Friday was the lowest volume day of the week and there was no conviction in either direction.

Weekly Statistics

Friday Statistics

The indexes traded in narrow ranges and returned to the flat line at the close. The Russell 2000 and the Nasdaq 100 posted fractional gains while the rest of the major indexes closed in negative territory. After the big intraday declines on Thursday, you would have expected either a continuation to the downside or a rebound to try and recover those losses. Neither appeared with the Dow trading in a very narrow 46-point range after the opening drop.

This was a wait and see market. Details about the competing tax packages were dribbled out all day. There were rumors Saudi Arabia was about to declare war on Iran and multiple well-known analysts said Thursday was the start of a 3% to 5% correction. There were numerous cross currents and investors were sitting on their hands waiting for a direction to appear.

The only economic report was the first reading on November Consumer Sentiment. The headline number fell from the multi-year high of 100.7 to 97.8. The present conditions component declined from 116.5 to 113.6. The expectations component declined from 90.5 to 87.6. The main reason for the declines was a sudden drop in expectations for future income. Individuals expecting their income to rise over the next year declined -3.2% for 52.5% of the respondents. Businesses were slightly more confident with 35% expecting conditions to improve, a gain of 2%. The obvious headline that comes to mind is the sharp drop in excitement over the tax plan announced by the House. The Senate plan had not yet been released when this survey was taken. Despite the minor decline sentiment remains at decade highs.

The calendar for next week rebounded from the holiday like calendar we saw last week with almost no reports. This week we will have the PPI/CPI, NY and Kansas manufacturing surveys and the most important of the regional Fed surveys, the Philly Fed Manufacturing Survey. This is the proxy for the national ISM coming up on December 1st.

The earnings calendar also shrank as the Q3 cycle comes to an end. The last three Dow components report next week but they are not likely to provide much lift. Cisco Systems is a low dollar stock at $33 so even a 10% move would only add about 21 Dow points. Home Depot is $164 and they should report strong earnings because of the hurricanes but the expectations are already strong. There is the potential for a sell the news event. Wal-Mart is a $91 stock and it is up about 15% over the last month. The odds of a continued post earnings spike are not very high.

Through Friday 457 S&P-500 companies have reported earnings and 72% have beaten estimates. 67.1% have beaten revenue estimates. These are above the long-term averages of 64% and 59% respectively. Earnings growth for the quarter has now jumped to 8.1%. That is up from 4.3% at the beginning of the cycle. I wrote several weeks ago that the Q3 estimates normally rise 4% from the beginning to the end of the cycle and it is right on track to repeat that trend. The forward PE is now 18.2. There are 18 S&P companies reporting this week.

The only recognized company with earnings on Friday was JC Penny (JCP). The company posted an adjusted loss of 33 cents that beat estimates for 42 cents. Revenue of $2.81 billion beat estimates for $2.78 billion. Same store sales rose 1.7% and beat estimates for 0.6%. They guided for full year earnings of 2-8 cents and same store sales of flat to -1%. Al of those numbers may not seem particularly exciting but they were much better than investors expected. One analyst said JCP lowered its goals and then beat them. Shares had traded down to $2.35 over the last week and the lowest level since the company went public in 1970. Analysts were cautioning about chasing the 15% rally on Friday saying the business model is broken and without going 100% promotional 100% of the time, store traffic will continue to decline.

The biggest earnings mover on Friday was Nvidia (NVDA) after they posted another blowout quarter after the bell on Thursday. Revenue rose 32% to $2.64 billion with earnings of $1.33. Analysts were expecting $2.37 billion and earnings of 95 cents. Revenue from data centers doubled from the year ago quarter to $501 million and rose 20% from the prior quarter. The Tegra processors that fuel everything from video game consoles to cars saw revenue rise 74% to $419 million. Video graphics chips rose 25% to $1.56 billion, professional visualization chips rose 15% to $239 million and automotive chips rose 13% to $144 million. For the current quarter, they guided to revenue of $2.65 billion and more than analyst estimates at $2.44 billion. They guided for gross profits of 60%. They declared a quarterly dividend of 15 cents and said they plan to return $1.25 billion to shareholders in 2018, similar to 2017 levels.

