Monday's breakout to another triple index high was completely erased by declines on Tuesday.

Market Statistics

Overnight declines in Asia led to declines in Europe and a decline in the S&P futures ahead of the U.S. open. Weak Chinese economic reports led to expectations for future stimulus on Monday but the rally lost traction overnight. Economic weakness in Europe was also to blame.

The lackluster earnings guidance from Home Depot also caused a decline in the stock and weighed on the Dow.

The economic reports were positive but they could not rescue the markets from the opening drop. New residential construction for July rose from 1.189 million to 1.211 million on an annualized rate. Consensus had been for a decline to 1.180 million. The gain came mostly from new multifamily structures with a rise from 420,000 to 441,000. Single-family starts rose from 766,000 to 770,000.

Housing permits, which predict starts in the coming months, saw single family permits decline from 738,000 to 711,000. Multifamily permits were up sharply from 415,000 to 441,000. Housing starts would have been higher but the West saw a -5.9% decline due to the impact of forest fires and drought. Starts in the Northeast spiked 15.5%, South +3.5% and Midwest +2.3%.

Although this was a good report, the permit backlog is decreasing with a -5% decline in July and is now down -8.9% from July 2015. This suggests the housing boom may be losing traction but it also reflects the coming winter months when construction slows.

The Consumer Price Index (CPI) was flat at zero for July and matched analyst consensus estimates. This was after a +0.2% rise in each of the prior two months and a +0.4% rise in April. Energy costs were blamed with a -1.6% decline. Food prices were unchanged. The core CPI that excludes food and energy rose +0.1% and slightly less than expected.

Airline fares were volatile and declined overall. Used car prices fell -1%. Energy prices are down -10.7% over the last 12 months while food prices have risen +0.2%. The core CPI is up +2.2% on a trailing 12-month basis.

The weak CPI reduced the chances of a September rate hike despite some comments from Fed presidents. San Francisco Fed President John Williams actually mentioned the possibility the Fed should raise its inflation target from 2% to something higher since the headline CPI rate is already over 2% and the Fed is no closer to hiking. That was met with much criticism.

Industrial production for July rose +0.7% after a +0.6% rise in June. This was very unexpected with the consensus estimate only +0.3%. This was unexpected because of the production declines three of the four months from February through May. As always, there is a statistical anomaly impacting the headline number. Production in the utility sector rose +2.1% in each of the last two months. Utility production should not be counted in the headline calculation but the government saw fit to do that many years ago. If utilities have to produce more electricity for cooling in the summer it inflates the industrial production number and makes it appear the country is doing better economically. Politicians in power can brag that production is rising but they conveniently ignore the number in the spring and fall when utility production is slow.

Internet E-Commerce Sales rose from $92.8 billion to $97.3 billion for Q2 for a 4.5% gain. Retail sales in brick and mortar stores rose only +1.5% in the same period. Online sales have risen 15.8% from Q2-2015. Online sales have posted gains in 30 consecutive quarters while normal retail sales have declined sporadically. In 2005, Internet sales were 2.4% of total sales. In Q2, that number had risen to 8.1% of the total. As big as Amazon is today, they are just scratching the surface of what they can be a decade from now. Mall traffic appears to be in a permanent decline and once there is a terrorist attack at a U.S. mall, it will drop off even faster.

Moody's Chart

The economic calendar for the rest of the week is headlined by the FOMC minutes on Wednesday and the Philly Fed Manufacturing Survey on Thursday. Those are the only events that could trigger market movement.

Janet Yellen will give a speech at the Jackson Hole conference the following Friday and analysts believe she will try to prepare the market for a September rate hike. While nobody really expects a hike in September, there are analysts who believe the economy has improved sufficiently to warrant a hike if the August jobs reports continue to show strong gains.

The Atlanta Fed real time GDPNow forecast is for 3.6% growth in Q3. That is well over analyst consensus projections for 2.6% with some high profile analysts expecting from 1.8% to 2.2%. The Atlanta Fed has been right on the target until the first GDP release in Q2. The Fed was forecasting 2.4% growth and the BEA reported 1.22% growth. That was the first major miss in a long time. The analyst consensus for Q3 is currently 2.8%.

New York Fed President William Dudley said this week "the September meeting is not off the table" for a rate hike. Atlanta Fed President Dennis Lockhart said he expects one more rate hike in 2016. The Fed funds Futures are not expecting a hike in September so that is why Yellen's speech on the 26th is so important.

