InvestmentHouse Weekend Update:
Wary investors sell ahead of weekend.
investmenthouse.com
- State of the market: trying to build short term, problems intermediate to long term.
- GDP not as strong as thought, but corporate profits rise.
- Housing market still hot back in April.
Midweek momentum fades ahead of long weekend.
There was no follow through from Wednesday and Thursday. None. Investors were in no mood to ride positions over the weekend, and another Goldman Sachs downgrade, this time on the chip equipment sector (earlier in the week it was the software sector) made them decide to hit the exits early. The indexes gapped lower and trended lower. A last hour rally attempt completely reversed. All indexes closed near their lows while the small and mid cap indexes that had held their own all session joined the action and cascaded lower. The mid-caps were least affected, but the small caps were right in with the big indexes.
It was more a case of severe piling on than real selling. Volume was the lowest of the year. Christmas-like volume. The Goldman downgrade, GDP revised lower, a busload of new terror warnings. It was enough to send the markets down for their first weekly loss in three weeks. That is not saying a whole lot even with the rally and follow through the prior week. The market continues its up 2 steps, back 1.75 steps action. As we have seen, some sectors and stocks continue to move higher, acting as if everything was fine. At the same time many continue to move lower, unable to shake off the continuing downtrend. It is a tale of modest economic recovery that is helping parts of the market but leaving the big indexes mostly left out.
Weekly appraisal of the market.
A pre-holiday session with correspondingly low volume makes it impossible to make meaningful calls based on the action. As always, one day does not make the market direction. Sellers were definitely in the majority Friday, but the overall volume was so low they were easily not the majority compared to the recent action.
SHORT TERM: The indexes are trying to build something here. After an early May plunge on the Nasdaq and S&P 500 to post September 2001 lows, the market has tried to build back with a series of higher lows coupled with a follow through session. Follow through sessions are important after a reversal off lows because they show that the big money is still in the market on the buy side a week or so after the initial buying started. Most of the action since that reversal has been on decent (hard to say stellar) price/action volume, i.e., rising volume on up sessions with falling volume on down sessions. Again, that shows that during this period there have been more buyers in the market than sellers. Yes there is no doubt that some of the volume on up sessions was due to short covering, and we continue to see short covering on rally sessions. That is a part of recoveries out of severe downtrends. Sustained positive gains on positive price/volume action, however, indicate there are buyers in on the action as well.
Even though there is some rebuilding ongoing, the Nasdaq and S&P 500 are still in downtrends. Friday the Nasdaq every so slightly made a lower low after a string of higher lows. As noted, the light, pre-holiday volume makes reads on the action difficult; still, the close below the prior low is noteworthy. It shows how easy it is for the Nasdaq and its big techs in poor patterns to turn even after a decent rally. No serious damage, but just a reminder of its weak condition.
The small and mid cap indexes, the leaders up to this point, continue to struggle after their strong runs. Thursday they rallied, but Friday they were sold hard at day’s end when investors empted their portfolios of most stocks ahead of the weekend. It was not wanton selling as it was late-session position-clearing, but those indexes are still in weak positions ahead of the return from the holiday. They need some more consolidation to continue their upside moves; that is the better case scenario.
The Dow is holding the best of all large cap indexes. It has a legitimate shot of testing the March highs at 10,679, maybe even 11,000 nearer term. Friday it too, however, made a slightly lower low. It won’t be easy at all with the massive amount of overhead supply from two and one-half years of lateral movement. Anything over 11,000 near term would be an extraordinary feat. Hitting 10,400 would be close to extraordinary.
MID to LONG TERM: The smaller cap indexes though suffering near term remain in the best positions. Many of their components continue to form good patterns and breakout. As the economy recovers, these stocks that have suffered the most over the past decade and still have valuations palatable to most investors, will most likely continue to outperform. Historically they tend to do so in recoveries, and if this is for real, we will see several establish themselves as new market leaders. Short term they are struggling; mid-term over the next several months they should re-establish themselves for a longer term continued uptrend.
