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us stock market, understanding the stock market
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08/27/05 Investment House Daily
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SUMMARY:
- Market shudders with another Greenspan 'irrational exuberance' speech.
- Greenspan admits to attack on housing.
- Rates to rise until housing doesn't.
- Hurricane, oil, Fed, and a passel of economic data confront a struggling market.
A sputtering session that never had a chance to get on track.
The market was not set up for much of a bounce Friday morning and it started the day lower, unable to build any on the modest Thursday bounce. Fifteen minutes into the session the final August revision of Michigan Sentiment was issued, and it was below expectations (89.1 versus 92.5). Though still at a level that does not impact consumption, it shows the impact that sustained high energy prices starts to have on consumers. Sustained prices eventually erode confidence; the consumer can withstand a spike that dissipates, but if prices are high and only look to go higher, consumer habits start to alter. Eventually it can get bad enough to significantly dampen demand and result in economic slowing. It has happened several times post-WWII.
The market sold on that data. Then it was chop blocked again with Greenspan's speech text that said the Fed was targeting asset prices, that there was too much liquidity (and whose fault is that?), and that deficits threatened economic stability. Never mind number three, and number two is nothing new from the Fed, but number one was a clear statement that the Fed was going to stop the housing market appreciation. If that was not enough, Greenspan also indicated that the Fed should and would target asset prices as standard operating procedure in its monetary policy. Thank goodness he only has 4 more months left. It was bad enough when he got off track the past year with his comments on social security, Medicare, deficits, taxes, federal mortgage guarantees, etc. He has taken the Fed far, far away from its mandate of long term price stability, apparently adopting the federal court's theory that jurisdiction can be stretched to cover just about anything you want. Just like the judges he has no one to answer to, and it is pretty clear he is not answering to anyone.
The market supposedly likes certainty over uncertainty, but when the most powerful influence on the market says it is going to once again attack an asset class that is a bit too much information. Stocks were weak after the consumer sentiment, and they tumbled on the Greenspan speech. NASDAQ and SP600 broke decisively lower from their 50 day EMA, joining the SP500 in that break lower. We were looking for a further SP500 rebound to test the breakdown, but that was chopped off at the knees with the consumer sentiment and Greenspan comments.
It was not a total rout. After the initial blow down in the morning stocks worked laterally much of the session, recovering some lost ground. They formed an intraday reverse head and shoulders base, and when oil suddenly fell just before it closed for the day, stocks bounced sharply. When most figured out the oil bounce was due to some position shuffling ahead of the weekend and the storm in the gulf, stocks started to slide back. By the close that mid-afternoon break higher was totally wiped away.
Volume remained low and was lighter, something not too unusual in this decline outside of the Wednesday reversal session. That remains somewhat of a silver lining heading as stocks sell: they are not being dumped wholesale. That indicates that this is not a major sell off and resumption of the bear market at this stage, but it is a more significant correction that will likely require some longer base building to recover and start higher once more. Breadth was decidedly negative (-2.3:1 NYSE, -2.2:1 NASD), however, a problem for the market even on its last run higher when the advance/decline line weakened over the other runs in the rally.
If NASDAQ and SP600 can recover quickly they could turn the tide back. Many leadership stocks and the majority of our positions held up well even as the selling entered a new phase with the NASDAQ and SP600 move lower. When the leaders hold up that is always a good sign. Much of the leadership holding the line is in defensive areas, e.g. healthcare, but semiconductors and other technology areas are still above near support despite NASDAQ falling through the 50 day EMA. Financial stocks (banks, brokerages) and the formerly leading housing sector took the main hits on the Greenspan speech as both are rate sensitive.
Thus there is some breakdown in leadership while other leadership areas are holding. The market is slipping sector by sector, however, and it will be hard for those groups to stem the tide and turn the market back up, particularly with the indices in no man's land between prior support and the next potential support level. Leaders can make their own wake, but they eventually need followers. Breadth has not lived up to prior billing on the last move and more sectors are caving in the past week, and combined with the break of support the path of least resistance is down.
