the difficulty of financing a home is putting more families into rentals.
The core CPI, excluding food and energy, rose +0.2%, which put it up +1.8% on a year over year basis. This is what the Fed is watching rather than the headline number.
Consumer sentiment for July declined with a drop from 96.1 to 93.3. The present conditions component declined from 108.9 to 106.0 and the expectations component fell from 87.8 to 85.2. Analysts said consumers were worried about the Greek, Chinese and Iranian headlines and the potential impact to the U.S. economy. Sixty percent of respondents said the economy had improved and 27% said conditions had declined. That is up from 23% declines in the prior month.
New residential construction starts surged from a revised 1.069 million to 1.174 million because of a spike in multifamily housing starts. Single-family starts declined from 691,000 to 685,000. Multifamily rose sharply from 378,000 to 489,000. The Northeast saw the largest spurt in multifamily starts with a rise of +14.7%.
The economic calendar for next week is positively boring with nothing that should move the market. We are in that part of the cycle where the new home and existing home sales numbers decline because everyone has already moved before the back to school cycle begins. The Chicago and Kansas Fed surveys are not followed closely and rarely have any market impact.
The big event is the following week with the July FOMC meeting. Yellen moved even closer to a September rate hike with her comments during the testimony to Congress. The announcement from the July meeting will be critical for analysts since there is no August meeting. The equity market could begin to price in a rate hike once we get past the July FOMC meeting.
There were no new splits announced last week. AstraZeneca is the next to split with the ex-date on July 27th. The stock splits after the close on Friday July 24th.
There are quite a few stocks that could announce splits in the near future such as Amazon, Chipolte, Google and many others. The big post split spike in Netflix shares last week should have stimulated some of those high dollar companies to try some financial engineering of their own and announce a stock split. Full Calendar
On Monday Paypal (PYPL) and Ebay (EBAY) will trade independently. The spinoff of Paypal was effective at the close on Friday. You can tell approximately where the stocks will trade on Monday by looking at their "when issued" charts. Paypal when issued (PYPLV) closed just over $38 on Friday and Ebay (EBAYV) closed at $28. The regular shares of Ebay closed just over $66 before the split. Paypal shares are expected to do well as an independent company again and there are still rumors that Google is waiting for the spinoff to make an offer. Paypal has more than 10% of the online payment market and growing. Susquehanna started PYPL with a $75 price target.
Amazon (AMZN) said "Prime Day" was here to stay after a very successful promotion. Same day sales rose +266% and they sold 34.3 million units. Amazon also said it signed up "hundreds of thousands" of new Prime customers. If those customers do not cancel before the end of their trial period they will be billed the $99 annual subscription fee. Amazon said a Prime customer spends an average of $1,565 per year compared to the non-prime customer at around $600 per year. Amazon shares did really good last week with better than a $50 gain to a new high. The big short squeezes in Google and Netflix had Amazon shorts running for the exits ahead of earnings next week.
Slice Intelligence said Walmart won the retailer war. They also offered online specials to combat the Amazon Prime Day promotion. Slice said Walmart sales increased +268% on Wednesday to slightly edge out Amazon. However, Amazon's prices were just for the one day and Walmart's are good for 90 days. Walmart will be the big winner for the overall promotion.
There were also come complaints about the quality of the merchandise in the Amazon promotion. Other than a few high dollar deals that were sold out relatively quickly the majority of the deals were low dollar "junk" items that you would expect to see in a garage sale according to lots of comments on Twitter and Facebook. Walmart actually beat Amazon by a mile in the quality department with hundreds of deals on electronics and stuff people actually wanted. I would bet Amazon is better prepared next year and it will be a huge sale rather than only clearance items.
Etsy Inc (ETSY) shares gained +30% after Google mentioned in its earnings that the new Google search algorithm was really benefitting marketers like Etsy and they had seen a significant improvement in their search results.
Hertz (HTZ) shares rallied +12% after the company said it had finished restating earnings for the last two years and expects to realize $300 million in cost savings by year-end. That is $100 million more than their goal. The company found $207 million in additional pretax misstatements from 2011 through 2013. The errors reduced pretax income by as much as 23% and net income by 26%.
Hertz blamed the errors on the prior CEO who created a "pressurized operating environment" that produced "inconsistent and sometimes inappropriate" directives." CEO Mark Frissora resigned for "personal reasons" but investors had been pushing for his ouster. He is now CEO of Caesar's Entertainment (CZR).