The Dow with is still in decent position to make a move toward its March highs at 10,679 and maybe even 11,000. Longer term it has to have help from its tech components, and the tech recovery is still a long way off. Thus that overhead supply will continue to keep a lid on the index even if its non-tech components continue to respond positively to the economic recovery. It is also worthy to note that the Dow, outside of the market drop post 9-11, has NOT suffered a bear market. The long lateral movement remains more or less unabated, unable to make serious gains. There continues a long term downtrend starting in January 2000 that has yet to be broken. The Dow is at a critical point over the next few months. A failure to break and hold over the near term downtrend leaves it open to more downside action into a bear market it never had, particularly if the Nasdaq and S&P 500 cannot shake off their longer term bearish patterns.
The Nasdaq and S&P 500 remain in their 5-year head and shoulders patterns. This is a bearish pattern that if completed could send these indexes much lower. Yes the S&P has already fallen 500 points off of its high (one-third of its value), but you have to realize that at the start of 1995 it was below 500. Remember, it was in 1996 that Greenspan talked of ‘irrational exuberance,’ indicating that the market was already ahead of itself. The S&P ran 300% from there and has just given back one-third of those gains. In some circles it is said that after each big run markets must return to the mean or the point of beginning. If the S&P completes its head and shoulders pattern and it falls the ‘textbook’ amount (i.e., the fall equals the height of the pattern), that puts it back down near 500. The Nasdaq would complete its pattern just below 1500. Its early 1995 prices are at roughly 750.
PROBLEMS, BUT NOT EVERYWHERE: There is no escaping that the Nasdaq and the S&P long term patterns are very bad. They are indeed similar to the Dow back in the Great Depression, but they have not taken that last fall that the Dow took before it started to rebuild. As we noted before, this economy is not the Great Depression. There is so much more going for the economy now with the great technology that has been put into place. While the Nasdaq and large cap indexes that ran away from the pack in the 1990’s look to struggle into the future until there is a big capital investment boom (and there is no real incentive regarding that right now). Eventually current systems will need replacing, and that will help. The current capacity installed in 1999 and 2000, however, is very adequate to handle business demands right now, and the replacement cycle for that equipment may not swing around until 2003 or 2004. That keeps technology in the doldrums.
Steady economic growth (even if not spectacular) will help those sectors that have been overlooked for so long as already seen in the small and mid-cap sectors. Old economy companies that installed all of that whiz bang technology are reaping the benefits as seen in improving profits even if business is not moving sharply higher. This is no Great Depression, but it is no great rebound either. Consumers have a lot of debt and not a lot of jobs. There is recovery, but not a boom.
THE ECONOMY
While the economy is not super, it is improving. It is going to have a problem, however. There is renewed interest abroad for a number of reasons. Money is flowing from U.S. investments and that means dollars converted. That is showing up in the continued dollar weakness. The federal government is going wild in its spending. Subsidies that were eliminated are now back in place. Free market ideals that were so attractive to investors for the past 20 years are being mitigated by decisions based on politics. Let’s not kid ourselves. Foreign investors see this. Sure they understand it is political and that the administration is mainly pro-business, but they also know that principle can take a back seat to politics in Washington. Some deficit spending is understandable with a war and a recession. The pet projects and other crap that are not being cut from the budget in light of the need for war dollars and recession spending, however, just goes to show how uncommitted both sides of the political fence are to maintaining some form of fiscal responsibility. Tax cuts as we have seen have already helped the deficit; what was thought to be a big deficit is a small deficit thanks to the economic upturn the cuts helped usher in. It seems that once Washington saw that the deficit would not be as large as feared, the spending light was turned back on. Yes, foreign investors are watching closely.