THE ECONOMY
Greenspan speech loaded with more than expected.
Chairman Greenspan laughed off questions about whether a housing bubble existed back in the spring when he appeared before Congress. A few months later he talked of 'mini' bubbles in the market but reiterated that a nationwide housing bubble was something that typically would not happen. After that, however, Fed speak about the housing market started showing up in speeches and in the Fed minutes.
As we have noted over the past few weeks, the Fed is continuing to provide reasons for raising rates despite economic signals that show the economy is slowing in the face of sustained high gasoline prices. Consumers have shifted to discount sellers and are slowing their purchases even at those stores. That is the most recent and significant turn in the economy of late, and it follows a string of data that shows slowing. Nothing that is suggesting a nosedive, but indications of slowing. Even the bond market continues to hold flat, just as it has for the past 7 months. That indicates despite the continued advance of the economy, money is not anticipated to be in higher demand and thus driving rates higher. There are a number of postulated reasons for this 'conundrum,' but with the yield curve flat with the Fed raising rates and draining money supply and with oil doubling in a year along with gasoline prices, one ready conclusion, one that history has repeated over and over again, is that the markets are telling us there is economic slowing ahead.
Despite the signals, the Fed remains steadfast with its plan to hike rates up from the current low levels. As we have said before, we have no problem with that. Rates need to be higher for the future and there has been plenty of economic growth. As with most things, however, timing is everything. Right now may not be the best time to pursue rate hikes given the rise in oil prices and the obvious impact on the consumer already.
As we noted early in the year, the Fed would likely, regardless of the other economic indications, focus on a goal and provide rationale for reaching that goal even after it appeared it should back off. That goal was crystallized in Greenspan's Friday speech when he stated that the imbalance in the housing market could be "rectified by adjustments in prices, interest rates, and exchange rates." This is part of a discussion about avoiding the problems associated with asset imbalances. Greenspan calls the housing market an economic imbalance and he says it is the preferred policy to address it with monetary policy. The Fed is now focused on 'fixing' the housing bubble it sees having developed. It has its focus and it is likely to see it through unless something abrupt and nasty happens.
Greenspan also talked of how investors were willing to take less compensation for risk, becoming desensitized to the risks as they perceive the change as structural. As long as there is plenty of liquidity this is not a problem. Greenspan noted that liquidity can readily disappear, and when it does the result shown by history is painful. Greenspan warned in November 2004 that people should be hedged for asset revaluations. The Fed was raising rates and was not going to stop at that juncture. The Friday speech covering the same issues is saying the same thing. We warned at that time this was an 'irrational exuberance'-type comment, and we see it as the same type of comment this time.
Rates to rise until the housing market stops, but it is already slowing.
To us this means the Fed is going to keep on its current course and bring housing prices lower, viewing that as a better alternative than a potentially more detrimental implosion. It is a laudable goal, but the problem is what typically happens when the Fed meddles in the markets. It has a very difficult line to walk; it managed to deflate on asset bubble (the stock market; and 'deflate' is hardly the word as stocks collapsed) but in fighting off the worries about deflation that resulted in the aftermath of the collapse of stocks it created what it now calls another asset bubble in real estate. After the stock market imploded investors looked to real estate. That move was fanned by historically low interest rates. Now the Fed is raising rates to put an end to the rise in housing prices.
Again, this may be a laudable goal, but the Fed tends to overshoot no matter how careful it is, no matter how smart the chairman is, no matter how much lip service is given to watching all indicators and making accordingly rational decisions. It gets fixated on a goal and it sees it through. There are plenty of indications in the economy overall as to why the Fed might want to just back off for a while just as there was in 1999 and 2000. Even more specific, the housing market is not showing glowing returns of late.