CEO Jensen Huang said every major cloud provider now supports the Volta GPU for deep learning and other AI tasks. Every major computer company now markets systems containing Volta GPUs. The Volta chips will power the world's first level-5 robotic taxi, which will go live next year. Level-5 is fully autonomous driving. When asked about the company's guidance he said "we feel super bullish about our guidance." Goldman Sachs said the ramp on Volta is tracking well and "has significant runway ahead as a broader set of customers adopt the new architecture in the coming quarters."

Everyone who has been reading my commentary for any period of time knows I am an Nvidia bull. I have been a tech nerd since the late 60s when I was managing IBM mainframes and I have a very good understanding of Nvidia's architecture. They are years ahead of Intel and AMD and accelerating rapidly. By the time those companies catch up to Nvidia's performance today, they will still be years behind where Nvidia will be by then.

I am not stupid enough to chase the stock at these levels but I would be a buyer on any pullback until Nvidia's growth slows or somebody else produces a truly competitive product. I do not foresee either of those things happening in the coming quarters.

At least 18 analysts raised their price targets with B.Riley FBR hiking from $250 to $270. Sun Trust Robinson went from $220 to $253. Jefferies raised their target to $240 and RBC to $240. Rosenblatt raised their target to $250 and said the "Volta GPU is likely to be the most successful product in the company's history. A single Volta GPU can replace 100s of server CPUs in a deep learning environment." Nomura said they were falling on their sword and raised their price target from $110 to $190 and their rating from sell to hold. Stifel raised their target from $110 to $184. BMO Capital is not convinced but they raised their target from $90 to $135 while keeping a sell rating. Analyst capitulation is a wonderful thing because it encourages more buying.

Disney (DIS) rallied on earnings despite missing on both earnings and revenue. The company said it was moving forward into full streaming and would be announcing more details in early 2018. However, CEO Bob Iger said they were planning on pricing "significantly below Netflix prices." Boom! That immediately sent Disney shares higher and Netflix shares lower. The streaming component is something Disney has been lacking and they have a large amount of content in their own inventory. They have been producing movies and full-length cartoons for more than 50 years. They own all their content where Netflix has to rent it for years at a time for a lot of money. Once Disney gets their program in operation, a lot of content will disappear from Netflix.

Obviously, Netflix has seen the future for a long time because they have to negotiate the long-term rights. Disney already announced they were pulling some content starting in 2019 for their own use.

I am a Netflix fan as well but they have some serious competition issues 2-5 years from now. They will probably control the international streaming market for years to come but the North American market is going to be tough. Facebook, YouTube, Amazon, Apple and now Disney are going to be chipping away at the subscriber base. Apple is planning on spending $1 billion on original content in 2018 and just outbid Netflix for a TV series starring Reese Witherspoon and Jennifer Aniston. They have also commissioned a new season of Amazing Stories, the 1980 Sci-Fi/Horror series. Apple has to cash to blow the other streamers away if they decided to own the market.

Add in Roku, Hulu and others and cord cutting is going to be a major recreational sport. The more services come available, the bigger the problem for Netflix. Disney will end up selling its streaming service to the accessory services like Roku and that will further pressure Netflix. However, as cord cutting picks up speed that is going to pressure Disney in other areas like ESPN. The beauty of all this is that lots of competition means lower prices for consumers.

Disney is going to spend another $1 billion to expand its theme parks and they just signed another deal for three more Star Wars movies that will take place in a different galaxy with different characters. That will insure another generation of kids grow up with Star Wars and that will feed attendance to theme parks and eventually those movies will end up on Disney's streaming service along with the Marvel, Pixar and other Lucasfilm movies.

I am not a fan of Disney shares today. These are all long-term events, late 2019, and the company did miss on earnings and revenue. Earnings of $1.07 missed estimates for $1.13 and revenue of $12.78 billion missed estimates for $13.23 billion. Cable revenue declined slightly to $3.95 billion and missed estimates for $4.06 billion. This short-term headline rally is likely to fade.

Netflix shares were down for the week despite the fact Disney's service will not be available until the second half of 2019. They were also down after they cut Kevin Spacey out of House of Cards and the movie Gore because 18 people including some of the cast complained of sexual abuse. The rumor making the rounds is that Spacey's character will be killed off and his wife will take over the main role. Louis CK has also been booted from Netflix and FX for sexual abuse.