The U.S. has the chance to lead the world recovery. In fact, it is leading the world recovery. The problem for the U.S. is that throwback to old protectionist policies. Where once the U.S. had a Fed chairman that talked of the power of free markets, it has a Fed that has proved to the world it will step in and act against free markets. The administration talked of free markets and entrepreneurship, but then slaps up tariffs and revives subsidies. This is not how you lead a world recovery and keep confidence in your own country. If countries are dumping products on your market, work on incentives to do otherwise at home and abroad. If domestic industries are suffering from the recession, provide tax incentives to create innovation and not just reinforce the old ‘business as usual’ mentality.
This is not totally surprising, however. The country over the past 10 years has slid into a pervasive and destructive view that the government should be everything and provide everything for everybody. Need more money? Tax those that create jobs and make the economy work. Stanley Works decides to save the company tens of millions per year under the incredibly complex and frustrating tax code, thus increasing its bottom line, improving shareholder profits, keeping U.S. citizens employed, and lower prices for you and me in the process. Then come the parade of congressmen, draped in the flag, saying this is un-American. Would it be better for Stanley to just send all of its manufacturing work offshore as well? The ONLY losers in this is the government. We get cheaper tools, SWK shareholders get better value from a more profitable company. The government, however, has less tax dollars to waste on the hundreds and hundred of pork projects across the country that have nothing to do with our war effort or helping small businesses, the driving force in the country. Instead pet projects to help buffalo farmers, etc. get full funding. What about NASA’s $90 million of unauthorized cell phone use? If that was cut out, that ALONE would make up for more than SWK’s tax savings. Which is un-American? Saving your business, keep U.S. workers working, improve shareholder value, or waste $90 million in taxpayer dollars on government misuse in cell phones? And that is just one agency in the vast myriad of federal government and waste.
If more corporations would move offshore and take a portion of their tax dollars out of the system, that would force the government to become more efficient in using its current tax dollars (something the government is totally against as our congressmen have so deftly proved) and maybe, just maybe address the tax code that burns up $500 billion per year in compliance costs alone. Treasury Secretary O’Neill is right, but no one is listening: let’s fix the problem that would cause a company to want to leave the U.S. instead of calling economic decisions un-American and slapping a band aid on it to prevent it from happening again. Of course, it needs to go the next step as well, i.e., have the government become more efficient. None of this will happen if we don’t demand that it happen to our representatives.
Q1 GDP revised lower, but corporate profits up. GDP was revised to +5.6% growth versus 5.8% and expectations of over 6%. Real final sales dropped to 2% from +2.6% previously reported. Consumer demand and business investment turned out to be lower than originally expected. Corporate profits were +0.9%, however, versus -10.6% in Q4. That is the result of increased productivity and some improvement in business. At +3.5% on an annual basis, this is the best corporate profit showing since Q2 2000 when things were starting to show signs of heading lower. This is a better signal for overall economic improvement: when profits pick up, plans for hiring and business expenditures start. If improvement continues, plans become reality.
New home sales still rising.
April sales +1.0% to 915K units, up from the 885K expected and the 906K prior. Even the March number was better, up 28K from the 878K previously reported. The big surge was in the Midwest, and that accounted for nearly all of the increase in sales. While some areas are getting overbuilt, availability nationally is still somewhat lean.
THE MARKET
Last week saw 8 IPO’s hit the market, the biggest week of the year. Year to date that brings the number to 40 versus 33 same time 2001. Much market growth comes from IPO introduction. Historically the market performs better when IPO’s with new technology and new ideas are flourishing and bring that to the market. Investors want those shares because they are running up their sales and earnings. The new crop of leaders drive the market higher. Many will say IPO’s are not good investments, rallying early and then fading. In this market that is not the case. We are seeing IPO’s come to market, do fairly well, and then go through a first base and breakout. This is not the ‘buy any IPO’ mentality, but more sane. That is good for the market’s future.