Hertz reaffirmed its $1 billion buyback and the company is preparing to close the sale of its leasing unit, which was announced in March 2014.
Tesla (TSLA) shares gained +$8 after CEO Elon Musk said on a conference call they were making changes to the Model S with price cuts on some models and increases on others. Musk said they were adding the "Ludicrous Mode" as an option to the Model S for $10,000 more. This is the super fast upgrade that will take you from 0-60 mph in 2.8 seconds and represents a 10% improvement in acceleration. This is an extension of "Insane Mode." Musk said it would also be offered on the Model X SUV with an estimated 0-60 of 3.3 seconds. Tesla also offered an improved battery pack option with 15 additional miles of range.
The cheapest Model S will see prices decline by -$5,000 to $70,000 and the high-end version will rise by $10,000. Musk will hold another conference call on Monday at noon on the Space X rocket.
General Electric (GE) reported adjusted earnings on Friday that declined -14% to 31 cents on revenue of $32.8 billion. The earnings matched estimates. The company increased the lower end of guidance from $1.10-$1.20 to $1.13-$1.20. Jeffery Immelt was upbeat and optimistic about the company as he works to sell off all the financial divisions. He also has two major deals in the pipeline. The $17 billion purchase of France's Alstrom's energy assets with French regulators demanding concessions. In the U.S., regulators are trying to block the sale of the appliance division to Stockholm-based Electrolux. Immelt was adamant that both deals would close this year. Shares rose fractionally on the news. GE shares rarely move higher on earnings because there is no excitement. They always match the estimates. Q1 was the exception with news of the sale of some financial assets.
Honeywell (HON) reported earnings of $1.51 that rose +9 and beat estimates for $1.49. Revenue declined -5% to $9.77 billion due to the strong dollar but still beat estimates for $9.74 billion. Excluding the impact of the dollar revenue was up +3%. The company raised the low end of guidance from $6.00-$6.15 to $6.05-$6.20.
Comerica (CMA) reported earnings of 73 cents compared to estimates for 75 cents. The big news was the warning over energy loans. With 7% of its loan portfolio tied to energy and 20% of its deposits based in Texas the falling oil prices are causing trouble. Comerica said "at-risk" energy loans rose by $329 million in Q2 with past due accounts rising +$100 million. About 14% or $578 million of its energy loans have been classified as in trouble. Comerica has made loans to shale drillers for years and some of those drillers are struggling. Halcon Resources (HK, $1.03), Laredo Petroleum (LPI, $10.78) and Sanchez Energy (SN, $7.93) have loans with Comerica and could be in the problem portfolio.
Progressive Corp (PGR) reported earnings of 54 cents, up +24%, that matched estimates but revenue of $5.21 billion beat estimates for $5.05 billion. Premiums rose +11% to $4.51 billion. Catastrophe losses totaled $154 million for Q2 on hail and flooding in Texas and Colorado. Progressive is set to increase profits because their competitors have recently increased rates and that generates new business for Progressive. Progressive shares soared to a new high on the news.
More than 450 companies report earnings next week. The most watched will be Apple on Tuesday. There is a significant amount of chatter about what they will report. Over the last 10 years, Apple has beaten on earnings 37 times and missed 3 times. Nobody expects them to miss estimates this time but they are worried about the quality of earnings. The watch is the wildcard but nobody really expects a blowout quarter on watch sales. There were delivery problems early in the quarter and this is the first version. Most buyers are going to wait until version 2 or 3 before spending several hundred dollars on an electronic accessory.
The Wall Street Journal reported last week that Apple had placed an order for 89 million iPhone S models for Q4 delivery. They were all giddy because their initial estimate was for 70 million. However, the analyst community was expecting 100 million and if the 89 million number is correct it would be the first time Apple ordered less on a model S upgrade. That could be for multiple reasons. They have sold so many model 6 versions that Apple may not believe the upgrade market is going to be that strong. They blew away estimates for iPhone sales in Q1 and said sales were still strong in Q2. However, after such a strong Q1 there could be worries they may have overpromised and will under deliver in Q2.
There is also the unknown over the Apple Music product. Hopefully they will give us some numbers on subscribers and many analysts expect that number to be large. This is a new revenue source for Apple and it could be huge since it is a monthly subscription product. The unknown is how many Apple fans actually loaded the application and are using it. We also do not know about fees on Apple Pay. We know they do not get much per transaction but there could be billions of transactions.
