I wrote this to several friends prior to the beginning of trading on Friday, May 19, 2000. I believe it will prove useful, if I'm reading the market correctly, so repeat it here.
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Market analysis:
Assessing the market, I look at several factors. First, where is it at now and why? Second, what do the larger economic indicators point to? Third, are there seasonal (or historical) factors at work? Fourth, what is the sentiment among institutional investors? Fifth, what is the sentiment among daytraders and individual investors? Sixth, are there added confidence boosters or breakers impacting the market? Seventh, what shorter term patterns can I see?
There's actually an eighth, the charting of technical analysts. I don't use TA much as an advance predicter, though. If I read the other seven properly, TA should bolster my viewpoint or at the least, not contradict it. So I often tend to use TA only to double-check my work.
So let me define my answers to these questions. Open this chart and follow along as I make my points.
bigcharts.com
1) The market is moderately bearish. It is not as fearful as it was after Hell Week that ended 4/14, nor as it was in advance of this week's FOMC meeting. Yet there is no great surge in confidence, either. The single most important factor causing the April/May doldrums is the huge rise in IPOs last Fall; which resulted in record numbers of shares unlocked in April, and another new record unlocked- or yet to be unlocked- in May.
Add to that the Fed's action in response to the Y2K scare; they put extra cash in circulation to banks so if there was a run on banks in December, there'd be money to cover all the withdrawals, and prevent panic. As a result, without that run, the markets responded with extra bullishness than is normal, meaning a small bubble formed.
Add to that the more obvious bubble that occurred in February, which peaked at or above 5000 in the first week of March, and re-peaked in the third week of March. Finally, an article in Bloomberg at that second peak took some of the lustre off B2B stocks, but that was given more credit than it was due.... after all, Bloomberg's critiques previously were all but ignored; I tend to think they just lucked out on its timing, perhaps with foresight about seasonal factors at play that they could exploit to advance their credibility.
There's actually one more major factor here which I'll cover later in this analysis.
2) Larger economic factors clearly indicate consumer confidence in a robust (I sure hate that word) economy. Homes are being built, people are employed and they're spending. The shrunken labor pool of available new hires is one of two major negatives. This causes upward pressure on wage growth, which can be alleviated by raising wages or by increasing the pool of workers willing to work for less. The former is an inflationary pressure that compels the Fed to use its one-trick pony of raising interest rates to slow the economy (which actually means : weaken the economy and force layoffs). The latter means easing immigration rules to grow the labor pool. Politics impedes that possibility.
The other big negative is the one I missed in #1, above.... energy prices. Some claim energy impacts the Dow more than the tech-laden NASDAQ, yet when oil prices peaked in early March, look what NASDAQ did. Then look what the Dow did:
bigcharts.com
What was really happening here was the Dow had been falling since mid-January as energy prices rose, and it hit bottom just as energy prices peaked. As prices eased, the Dow roared back. Most of the time since mid-January, the Dow was performing inversely to what NASDAQ was doing.... and energy prices, indeed, were the chief cause. The Dow finally succumbed to NASDAQ's plunge in Hell Week, and went down... but not as low as its March low.
After April 14, the Dow has largely operated in the range that it previously did in November. But when energy prices repeaked a week ago, and an oil ministers' meeting indicates there's no move afoot to increase production (meaning the current prices are likely to be sustained, possibly all summer), the Dow bounced off that low. So the support level for the Dow seems to have been established at 10,300-10,500 which is well above that former (March) low around 9,800.
As an added fact, the Dow is also operating at the same range as it was last May/June.... now switch your browser back to the NASDAQ chart.
3) Seasonal factors - this is a no-brainer. for several years, NASDAQ has run up in the Fall/Winter and does lousy in the Spring. Summer is likely to be mixed, based on the established patterns.
4) Institutional Investors are all over the place with opinions. The general consensus is that NASDAQ prices are down and there's bargains galore. They've been around long enough to have a longer view... they know that the differences in valuating Old Economy and New Economy stocks will remain different, though some adjustments may be in order. Volume has been light, for two reasons.... institutional traders generally do more trading in the final 5 days and first 2 days of each month.... and they're waiting to see exactly where this fluctuating bottom is. But believe me, they are chomping at the bit for the chance to jump in with all they've got.
Today is triple-witching day. Next week, the volume should grow considerably.