IPO’s, however, will not save the market right now. IPO’s are the result of an economy that sustains new companies and new innovation and a market that won’t slam them. There are not enough incentives out there encouraging startups right now; as we have discussed before, the stimulus package was more for bigger corporations regardless of what our representatives say. The market is not in great shape though it is trying to put something together short term. If we can escape this weekend without a terrorist event the relief that nothing major happened will help the market higher. For now it is in a short term building pattern though the Nasdaq tried to undo some of that Friday with its lower low. In other words it is trading technically better near term though it is nothing dramatic. A quiet weekend may allow it to carry through some more toward that next resistance. At this point, however, it is resistance to resistance with this 2 steps/1.75 steps dance.
VIX: 21.16; +0.81
VXN: 42.86; -0.34
Put/Call Ratio (CBOE): 0.82; +0.2
Bulls/Bears: Bulls rose last week to 53.1% as optimism springs. A 55% reading is bearish. Bears rose to 30.6%. Above levels considered bearish (20%) but well below a bullish 50% reading. At a minimum you want to see bears surpass bulls. That happened in September and October 2001. Maybe that was enough to keep this move alive.
Nasdaq
As usual the Nasdaq led the way down with its components the Nasdaq 100 and SOX out ahead of it. It slightly undercut the previous low, a technically bearish action. The low volume mitigates the move.
Stats: -36.14 points (-2.13%) to close at 1661.49
Volume: 1.212B (-31.23%)
Up Volume: 238M (-950M)
Down Volume: 958M (+413M)
A/D and Hi/Lo: Decliners led 1.70 to 1
Previous Session: Advancers led 1.43 to 1
New Highs: 73 (-9)
New Lows: 62 (-1)
The Chart: (Click to view the chart)
Wednesday and Thursday’s upside moves on rising though below average volume were turned sharply back Friday as the Nasdaq gapped down on the GS chip equipment downgrade and general weekend worries. It undercut Tuesday’s close (1664.18), making a lower low but holding above the intraday low Wednesday (1643.96). Basically, it is not good to make a lower low on the close, but again, Friday’s light volume takes some of the technical impact from the move.
Short term it has put together a decent move off the May low with steady price/volume action. It can build off of that if it gets no negative news over the weekend or come Tuesday morning. While we believe the brokerage downgrades are just the pendulum swinging too far the other way now that the market has tanked, they are having their negative effects. On the other hand, the Nasdaq turned back last Friday at a down trendline connecting the March and April highs not to mention the January/March down trendline, the 50 day MVA, the 200 day MVA, etc. Poor patterns in its primary components. It is not in good shape for a long term move, but we can get a continued move up to 1700 to 1750 in a post-Memorial Day rise.
Dow/NYSE
A slightly lower low, but held at 10,100, a significant level of support. It is once again in position to move up off of this support for a post-Memorial Day lift back up to 10,300, but it has yet to show it is ready to move past 10,300.
Stats: -111.82 points (-1.09%) to close at 10104.26
Volume: 881.011M (-24.64%)
Up Volume: 255M (-604M)
Down Volume: 627M (+327M)
A/D and Hi/Lo: Decliners led 1.53 to 1
Previous Session: Advancers led 1.74 to 1
New Highs: 90 (-17)
New Lows: 16 (-7)
The Chart: (Click to view the chart)
The Dow is locked between 10,100 and 10,300, making a slightly lower low Friday. It remains below the January/September 2000 down trendline now at 10,275 and above the 200 day MVA at 9898.30. Overall it is still in a downtrend, but it has shown a good recovery off of 9811 and continues to outperform the two other large cap indexes. A dubious honor. It is in position to move up to test 10,300 once again and even 10,600, but it will need some help from its tech components. Thus, any rise to 10,600 will require a Nasdaq upside move as well. Short term it can provide the move. After that the Dow has that huge shelf of resistance from 10,400 to 11,400 that will keep a lid on the action until there is a much stronger economic recovery.