All of this uncertainty is causing Apple shares to lag the market. Nothing would please me more than to see Apple explode to a new high on Tuesday after the close. However, while other stocks were surging on Friday as shorts covered, shares of Apple were only modestly higher. In one way that is good. It means investors are somewhat bearish on Apple earnings. I would rather them be too bearish than too bullish because bearish means they are short and another squeeze is possible.
Analyst Ananya Bhattacharya said Apple was setting up to post a record profit in 2015 of $52.5 billion. That would be the largest annual profit ever generated from a company's operations. Exxon holds the record at $45 billion in 2008. Earnings for Q2 (Apple's Q3) are expected to be $10.4 billion after $18 billion in Q4 and $13.6 billion in Q1. The current quarter is expected to be $10.5 billion. Q2 and Q3 earnings are always low because of the sales cycle. Iphone sales were 61 million in Q1 and expected to be 47 million in Q2. Global PC sales declined -11.8% in Q1 according to IDC. However, Apple's MacBook sales rose +16.1%. The biggest risk to Apple is China. They received 29% of their revenue last quarter from China. If consumer sales declined because of the economy or the volatility in the stock market then Apple's earnings could be at risk. Since the market was up until the last couple weeks of June, I do not think that is a big risk for Q2.
Apple Watch 2015 sales are estimated to be between 10.5 million and 40 million depending on which analyst you read. Apple's Record Profits
There are some big names reporting next week including IBM, GoPro, Microsoft and a bunch of Dow components. By the time the week is over, we will have a very good idea how the Q2 cycle will end. Currently S&P Capital IQ expects a -4% decline in S&P earnings. If you remove energy that rises to a +8% gain. However, Q3 is expected to see a -1.5% decline and Q4 only a +2.4% gain. That means guidance in this cycle will be very important for Q3 estimates. So far the cycle has been good with a 75% beat rate and numerous guidance raises despite the strong dollar. If this continues we could see Q3 revised up sharply and the market would celebrate.
S&P said more than 20% of the S&P-500 companies reduced their outstanding shares by 4% or more in Q1. That means less stock in the market and a better chance of beating on earnings per share since there are fewer shares.
The fading uncertainty in Greece, Iran and the Chinese markets and the expectations for the Fed to hike rates sent the dollar to a three-month high. This is only going to get worse as we move closer to a September rate hike. The dollar strength is crushing commodities and especially metals.
Gold closed at a four-year low and silver at a five-year low. Oil prices flirted with $50 intraday and copper was only 5 cents off its post financial crisis low.
The low in copper suggests China is not telling the truth about their economic growth. They are the biggest user and copper producers claim demand is falling. Doctor Copper is a very widely used indicator for economic growth and copper demand is telling us that growth is slowing. The dollar is having an impact but demand is also a key factor.
Crude prices declined on the strong dollar but also on worries over rising production in OPEC. Production in the U.S. has not declined despite a 50% drop in active rigs. Now that the July 4th holiday is behind us the demand for gasoline will decline and with it the demand for oil.
The energy sector is imploding again on expectations for oil to decline into the $40s. We came close on Friday with the intraday low at $50.14. Baker Hughes said the active rig count declined -6 to 857 with oil rigs declining -7 to 638. Total rigs rose for the prior three weeks but only by a total of +6 rigs. That gain was wiped out and the 857 active rigs today is a 10-year low. Oil rigs at 638 are now 10 above their low at 628.
Schlumberger (SLB) reported earnings last week and they said they expect exploration and production spending in North America to decline another 35% over the rest of the year. They are expecting a 15% decline internationally.
The S&P moved to within 4 points of the closing high at 2130.82 set back on May 21st. With Google, Priceline and a bunch of big cap tech stocks all surging on short covering I am surprised the S&P did not close higher. Unfortunately, a lot of other sectors including industrials and healthcare were losers for the day. The tech sector was the only S&P sector positive at 3:PM with the other 9 in the red.
We cannot kid ourselves about the Nasdaq sprint to a new high. Netflix split 7:1 on Tuesday and traded down to $97.50. On Friday, the intraday high was just under $118 or $826 in presplit terms. That is a major impact on the Nasdaq. Add in Google's $98 gain to $700, Amazon +7, Tesla +8 and a huge list of big biotech gainers and the Nasdaq had nowhere to go but up.