To the point, we have noted the past few months that the housing market is in a broad top, leveling off just fine on its own. Yes new home sales jumped over 6% in July, but existing home sales, the larger part of the market, fell over 2%. Moreover, with that new homes data we saw the median price drop from $240K to $202K. We can bet that existing home sales prices are dropping as well as they are lag due to the fact that those sales are measured at closing versus at the time the sales contract on a new home is signed. Further, inventories are on the rise, moving up to a 4.6 month supply. That is no record, but it shows a rise which means slowing sales.
All of that suggests the housing market is already feeling the rise in rates and energy prices despite all of the talk of creative, interest-only financing, etc. The Fed's job is being done already, and I guarantee you what, nobody but nobody, and that includes Greenspan, knows how much leverage needs to be put on that market to slow it 'just right.' The Fed's view of knowing it is at neutral when it is at neutral (the old I know obscenity when I see it test) is flawed because by the time it sees results it has so undermined the market that it is in serious decline. Happens every time the Fed targets a specific sector or market, and that is what makes Greenspan's statements so chilling to the market. The irony is, in that situation housing prices will indeed fall, but they will fall because of a shrinking economy and not vice versa.
It is apparent that is not going to happen given Greenspan's comments. The question left is whether this is going to lead to similar results as in 2000. The Fed's track record is not great. It achieves its result in some respects, but tends to throw everything out with it, just the opposite of what Greenspan seeks as stated in his Friday speech.
THE MARKET
MARKET SENTIMENT
VIX: 13.72; -0.01
VXN: 15.37; +0.02
VXO: 12.55; -0.06
Put/Call Ratio (CBOE): 1.2; +0.3. Eighth close above 1.0 in the past three weeks. That would typically indicate a rebound ahead, but thus far it has not put the brakes on this correction. The overall put/call ratio hit 0.96 Friday. That is the highest level since April when the market bottomed this year.
Bulls versus Bears:
Bulls: 56.8%. A second down week in a row, falling from 57.3% last week and 59.1% the week before. Still no major change in the trend higher since the low was hit in May at 43.5%. This marks the fifth consecutive week above the 55% level that is considered bearish. After the buyers are gone there is no one to keep coming in. Bulls bottomed in early May at 43.5%.
Bears: 25%. Up from 22.5% last week that saw bears break back above the 20% level considered bearish. After one week below 20% it rebounded above that threshold. Hit a high for the year at 30% in early May. At this rate it won't take too long for it to reach that May high.
Short Interest:
Short interest ratio on NYSE is 5.9, just topping the peak in late June and early July when the market went flat at the 50 day EMA just before it took off for its last run in this rally. Now back in September 2004 the market was taking its first breather after bouncing off the August low that was the bottom of the 2004 decline. The short interest ratio was 6.4 at that point. This is rising rapidly, and if it spikes on some further selling we can start looking for a market rebound.
NASDAQ
Stats: -13.6 points (-0.64%) to close at 2120.77
Volume: 1.299B (-3.5%). Volume continued to lag well below average Friday, slipping below the already low Thursday level. Not any distribution the past two weeks other than the Wednesday reversal, but the lighter trade has not held the market higher; it seems obvious, but it takes buying to do that. On the other hand the selling is on light volume so there is no dumping of shares that would suggest the big money unloading shares with the intent of not coming back. The lower volume shows shorter term profit taking that is leading to this correction but not undermining the market's overall uptrend since the October 2002 bottom.
Up Volume: 377M (-364M)
Down Volume: 895M (+318M)
A/D and Hi/Lo: Decliners led 2.18 to 1. Downside breadth spiked Friday after a very weak showing during the last two weeks. Notably weak on the last leg of the rally.
Previous Session: Advancers led 1.18 to 1
New Highs: 54 (-6)
New Lows: 45 (+7)
The Chart: The Chart: http://www.investmenthouse.com/cd/^ixq.html
Wednesday NASDAQ broke below the 50 day EMA (2132) but managed a recovery Thursday. That did not last with a sharper break lower Friday that left NASDAQ 11 points below that level considered key support. Volume was low but that only shows the index is not being gutted and is instead involved in a correction that is part of another basing period. Some solid support at 2100 from price peaks in June, March, February, June and even November 2004. Looks as if it won't be a problem to get to that point. Once there it is likely to try a rebound to test the breach.