Netflix said on their recent earnings call that they will be just fine without Disney content. Currently they only offer Disney content internationally in the Netherlands, Australia and Canada but international subscriber growth in more than 180 countries was huge with 4.5 million new subscribers in the quarter. A Piper Jaffray survey of 500 U.S. Netflix viewers after the Disney announcement said only about 20% of viewers watch Disney content and of those they only spent about 10% of their viewing on Disney content. Piper estimated Netflix spent about $200 million a year on Disney content and that was only 3% of its overall budget for 2019.

I think the threat of Disney impacting Netflix in late 2019 is a little far off to be impacting the stock today. Netflix has 120 million subscribers today and growing by about 5 million a quarter. That means they will have 155 million or more at the end of Q2 2019. That means a minimum of 6 quarters with no impact so I would be a buyer of Netflix at the 100-day average currently $179. That is about a $13 drop from Friday's close.

Alibaba (BABA) had another record Singles Day. They sold $17.8 billion in one day in 2016 and that rose 39% to $25.4 billion on Friday. That is far bigger than Black Friday and Cyber Monday combined. Cyber Monday saw sales of $3.45 billion in 2016. The promotion had 60,000 international brands and 7,000 US brands participating. The company is trying to expand it from one 24-hour day to 24 consecutive days this year with promotions continuing for the next three weeks. Up to 1.5 billion packages will be shipped over the next 5 days. That is roughly the number of packages shipped in China for the entire year in 2016. Alibaba is growing much faster than Amazon with annual revenue expected to grow from 53% to 61% in 2017.

Don't take your iPhone X out in the cold because they quit working under 32 degrees. Users are complaining that below freezing the screen turns off and the battery loses its charge. Hey, not to worry, once you are back in a warm room it will recover. I see a market for iPhone heaters if you want to talk on the phone outside in this winter. Apple has acknowledged the problem and said they were designed to work between 32 and 95 degrees. Really? So only people in tropical climates were supposed to use them? Apple said it would release a software update in the coming weeks that would expand the operating parameters. Who in their right mind would have thought those parameters would be ok to start with? You cannot make this stuff up.

There is another problem that just showed up. Apparently after several days of use a green line shows up on the edge of the screen on some phones. Apple acknowledged the problem and said they would replace any phone with that problem.

Apple is well on its way to become the first trillion dollar company. At a share price of $175, their market cap is $900 billion. At roughly $195, their market cap will break the $1 trillion mark. The most recent target hikes have been to the $187-$194 range with Morgan Stanley at $194. There is likely to be a monster sell the news event at $195. Apple shares closed at $174.67 on Friday. I would be a buyer of Apple at $165 but there is no guarantee they will repeat the historical $10 post earnings drop.

Mattel (MAT) shares rose sharply on Friday after news that Hasbro (HAS) had made an acquisition offer. The legendary toy brands would create a $17 billion company and achieve significant benefits of scale. Both were hurt by the Toys-R-Us bankruptcy and the decline in normal retailing channels. Almost any new toy that hits the market is instantly copied by Chinese companies.

I saw a talking chipmunk toy advertised on TV and I went to Amazon to by one for a grandson. There were 9 manufacturers selling the identical looking toy. I have a reader that invented a product a couple years ago and had it made in China. It sold for $159 and for the first 6 months, he made a lot of money. Within six months there were multiple exact copies selling for $39 to $59 which was less than it cost him to make the first 10,000. Within 18 months, he was out of business. I feel for Hasbro and Mattel because they need all the help they can get.

There was no mention of price for Mattel and both companies refused to comment publicly. The companies have held merger talks before in 1996 and 2015. Hasbro also tried to buy Lions Gate Films earlier this year. They also held talks with DreamWorks in 2014 but the studio was bought by Comcast instead. The Toys-R-Us bankruptcy pushed Mattel shares down to $13 and Hasbro probably thought this was a new buying opportunity. Shares were $26 in April and $35 in 2016 so any offer will have to contain a significant premium or it may not get done.

