Several downgrades to the outlook for China and the emerging markets weighed on the markets sending the Dow down -290 and the Nasdaq losing -114 at the lows. Copper declined -4.3% to $2.285 intraday to drag the entire commodity complex lower.

Market Statistics

Overnight the Asian Development Bank cut growth estimates for China from 7.2% to 6.8% and India from 7.8% to 7.4%. Credit Suisse released a report titled "Race to the Bottom" saying "There is little to like about most commodities over the medium-term, just relative degrees of unloveliness." The report outlined the long-term problems of falling demand and rising supply.

This commodity weakness increased the pressure on European markets that began with a decline because of the drop in the automakers. Volkswagen (VLKAY) shares declined -15% to $25.60 after the CEO issued a public apology for deceiving the public and regulators by including illegal software meant to cheat on emissions testing. Originally, the EPA claimed there were 482,000 vehicles with illegal software. That was raised to as many as 11 million today. The company said it would take a $7 billion charge to earnings for the recall. There is a worry, and rightly so, that this will turn into a criminal case rather than just a fine. Volkswagen shares have declined -33% since the news broke last week. There are no options.

French Finance Minister Michel Sapin called for a probe of the entire automobile sector in Europe to make sure there was no misconduct by other manufacturers.

The other European automakers were also down as investors were forced to sell other stocks to cover margin losses in Volkswagen. Porsche was down -17%, Daimler -7% and BMW -6%. The German stock market declined -3.8%, French CAC-40 -3.4%, FTSE-100 -2.8%. The German EWG ETF declined -4.1% to two-year lows. With those declines overseas it led to significant declines in the U.S. at the open.

The uncertainty over what the Fed said and did last week is continuing to weigh on the markets. The Fed said it was not hiking because of worries over slowing economic growth, especially in China, and that impact on the global markets and inflation. Despite the multiple warnings about global worries, the Fed said October was still on the table for a rate hike. Unfortunately, you cannot have it both ways. You cannot warn about events that could take 3-6 months to develop and then warn we could hike rates in five-weeks.

Investors do not know which way to go. Is there a global economic problem or not? Apparently, the problem does exist given all the declines in commodities and multiple entities slashing growth estimates. This suggests the Fed's continued warning about a potential rate hike in 2015 is a protective measure. If they said a potential hike was off the table until March we could see investors run for the sidelines with worry over what the Fed knows that we do not. By continuing to talk about the potential for a hike in the weeks ahead they are implying conditions are better than they are and they are keeping U.S. economic sentiment mildly bullish. At this point, I do not think anybody trusts the Fed. They lost credibility by not hiking and now they may be forced to hike in October to restore that credibility. That assumes the global economy does not get worse over the next five weeks.

In the U.S., the economic reports were not pretty. The Richmond Fed Manufacturing Survey for September fell into contraction territory at -5.0, down from +12.6 in July and zero in August. The internal components fell sharply lower with new orders falling from +1.0 to -12.0 and backorders dropping even further into contraction territory from -15.0 to -24.0. Those two components suggest the next survey will fall even farther into contraction territory. Manufacturing cannot move higher with sharply declining orders.

Employment rose slightly but the average workweek declined from +3.0 to -12.0 suggesting there will be layoffs in the future.

The separate services survey declined from 30 to 10 but the big news was in employment. The composite component declined from 18 to 5 with retail falling from 5 to -18. With the holidays ahead, we should not be seeing that significant a decline in retail employment. All the components in the services sector declined.

Manufacturing Survey

The calendar for Wednesday contains no important reports. The Chinese PMI due out at 9:45 tonight could be a market mover in either direction. Estimates are for a decline to 47.5. A stronger than expected decline could strengthen views that Asia is melting down. A stronger than expected gain could suggest the worries are overblown.

I added the Pope's mass in Philadelphia on Sunday. There is expected to be more than two-million people in attendance. It will be the largest and highest security event in U.S. history. Even with that security, it will still be the largest potential terrorist target in history. I do not need to tell you what would happen to the market if there were a successful attack.

In stock news Carnival Corp (CCL) reported its third consecutive decline in revenue and they blamed it on the strength in the dollar reducing travelers from Europe. Ticket revenues declined -2.4% to $3.63 billion in Q2 and that is normally their best quarter. Total revenue declined -1.3% to $4.89 billion. Earnings were $1.75 per share compared to estimates for $1.63. The company lowered guidance for the current quarter to a range of 36-40 cents and analysts were expecting 45 cents. They did upgrade full year guidance from $2.35-$2.50 to $2.56-$2.60 per share. The company did profit from a -33% decline in fuel prices to $439 per ton. Shares declined -5% on the lowered Q3 guidance.

Shares of NCR Corp (NCR) declined -7% after a story broke that Blackstone Group had not been able to reach a deal to acquire NCR. Blackstone had been trying to locate a partner to help fund a bid worth up to $10 billion. Potential partnerships with Bain Capital and Carlyle Group both fell apart because of disagreements over price. Sources warned that the eventual acquisition of NCR was now in doubt.