SOX held up reasonably well (-0.6%), tapping some support at 462 on the low and recouping some of the losses. It has not even tapped its 50 day EMA (456.74) on this pullback, showing relative strength to the rest of the market. Tried the break higher Wednesday, but that was the reversal day. Not looking bad but it is the lone holdout of the bigger indices. That typically is not a great position to be in when everyone else is ganging up on you.
SP500/NYSE
Stats: -7.27 points (-0.6%) to close at 1205.1
NYSE Volume: 1.18B (-1.48%). Volume edged back slightly from Thursday levels, keeping well below average even as the NYSE indices fell. As with NASDAQ, no dumping, but there is a definite lack of buyers as oil rises and the Fed talks tough love.
A/D and Hi/Lo: Decliners led 2.3 to 1. The A/D line deteriorated noticeably on the last leg of the rally, and it has showed a series of lower highs since the May peak. It has not broken down, but it is sitting right on that point. Now the A/D line is not a great timing mechanism. It can lag for months and still the market holds firm. It can help us spot trends, however, and the decline in breadth on the last leg of the rally showed the weakness developing.
Previous Session: Advancers led 1.43 to 1
New Highs: 68 (-10)
New Lows: 37 (+6)
The Chart: http://www.investmenthouse.com/cd/^spx.html
After a modest bound Thursday, SP500 was in full retreat once more Friday, breaking through 1210 and on its way to 1200 where there is some support. If it arrives there about the same time NASDAQ hits 2100 (a likely scenario), we will likely see SP500 and NASDAQ make a bounce to test this breakdown. Whether it is a relief move or a new rebound will depend upon the volume on the move and how the leaders respond.
Well, the SP600 small caps are in retreat, breaking down through the 50 day EMA (341.32), leading the market lower with its 1.3% loss. This completed the head and shoulders pattern, and a complete pullback based on the general rule of the decline equaling the height of the pattern would put SP600 down near the 200 day SMA (326). Before that it is likely to find some support at 336-335 from the March and June highs as well as the up trendline off the April and May lows.
DJ30
DJ30 is on a dive lower itself, falling further from the 200 day SMA (10,538). It also violated what many consider a technically important level at 10,400 that marked the bottom of the November/December 2004 consolidation, the January low, the March low, the early May high - - that is a lot of price points, and that is the essence of support. In any event DJ30 breached that level, though by a hair. It has cracked that ice, however, and that makes it a pretty easy drop to the June and July lows at 10,270. Similar to SP500, as NASDAQ will likely be hitting 2100 about that time, all of the indices will likely provide a bounce back up at that level.
Stats: -53.34 points (-0.51%) to close at 10397.29
Volume: 192 million shares Friday versus 188 million shares Thursday. Volume was still well below average but it did bump higher as DJ30 continued its breakdown.
The chart: http://www.investmenthouse.com/cd/^dji.html
MONDAY
This past week was no slouch when it came to market important data even though relatively little was the typical government reports. Many retailers announced slower sales and guided lower. Restaurants started lowering guidance. Gasoline prices hit $2.61/gallon nationally. Greenspan dropped a few bombs on an already weakening market and economy. Quite a week and the data had its impact.
It was no major implosion, but the back breaker of the week technically was the Wednesday reversal when the market snatched defeat from the jaws of victory and saw SP500 break sharply below its up trendline. That set the stage for the rest of the market to follow, and Friday NASDAQ and SP600 were doing just that.
This week is loaded with economic data from the Conference Board's consumer confidence reading, factory orders, some more FOMC minutes, another read on Q2 GDP, personal income and spending, the ISM, and to top it off, the jobs report. That is a pile of . . . data. You can bet that no matter what the data says, however, it will not deter the Fed at this stage of the game. It also won't impact oil prices.