5) Individual sentiment is mixed, but generally uneasy. Trading volume is hitting lows because this group is more skittish and because many got margined out during the March/April slump. Those with a longer trading record remain as speculative as ever, though, knowing it does not take much to rouse a bull. They are cautious, but also chomping at the bit for a meaningful upside break.
6) Confidence breakers are easy to see. Linux, the darling of alt. techies, is beaten down to lows only exceeded by B2C stocks. B2B is a fad fallen out of favor. The talk of MSFT being split in two is already more real than recognized.... it's only 6 points above reaching 50% of its high. Now CSCO is bearing the brunt of the Bloomberg flame.
Confidence builders? Semiconductors have performed well throughout the NASDAQ decline. The bloom is not off the wireless rose. Emerging markets in Europe and Asia represent real opportunities. Fiber optics remain golden, as was evidenced by yesterday's performance of IPO NUFO... which also demonstrates that all IPOs are not created equal, and some can perform.
7) Before discussing short term patterns, I'll briefly cover TA. The charts show a narrowing range, ever since April 14th. Such a narrowing cannot continue forever; a breakout up or down is near.
As for short-term patterns, since April 14th, the only time NASDAQ has maintained the same direction for more than 3 days occurred from Thursday (5/11) through last Tuesday (5/16). TA says the lowest it can fall tomorrow is likely to be between 3400-3460. If it reverses and posts a small rise here (less than 100 pts), a breakout - either way - could occur next week.
But I expect it to go down today. If it closes below 3375, I'm going to 100% cash, without question.... and may stay out for a week. Instead, I expect to see it go to 3430-3450. I expect a rally Monday and possibly Tuesday, to 3575-3600. If it does anything close to that, I'll be 100% cash by the close of Tuesday, if not at 3 p.m. Look for the final hour Tuesday, as it may be the indicator of what's to come.
My prediction: Either way, between today and Tuesday close is a VERY critical time and jumping to cash will prove the safest strategy. Yes, it's possible we'll break out to the upside.... it's better to lose 1 good day than to endure the downside, in my opinion.
The reason I lean to the downside break is based on several factors. Uncertainty about the Fed will continue for 3 to 4 weeks yet, which is the key market depressant here. The much ballyhood China plays are gradually taking place on speculation.... and there's a likelihood that "buy on the rumor, sell on the news" will be the winning strategy here. So I'd expect the China plays to be complete by Tuesday at the latest.
Institutional investors are likely to come in buying, driving the market up for a day or two, then they'll be taking profits from many of the stocks that have recovered some off their lows. And the past coupla years display a bottom around Memorial Day.
So I expect the final 3 days of next week to test the lows again. How low? Well, 3400 will definitely be tested. The 3230 low of April 14 is possible. But there's no way I believe we'll return to the 2800 level last seen in mid-October. The most extreme scenario - which I lean AGAINST happening - is a drop to 3000. But I think it will be 3400 or 3200.
If I'm right, we'll rally the week after Memorial Day weekend. We'll dip on Fed worries the week after, and a retest of this Memorial Day low will occur between the 7th and 14th. Part of my reason for believing in that general pattern is historical and part is based on lockup expirations..... after Memorial Day, only 4 lockups expire in 4 days ... the week after, it goes back up to 21 expirations in 5 days.
The week after that (6/12-6/16) there's 14 in 5 days, though most of them are not big high-fliers. Sometime in that week, we'll rouse the bull again, because the lockup expirations drop off sharply for 5 weeks - paralleling that period in the last 2 weeks of December through the first 3 weeks of January, when a measly few IPOs debuted. So a 5 week summer rally, with a brief dip in advance of the late June Fed meeting, is what I'm counting on.
And there's one more factor to consider. The e-brokers and the brokers face a bleak earnings season in July. The drop in margin use and all this light volume trading has hurt their bottom line. To mitigate the damage, they NEED a bull market. As well, even the Market Makers need restored confidence; nobody can take profits if folks ain't buying. This institutional money will be leaning hard on the Fed ... if you think "money walks and BS talks", you should believe even the 'independent' Fed is susceptible to the pressures of Big Money.
With a 1/4 pt raise in interest rates or none at all in June, the market takes off. And with the next Fed mtg in late August, the bull can run till July 21-24 before those worries are renewed.
The only way that kind of rally can be damaged is if we fall to 3000 or below in the next 3 weeks.
That's MY story and I'm sticking to it. My penguins have better stories though.
Happy Trails;
Kevin
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