Unfortunately this will not last. The best bet in the house was probably on QQQ puts at the close on Friday. For confirmation, this was a Nasdaq only rally you need to look at the Russell 2000. The index was lethargic for the last three days and on Friday it closed down -6 points. This was a short squeeze on big cap techs and nothing more.
I wrote on Tuesday that Russell 1275 was going to be a critical test for the small caps after a four day rebound from the 150-day average at 1228. That resistance test failed. The Russell rallied right to that level on Tuesday and could not penetrate.
We all know how market cycles work. When big caps are running you sell small caps to raise cash. When small caps are running you sell big caps to raise cash. When you are caught in a short squeeze you sell anything you can to raise cash. Friday was an "anything you can" day.
Volume over the last five days averaged only 6.0 billion shares with Friday the highest at 6.2 billion. For an option expiration week those numbers were really low.
The candle formation on the S&P is a spinning top and can signal a change in direction. It means the buyers and sellers were both active in the session and there was indecision by both. Neither could press their advantage.
When a spinning top comes after a long string of gains it typically suggests a top has formed. Coming at resistance as it did on Friday is doubly problematic.
Over the last few weeks I have been showing the Bullish Percent Index chart for the S&P. You would think after a major rebound of +62 points on the S&P that the BPI chart would have improved significantly. Unfortunately, it has not. The percentage of bullish stocks with buy signals rose only 2% from 54% to 56%.
The percentage of S&P stocks over their short-term 50-day average did improve significantly from 27% to 52%. Stocks did move higher at least temporarily.
I am not pointing these facts out to be bearish. The market was entering a bearish phase the prior week and the tech rebound rescued it from disaster. The -4% correction turned out to be just one more buying opportunity generated by headlines from Greece, Iran and China. Now that those events are behind us, investors are free to focus on earnings and make intelligent buying decisions rather than act on emotion.
The Dow has failed for three-days at 18,100. The narrow index of 30 stocks can be pushed around by 1-2 advancers/decliners on any given day. The drop in crude oil has weighed on Chevron and Exxon and anything non-tech has been lagging. This kept the Dow from posting any material gains although it did close well off its Friday lows.
Next week will be no different. There are plenty of Dow components reporting earnings and each will be either the hero or zero for the day. Clump a couple of those together and we could move in either direction. However, as more components report there will be less excitement left in the index. Typically, after a component reports, traders will move on to some other stock and the previously reported stocks will weaken. That means the farther we get into the cycle the more heroes we need to keep the index moving higher.
The 18,100 and 18,165 levels remain strong resistance and I would not be surprised if we don't move over those levels by next Friday unless one of those reporting components posts a major surprise and adds a lot of points.
The Nasdaq exploded into new high territory and there is no near-term resistance until 5250. In my opinion, the Nasdaq chart is showing a significantly unsupported short squeeze that is begging for a retracement.
The biotechs were major support as they also broke out to a new high and never looked back. Google is in an unsupported breakout. Call me crazy but I cannot conceive of Google shares holding this level for very long. There may be some additional short covering at the open on Monday but gravity will eventually return.
The Nasdaq could easily return to the prior high at 5160 as support. The index is up +309 points (+6.3%) since the July 8th low at 4901. In what fairy tale world does that rally continue without a decent bout of profit taking? Granted there are a lot of tech stocks reporting earnings next week and there could be some more upside surprises but adding significantly to the existing gains is only a remote possibility. I hope I am wrong but historically the trend is for a pause after a giant gain.
The NYSE Composite is not a tech index. It has stocks of all flavors and sizes. The NYSE is well below the 2015 highs and was down -37 points on Friday.
The Russell 1000 ($RUI) is the 1,000 largest stocks in the market and it did post a fractional gain on Friday but stopped right at strong resistance. The gain was caused by those big cap techs that are included in the index.
At the beginning of the week, more than 500 of the stocks in this index were down more than 10% off their recent highs.
The Vangard Total Stock Market Index ETF (VTI) also posted only a fractional gain of 3 cents and remains well under strong resistance. The index declined -4% the prior week in conjunction with the S&P decline of the same amount and rebounded +4% this week to stop right at resistance at $110. There are 3,814 stocks in the VTI. Vangard VTI
The point I am trying to make here is that the Nasdaq rally was out of character with the rest of the market. Several big cap tech stocks posted outsized gains on monster short squeezes. These gains are unlikely to continue. This suggests the market could experience some volatility this week and more than likely early in the week.