Indeed, oil prices are going to hinge near term on what Katrina does out in the gulf. Its track keeps shifting west and deeper into the thick of gulf production platforms. That late drop in oil may have been prescient or may have been a blunder; if Katrina tracks into New Orleans or further west oil is going to jump Monday. That will only add pressure to stocks. Indeed, it would take a $15 drop or more to make any significant, longer term impact on stocks.
That leaves the market under pressure despite many leading stocks are holding up just fine. As we have seen, however, each session sees another few leaders succumb to the pressure. What the market needs is a quick drop to 2100 on NASDAQ and 1200 to 1195 on SP500 and then a volume bounce that brings in the buyers. What is more likely, however, is a more prolonged lateral move at those levels as the indices try to set up once more with a bottom and then breaking higher later. That is a base and will take weeks to get through. We anticipate some type of bounce off NASDAQ 2100, likely a relief bounce. We can use that to close borderline positions that are unable to make substantial progress upside progress. That will also work to set up some more downside entry points. In short, the market remains under pressure and is likely to need significantly more time to set up for another leg higher than if it had been able to hold onto the 50 day EMA and the up trendlines.
Support and Resistance
NASDAQ: Closed at 2120.77
Resistance:
The 50 day EMA at 2132
2151, the early December closing high and highs from January 2004
The 18 day EMA at 2147
2163, the mid-December closing high
2178 is the January closing high
2191.60, the January intraday high.
Support:
2100 was key resistance on the way up.
2090 is the February and March interim highs
2074 is the 200 day SMA.
2050 to 2045 from May and June
S&P 500: Closed at 1205.10
Resistance:
Some resistance at 1210
The 50 day EMA at 1217.65
December 2004 high at 1219 and June high at 1220
The April/July up trendline at 1221
The 18 day EMA at 1221
March 2005 closing high at 1225 and intraday high at 1229.11
The recent July highs at 1245.15
Support:
1200 is some support
1196, the mid-January high and the early December peak in the left shoulder.
The 200 day SMA at 1195
1183 - 1184 from November 2004 highs and July 2005 intraday low.
Dow: Closed at 10,397.29
Resistance:
The May high at 10,406 and 10,400, the bottom of the November/December range
10,500 is some price point resistance
The 50 day EMA at 10,536
The 200 day SMA at 10,539
The 18 day EMA at 10,535
The April high at 10,557
Price consolidation at 10,600
The June highs at 10,646 to 10,656
10,720 is the high in the recent lateral move.
10,754 is the February high
10,868 is the December 2005 high.
10,985 is the March high
Support:
10,250 held in the June and July lows.
10,012 the April low.
Economic Calendar
These are consensus expectations. Our expectations will vary and are discussed in the 'Economy' section.
August 30
Consumer Confidence, August (10:00): 101.5 expected and 103.2 prior
Factory Orders, July (10:00): -2.0% expected and 1.4% prior
FOMC Minutes, August 9 (14:00)
August 31
GDP-Preliminary., Q2 (08:30): 3.4% expected and 3.4% prior
Chain Deflator-Preliminary., Q2 (08:30): 2.4% expected and 2.4% prior
Chicago PMI, August (10:00): 61.0 expected and 63.5 prior
September 01
Auto Sales, August (00:00): 5.3M expected and 5.7M prior
Truck Sales, August (00:00): 9.2M expected and 11.3M prior
Initial Jobless Claims, 08/27 (08:30): 315K expected and 315K prior
Personal Income, July (08:30): 0.5% expected and 0.5% prior
Personal Spending, July (08:30): 1.0% expected and 0.8% prior
Construction Spending, July (10:00): 0.5% expected and -0.3% prior
ISM Index, August (10:00): 57.0 expected and 56.6 prior
September 02
Non-farm Payrolls, August (08:30): 190K expected and 207K prior
Unemployment Rate, August (08:30): 5.0% expected and 5.0% prior
Hourly Earnings, August (08:30): 0.2% expected and 0.4% prior
Average Workweek, August (08:30): 33.7 expected and 33.7 prior
End part 1 of 3
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us stock market
understanding the stock market
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