It has been a wild couple of months for Bitcoin holders. The price hit $7,803 on Wednesday before falling back to $6,300 on Saturday. There was a scheduled upgrade to the cryptocurrency software on Thursday November 16th that would have split Bitcoins into two. The planned 2:1 split was called off and the price rocketed 10% higher on the news. The "fork" would have created another offshoot of Bitcoin with an even larger digital block size that would allow for more coins. Bitcoin is limited to 21 million by its current block size. By cancelling the fork, it means prices will continue to rise because of the upper limit on the available coins.

Crude prices continue to hold around $57 on worries about Nigerian production and new concerns about the Saudi "corruption" sweep and a potential war with Iran. The missile fired from Yemen targeting a Saudi airport near Riyadh was Iranian. Multiple nations are trying to figure out how Iran supplied the missile to the Yemeni rebels. This would be a violation of several UN resolutions. Saudi Arabia called it "blatant military aggression by the Iranian regime which may amount to an act of war." The Saudis claim they have the right to respond.

With 20% of the world's oil supply moving through the Strait of Hormuz, if even a single ship were damaged by hostilities, it could halt that flow of oil until hostilities ceased. Insurers would suspend coverage for ships making that voyage and that means there would be no tankers. Oil prices would rocket higher, probably well over $100.

Saudi Arabia is also warning all citizens to leave Lebanon because of Iranian influence on Hezbollah. Iran is the main supplier of arms to that terrorist group. Saudi has relatively modern military capabilities. They shot down the missile with a US anti missile system. They recently signed deals for billions more in military hardware. If a war broke out, they would have a technological edge over Iran but Iran would have an edge in quantity of offensive weapons. Iran does not have any material anti missile capability but Saudi Arabia does not have a large inventory of offensive missiles. It would boil down to dumb bombs and plane against plane. Both countries have significant antiaircraft defenses. If I were in charge of Saudi Arabia, I would wait as long as possible to engage Iran and spend every dollar I had improving my offensive and defensive capability. It is only a matter of time before there is a war with Iran although it could be years from now. Saudi will want to engage them before they have nuclear capability otherwise the fight would not end well. There are rumors that Saudi Arabia has tried to buy some nuclear weapons from Pakistan. That country is thought to have 140 nuclear bombs, including tactical nukes, bombs and missile delivered weapons, and has been a seller of nuclear technology in the past.

When, not IF, a war with Iran occurs, the price of oil could easily hit $200 a barrel. Oil will be the first casualty on both sides and could quickly eliminate 15% of global production for what could be years.

With oil over $50 now for several weeks and likely to stay there because of the Middle East uncertainty, US producers reactivated 9 rigs last week. At the same time US production rose to 9.62 million bpd and higher than the 9.61 mmbpd peak in June 2015. The impact to production from the oil price collapse has been erased, at least in production numbers. The number of active rigs at 907 is still less than half the 1,931 rigs at the peak in September 2014. That represents a lot of unemployed workers and a major decline in capex spending. However, fracking techniques have nearly doubled the amount of initial production today compared to wells drilled in 2014.

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Much of the market momentum over the last year has been related to the semiconductor sector. The $SOX declined -43 points intraday on Thursday or -3%. This was a major hit to the Nasdaq and the S&P. The chip stocks are a major sector in each of those indexes. The 3% decline drug the indexes sharply lower.

There are many headlines surrounding the sector with things like the Intel-AMD joint venture, Broadcom-Qualcomm acquisition, WDC-Toshiba memory fight, Nvidia's blowout earnings, etc. The chips are not likely to continue lower because of headline overload. As long as the chips are rising the broader market will rise as well.

Unfortunately, there is another sector at work that is dragging market sentiment lower. The Dow Transports have fallen -579 points from their 10,080 high in mid October. The transports are supposed to reflect business activity because every product has to be moved from raw material to manufacturer to retailer to consumer and therefore the activity in the sector is a barometer of business activity. Pulling the index lower is increased competition in the airlines, resulting in lower prices and margins and lower stock prices. That is actually a good thing for consumers because low prices increase the volume of travel. Also impacting the transports is the slowing of activity in the energy sector. With rig counts falling over the last 15 weeks, that means less well pipe and less frac sand. The low price of oil also means lower volume shipments of oil by rail from the shale fields to refiners. Shipping oil by rail costs $8-$10 a barrel and with oil at $50 it is not a winning proposition. Now that it is back to $57, we could see those shipments increase.