Option expiration is over and earnings are in full swing. Once we get past the FOMC meeting the week after next there is the potential for fade in August as we approach the September FOMC meeting and the first rate hike. While a minor hike will have zero real impact on the economy or equities there is the perceived notion that rate hikes hurt and the equity markets tend to decline immediately before and after. However, once the initial dip is over the equity markets tend to rally on the theory that rates are rising because the economy is improving. We should plan accordingly for the next six weeks.
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Janet Yellen continues to press for a rate hike later this year despite some members of the FOMC in strong disagreement. In her speeches last week she both warned that a hike is coming but also qualified it so much that analysts were confused. Bold notes from Scott Krisiloff.
Appropriate to normalize at some point this year
"If the economy evolves as we expect, economic conditions likely would make it appropriate at some point this year to raise the federal funds rate target, thereby beginning to normalize the stance of monetary policy."
But this is not a statement of intent
"But let me emphasize again that these are projections based on the anticipated path of the economy, not statements of intent to raise rates at any particular time."
This is a sign of progress
"A decision by the Committee to raise its target range for the federal funds rate will signal how much progress the economy has made in healing from the trauma of the financial crisis. That said, the importance of the initial step to raise the federal funds rate target should not be overemphasized."
Highly accommodative for quite some time
"What matters for financial conditions and the broader economy is the entire expected path of interest rates, not any particular move, including the initial increase, in the federal funds rate. Indeed, the stance of monetary policy will likely remain highly accommodative for quite some time after the first increase in the federal funds rate in order to support continued progress toward our objectives of maximum employment and 2 percent inflation."
The Volatility Index ($VIX) hit a 10 month low at 11.77 on Friday and closed at 11.95. This suggests investors have lost all fear of a summer decline and are not buying put options as insurance against an unexpected drop. After trading at 20 the prior week, this was a dramatic decline. Remember the market adage, "When the VIX is high it is time to buy, when the VIX is low it is time to go."
The Bank of Canada admitted on Wednesday that Canada was in a recession. A recession is defined as two consecutive quarters of negative GDP. However, BoC governor Stephen Poloz was afraid to say the "R" word. Instead he said, "Real GDP is now projected to have contracted modestly in the first half of the year." He was pressed by reporters to say "recession" but he said the "R-word is unhelpful." Also, "I just find the discussion quite unhelpful. It's especially unhelpful when what has happened to the economy is very narrowly defined." I guess if you do not like the R-word you can just change your definition. Bank of Canada Admits Recession
The real discussion now is whether the U.S. is going to follow Canada down that recession path. Currently analysts are predicting 2.4% to as much as 4.0% GDP growth in Q3/Q4 so something drastic would have to occur to drop back into negative territory.
The most important regional Fed manufacturing survey is the Philly Fed report that was out last week for the July period. The headline number declined from 15.2 to 5.7 and just a couple tenths of a point above the low for the year. Analysts were expecting 12.0. This is not a signal that the U.S. economy is accelerating.
So many analysts are complaining about China's "bogus" GDP numbers that China actually pushed back against the claims and did so quite strongly in multiple venues. Maybe China "protests too much?" China GDP Not Overestimated
China GDP actually 2% lower than reported
After a big week in the market you would expect bullish sentiment to be surging. However, neutral sentiment rose +3.0% compared to a bullish gain of +2.9%. Bearish sentiment saw the biggest move with a -5.9% decline.
Apparently, a bunch of new highs was not enough to sway investors back into the bullish camp ahead of the summer doldrums.
This is the 16th consecutive week that bullish sentiment has been below its historical average of 38.8%. This is the longest streak since July 2012.
A mini ice age may be on the way according to European scientists. You would not know it now with record high temperatures all around the world in 2015. They claim their models are predicting a decade of very cold winters that have not been seen in 370 years. The last time this happened was between 1645 and 1715. The reason for this is the solar cycle and scientists claim there is 97% accuracy in the prediction. They are predicting this decade of winter to appear before 2030. A former NASA consultant and space shuttle engineer John Casey wrote a book called Dark Winter predicting the same scenario. Maybe the Game of Thrones series has it right. Winter really is coming. Winter is Coming
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