Currently the futures are predicting a rate hike in December. The elections will be over and the risk of being politicized will have passed. There will be four more employment reports and four more months of economic data before that meeting. The Fed rarely hikes in December but they may take this opportunity to squeeze one in before a new president takes office.

On the earnings front, Dow component Home Depot (HD) reported earnings of $1.97 that beat estimates by a penny. Revenue rose 6.6% to $26.472 billion and beating estimates for $26.437 billion. Same store sales rose +4.7% system wide with U.S. stores rising +5.4%. The company guided for the full year for revenue to rise 6.3% with same store sales rising 4.9%. Earnings are expected to rise 15.6% to $6.31, up from prior expectations for $6.27.

While that was a guidance raise and earnings were decent, the stock declined about $1 because the investor expectations were slightly higher and the market was weak. Barron's titled a note on the earnings as "Nothing to see here."

Dick's Sporting Goods (DKS) reported earnings of 82 cents compared to estimates for 69 cents. Revenue rose 7.9% to $1.97 billion and beat estimates for $1.88 billion. Same store sales were up +2.8% and analysts were expecting a -2.2% decline. The company guided for the full year to earnings of $2.90-$3.05 compared to prior guidance for $2.60-$2.90. Analysts were expecting $2.84. The forecast current quarter earnings of 39-42 cents and analysts were expecting 38 cents. Shares exploded to a new closing high of $58.76.

TJX Cos. (TJX) reported earnings of 84 cents that beat estimates for 81 cents. Revenue rose 7% to $7.88 billion and narrowly beat estimates for $7.85 billion. Same store sales rose +4% compared to expectations for 3.5%. They raised guidance on the comps from 2-3% to 3-4% for the full year.

Shares collapsed -6% after they guided for the current quarter to earnings of 83-85 cents compared to analyst estimates for 90 cents. They projected full year earnings of $3.39-$3.43 compared to their prior guidance for $3.35 to $3.42. However, analysts were expecting $3.48 per share.

Urban Outfitters (URBN) reported earnings of 66 cents compared to estimates for 55 cents. Revenue rose to a record at $890.6 million compared to estimates for $885.6 million. Same store sales rose 1% system wide compared to estimate for a -1.2% decline. Same store sales in the Urban Outfitters stores rose 5%, but flat at Free People stores and down -3% at Anthropologie stores. Shares spiked 9% to $34.50 in afterhours.

Advance Auto Parts (AAP) reported earnings of $1.90 that missed estimates for $2.12. Revenue of $2.26 billion beat estimates for $2.24 billion. Last year the company earned $2.27 per share on revenue of $2.37 billion. Same store sales fell -4.1%. The CEO blames it on store closures and the impact of the Carquest consolidations. They acquired 1,233 Carquest stores last year for $2 billion. Many have been closed or consolidated into the AAP chain. Shares fell -4.4% on the news.

Dow component Cisco Systems reports after the bell on Wednesday. Lowe's and Target head the retail sector list with Staples, Children's Place and American Eagle Outfitters also reporting.

Hain Celestial (HAIN) was the day's biggest loser. The company said it was delaying its earnings report because of accounting concerns and would probably miss its prior 2016 guidance. The company said, "During the fourth quarter, the Company identified concessions that were granted to certain distributors in the United States. The Company is currently evaluating whether the revenue associated with those concessions was accounted for in the correct period and is also currently evaluating its internal control over financial reporting."

In further discussions they said they were trying to determine if they should record and account for sales when the product was shipped to distributors or when the distributors actually sold the product to retailers. The problem is a new revenue ruling from the SEC that is going to impact a lot of companies in the months ahead. In many case it will require companies to book sales earlier than they did in the past. The rule is called FASB 606. The rule could make sales reporting much more volatile and Price Waterhouse Coopers warned it would be a tough challenge for most companies. The rule does not take effect until 2018 but normally companies try to implement the rules earlier to avoid accounting surprises.

Apple, Amazon, Cisco, Facebook, Intel,, Boeing, Disney, Gilead Sciences and Qualcomm have already warned the rule will have a direct impact to their revenue recognition.

The new rule did not have a direct impact on HAIN in this cycle but this is a sample of what to expect when the rule goes into effect.

In Hain's case, they granted some distributors concessions based on their order patterns and the company is evaluating whether those concessions were booked properly into the correct accounting period.

Oil prices continued their OPEC chatter rebound to trade as high as $46.73. The OPEC ministers are keeping the potential production freeze headlines flowing and invoking Saudi Arabia in their comments to lend them credibility. Russia's energy minister said he would meet with OPEC members in October to discuss a possible freeze. However, Iran said they were unsure if they would take part in any discussions. They are in the process of ramping up production and do not want to halt that process.