The point here is that there are reasons for declining transport stocks and they do not really reflect on overall business activity. The decline in the sector is damaging to market sentiment but it is not a major problem long term.

The decline in the small cap indexes is a different problem. First, they had a monster rebound from mid August until early October. The Russell 2000 gained 162 points. We had over a month of consolidation where the index held its gains but that began to weaken when November arrived. The weakness is increasing. With the dual tax bills taking different routes to completion and the possibility of the reform becoming law is growing slimmer every day, investors are taking profits in the small cap stocks.

The AAII Sentiment Survey that ended Wednesday showed no increase in bullish sentiment but there was a sharp jump from bearish to neutral, probably on their way to bullish. Bearish sentiment fell to 23.1% and the lowest level since September 13th. Remember, this survey closed on Wednesday and before the big drop on Thursday.

The S&P has only declined for two days since its record high on Wednesday. We are a long way off from a correction and so far, this has only been a minor dip to support and a 12-point drop over two days. That could change next week but with support at 2,565 and the index at 2,582, there is plenty of cushion. However, a break of that support level could turn bearish very quickly.

The Dow fell -253 intraday on Thursday and rebounded 150 points after testing support just above 23,300. Friday's narrow 46-point range on low volume saw the entire decline at the open. That was probably margin call selling left over from Thursday. As long as the Dow remains above 23,000 it is just a garden variety bout of profit taking and it should be temporary. If the index falls below 23,300, we could see a lot of stop losses getting hit and there is a big air pocket down to 22,275. While I seriously doubt we will see a decline of that magnitude it all depends on the outlook for tax reform.

There are three Dow components reporting earnings this week so there could be some volatility as I mentioned earlier.

The Nasdaq has been averaging a triple digit decline about every 4 weeks. It has been 2 weeks since the 112-point decline in late October. The index did drop more than 100 points intraday on Thursday but rebounded. Uptrend support held and the index is only 39 points below its record high. That is hardly a correction or even a decent dip.

The big caps were mostly flat on Friday because a $3 move on a $1,000 stock qualifies as flat. The average move for the top 15 big cap stocks was -.64 cents. That is flat!

That is why the Nasdaq Composite closed with only a fractional -0.89 loss.

There was no conviction by either buyers or sellers. This was a wait and see market.

There is a market problem brewing. The new uproar over Judge Roy Moore has the potential to kill any tax reform proposal. Without Moore, the republicans have only a 1-vote margin in the Senate and several republican senators are already doubtful about voting it through. This could be a market killer. If by chance the senate version was actually passed, the corporate cuts would not be effective until 2019 and that is also a market killer. The allegations about Moore did not really explode onto the scene until late Friday and that has been the main topic on TV all weekend. It may all blow over but I doubt it. Monday's open could be rocky.

Even a flawed tax reform package would be bullish for the market but a disaster similar to the Obamacare votes would be very bearish. Even though earnings and economics are good, there is a lot of optimism built into the market over tax reform. If the proposals fail, the chances are very slim the GOP will maintain their majority after the 2018 elections and that means nothing is going to get done for at least two more years. The market normally thrives in a gridlocked government but it will likely thrive from a lower level.

Enter passively and exit aggressively!

Jim Brown

Send Jim an email


"I am ready to meet my Maker. Whether my Maker is prepared for the great ordeal of meeting me is another matter."

Sir Winston Churchill

LAST WEEKEND TO SAVE $50 on your EOY Subscription
!!! This Offer Expires Tuesday !!!

Long time readers of Option Investor know we launch our End of Year subscription special on Thanksgiving weekend. It will be 20 years this Thanksgiving.

Several years ago, we offered a free silver dollar with an EOY subscription. It was our most successful promotion since the Financial Crisis. We are going to repeat that again in 2017 with a specific coin this time. Each EOY subscriber will receive a genuine Morgan Dollar, which is thought to be one of the best looking silver coins ever minted. These make great Christmas presents!

Morgan Dollar

If you already know you want to renew your subscription at the cheapest price of the year then click the link below. As in past years, we are offering an Early Bird Special with an additional $50 off for anyone that subscribes this week only. The Early Bird Discount Offer expires on November 14th and the price will revert to normal.