S&P 500:
Turned right back down from 1100 once more, again giving back more than it gained Thursday. It has some support at 1080 and 1074 from its February closing and intraday lows, and with the overall decent price/volume action on the move off of the May lows it has a shot at holding those for another attempt at 1100 and then 1125. In short, it is at a point it could continue the small rally up from 1050 even with the selling Friday as it has had follow through and positive price/volume action. Even the selling Friday was on lower volume. Could. It still has 1100, the 50 day MVA (1100.95), the 200 day MVA (1117.95), and the September 2000/March 2002 down trendline at 1126 (price consolidations at 1125 as well). The big caps cannot put together a lot of rally force.
Stats: -13.26 points (-1.21%) to close at 1083.82
NYSE Volume: 881.011M (-24.64%)
The Chart: (Click to view the chart)
THIS WEEK
Huge economic week ahead with personal income and spending, existing home sales (80% of sales), and consumer confidence all out on Tuesday. Thursday is Chicago PMI, and Friday is productivity, Michigan sentiment, and factory orders. All of these will get a critical review from investors. If we escape the holiday without incident, some strong numbers Tuesday could pump more life into the nascent rally off of the May lows, a rally that has given a follow through signal. At this point while we like the fact that the market has given follow through (it has preceded every strong rally and is thus considered a prerequisite), it does not change how we are going about this market.
We are looking at stocks to both the upside and the downside, basing the play on the pattern as a breakout, trading play, or upside play. While the market direction is always critical, there are still at least two markets now: small caps and their kin and large caps; tech stocks and old economy stocks; growth stocks and value stocks. Small and mid-caps are under some pressure, but they are consistently turning up the best patterns and breakouts. The fact that there was some follow through in the large cap indexes gives us more confidence in upside plays from these stronger patterns.
As for the downside, there are many continuing downtrends and there are continued breakdowns. A lot of the market is still not feeling well, and stocks are breaking lower every session regardless of follow through on the indexes. Moreover, the trend is still down on the big indexes despite this recent move off the low and follow through. To help fight off the inevitable rally attempts we are looking at those stocks with sharp breakdowns and continuing downtrends. They are doing their own thing more or less oblivious to the market overall.
As noted, 14 of the last 18 Memorial Day weeks have been positive. In a bear market, however, we have seen many post-holiday sell offs. Who will win? The market is in position to move higher this week. That is about all you can say: it is in position. Upside catalysts could be solid economic data or as simple as not having any terrorist incident over the holiday. Given this kind of environment, this is why we look at specific stocks at this juncture.
Support and Resistance
Nasdaq: Closed at 1697.64
- Resistance: The short March to April trendline at 1704 that turned the index back last week, and 1700 (February low). 1750 and the 50 day MVA (1734.62) are next. The January/March 2002 down trendline is at 1772 and the 200 day MVA at 1814.20.
- Support: 1652, the gap up point, has been filled and held twice. Some support from 1600 to 1620 from the October consolidation. 1550 to 1560 are the October lows and could try to hold. Then 1500. After that is the September low at 1387.06.
S&P 500: Closed at 1097.08
- Resistance: 1100 and the 50 day MVA at 1101.65. The 200 day MVA at 1118.63The March down trendline is at 1082 and has not been totally cleared. Then 1100 is a point to beat. The 200 day MVA is next at 1119.23. Then price consolidations at 1125. September 2000/March 2002 down trendline at roughly 1126.
- Support: February lows at 1074 continue to hold. The October lows at 1050 are the last price consolidation level before the September low. There is possible support at 1000, but it is not much. The September low is 944.75.
Dow: Closed at 10,216.08
- Resistance: 10,250 to 10,300. Then there is 10,400, the level that has acted as the barrier to the upper half of the March trading range. The top of the June, July, and August 2001 trading range at 10,600 (10,679 intraday high) marks the top half of the March trading range.
- Support: 10,100 has held twice this week on the close. Then the 200 day MVA (9900.53). After that two lows at 9811. Then 9500 to 9600 in the shelf of support from 9500 to 10,100.
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