The Nigerian oil minister threw some cold water on the headlines saying it was unlikely a freeze would be implemented in September.

Crude prices were also helped by a drop in the dollar to a 7-week low. After the bell the weekly API inventory numbers showed a decline of one million barrels but gasoline inventories rose +2.2 million and distillate inventories rose +2.4 million. This pressured WTI prices into a 30-cent decline in the evening session.


I cautioned in the weekend letter that the Friday selling was not a big deal. On Monday, I wrote it appeared we had achieved liftoff when all the indexes pulled significantly above the recent consolidation pattern. Unfortunately, that gain was completely erased when the major indexes closed at their lows and in the case of the S&P a four-day low.

One day does not make a trend in either direction. Monday's strongly positive market was erased by Tuesday's strongly negative market. BOTH days were more than likely due to option expiration pressures as investors close out August positions and launch September positions.

Bloomberg ran a story last week pointing out that insider buying was at a RECORD low. The number of officers and directors of companies purchasing their own shares declined by 44% to 316 and the lowest monthly total ever based on data going back to 1988. They theorized the heavy July earnings schedule plus the market holding near record highs kept insiders from rushing to buy their own shares. The only flaw in this scenario is that the market was making new highs last July during earnings and there was no slowdown in purchases.

The drop in insider buying corresponds to the drop in buying by investors in general. There is still no conviction to this rally and everyone is still waiting on the sidelines for a buying opportunity. With the next six weeks the most volatile period in the entire year, everyone expects to get that opportunity soon.

The S&P rallied to 2,194 on Monday and exactly to uptrend resistance. The index rolled over in the afternoon and continued its drop today to close on the exact low at 2,178. That is 3 points away from prior resistance at 2,175 which should be initial support. If that level breaks, we are targeting a retest of 2,150 from August 2nd.

The Dow also has three lines of converging resistance at 18,675 that halted the spike on Monday and the Dow gapped down to 18,614 at the open today and never looked back. The Dow closed at the low of the Day at 18,552. The Home Depot earnings did not help the index and since Cisco reports after the close on Wednesday, there will be no help there either.

Only six Dow components were positive and that could be a preview of things to come as the post earnings depression settles in for the next couple of weeks.

Support is 18,550 followed by 18,250. That is a long drop and I am not suggesting it is going to happen but that is the risk.

The +29 point Nasdaq gain on Monday was erased with a -34 point drop today. Support at 5,230 held until right at the close but a late bout of selling pushed the index to 5,227. Support is now 5,200 and that is a critical level. There are no high profile tech stocks reporting earnings tomorrow that are likely to push the index higher.

The Russell 2000 gave me false hope on Monday when it gained +12 points to a new 52-week high. When that gain was erased today, all the air went out of my balloon. Like the other indexes, the Russell closed at the lows for the day at 1,231. Despite my frustration, the index is still moving up the center of the uptrend channel and remains well above the bottom of the trend. The index could drop all the way back to 1,200 without breaking the rally. That level would be a good buying opportunity.

One of our long time readers has been permanently bearish for a long time. He sent me an email after my weekend commentary where I suggested we could be going higher.

I am going to have to pull out my old books and read up on this cr*p. I believe I read somewhere that you could actually make money in a bull market. I am probably going to have to re-program my computer, because if I place a long order it will reject it, and alarm bells will ring, and the hard drive will start smoking. How do you do this? Just hold your nose and buy?

Knowing his bearish history, I was laughing so hard I had tears. Yes, occasionally the market actually rises for prolonged periods despite the moniker of the "most hated bull market ever." Just remember we are headed into the most volatile six weeks of the year. Anything is possible so avoid being overly long or short.

Continue building your shopping list of stocks you would like to own and your ideal entry point. There may be a buying opportunity in our future and again maybe not.

My friend Art Cashin pointed out a market fact that bears repeating. Since 1950 when the market made new highs in August in an election year the winning candidate won by a landslide.

1956 Eisenhower - 41 states
1972 Nixon - 49 states
1980 Reagan - 44 states
1992 Clinton - 32 states

My theory on this is that investors saw the polls moving strongly in favor of the winner and the normal post election rally was pulled forward into August/September. That is just a theory. With Clinton so far ahead in the polls we could be seeing that repeat in 2016.

I apologize for the lateness tonight. We had a power outage in our area this afternoon that delayed the process.

Enter passively, exit aggressively!

Jim Brown

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