Shares of Office Depot (ODP) and Staples (SPLS) both declined after the NY Post said Deborah Feinstein, the head of the FTC Bureau of Competition, is going to oppose the deal. She said the combination of the two chains would leave the U.S. with only one major office supply chain and that would raise antitrust issues. Staples announced it was buying Office Depot in February for about $6 billion. One remedy floated was for Staples to divest its delivery business.

Autozone (AZO) reported earnings of $12.75 compared to estimates for $12.67 per share. Revenue of $3.29 exceeded estimates for $3.25 billion. Same store sales rose +4.5% and well above estimates for 3.2%. Analysts liked the earnings saying the margin squeeze from expansion expenses were offset by higher margins on higher dollar products. Shares were up $15 early in the day but traders took profits at the close to end flat.

Conagra Foods (CAG) reported earnings of 45 cents that beat by a nickel but revenue disappointed. Revenue of $2.79 billion fell short of estimates for $3.67 billion. The company refrained from issuing guidance saying it will delay until it is closer to divesting its private label business and has some better cost reduction targets. The market did not like those comments and shares declined -7% on the news.

Darden Restaurants (DRI) reported earnings of 68 cents that beat estimates for 58 cents. Revenue of $1.69 billion also beat estimates for $1.68 billion. Same store sales rose +3.4% with Olive Garden sales up +3.4% and Longhorn Steakhouse sales up +7.6%. They guided to full year earnings in the range of $3.15-$3.30 compared to prior guidance of $3.05-$3.20. Analysts were expecting $3.14.

CarMax (KMX) reported earnings of 82 cents that beat estimates for 75 cents. However, revenue of $3.88 billion missed estimates for $3.94 billion. Used vehicle sales rose +7.9% to $3.2 billion. Unit sales rose +9.2% to 156,516 vehicles but the average selling price declined -1.1% to $19,983. Same store sales rose +4.6%. New vehicle sales declined -13.5% to $60.5 million due to a -12.9% drop in the number of vehicles to 2,248. The average selling price declined -0.7% to $26,799. Wholesale vehicle revenues rose +11.6% to $591.8 million on an 8% increase in units sold to 106,522 vehicles. I did not think the earnings were that bad but shares declined -4.47% on the news.

The earnings schedule for Wednesday is weak with Lennar (LEN) the only major report. Thursday remains the big day with Nike and BBBY.

For those keeping track, out of the six companies giving guidance today, five of them were negative and only one positive. Darden was positive and CCL, ASPN, CAG, GIS and FDS gave negative guidance overall.

Crude oil dipped to $45.15 at the low but rallied on short covering just before the close to end the day at $46.23. Crude typically rallies late on Tuesdays because the API inventories come out after the bell and the EIA inventories are out on Wednesday morning. The API inventories showed a decline of -3.7 million barrels but the numbers rarely agree with the EIA numbers on Wednesday. Crude rallied about 25 cents to $46.54 after the report. That suggests traders are skeptical of the inventory decline.


The S&P declined sharply to a low of 1,929 intraday. There was a +13 point rebound late in the afternoon and it was broad based. However, I would not try to hang my hat on that as suggesting a rally tomorrow. The S&P futures are down -6.50 as I write this commentary but that can change in a heartbeat.

The odds are growing that we are going to retest the August lows. We may not decline all the way to 1,867 but I would not be surprised to see a print under 1,900. We are in the worst three weeks of the year for the market in normal years and there is certainly a lot of negativity heading our way from overseas.

If I had to pick a potential bounce point, it would be 1,912 and the post August lows in early September.

The Dow dipped below interim support at 16,335 but recovered to that level at the close. The intraday low of 16,221 was right at the level we saw as support two weeks ago. That would be our line in the sand for Wednesday followed by 16,030 and the support from early September.

The individual charts for the Dow stocks have not improved. The only change was in the amount of day-to-day volatility. I would not be surprised to see that 16,030 level tested but that could be a decent buying point.

The Nasdaq was crushed intraday with a -114 drop but closed with a +40 point rebound. The biggest, best-loved stocks were the ones that were sold the hardest. Facebook (FB) lost -3% on no news. Biotech stocks were sold hard again ahead of Clinton's proposal on drug price controls in the afternoon. Now that the proposal is public, the reality may sink in. She cannot make any changes if/until she is elected and then only if she can get those changes through Congress. It will be three years before there is any material risk for price controls. Stocks with extreme exposure to price controls like Gilead Sciences (GILD) actually closed positive for the day after an early decline. That could carry over into the Nasdaq on Wednesday.

Shares of the Nasdaq dipped below short-term support at 4,760 with future support at 4,635. Resistance would be significantly higher at 4,875.

The sentiment index for the market closed well under support. The Russell 2000 dipped to 1,137 and closed at 1,143 but 1,150 was strong support. With that support broken is suggests there is more trouble ahead. The next support level is around 1,130 and then 1,105.

The combination of weakness in China, Fed indecision and conflicting Fed guidance, seasonal history and declining earnings should continue to weigh on the markets. The S&P has only gained in the week after September expiration five times in the last 17 years. With all the negativity weighing on the market today, I do not see any reason for a sudden rally. However, there is always a short squeeze lurking in our future. I would be refining my shopping list on the assumption we are going to see a continued decline.

Enter passively, exit aggressively!

Jim Brown

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