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1/07/02 Stock Split Report Market Summary
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MARKET ALERT SERVICE

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SUMMARY:
- Loads of good news could not maintain the gain.
- Volume edges back on the selling: overall action is as it should be.
- S&P cannot hold the 200 day MVA while Nasdaq does the gap and reversal dance.
- A look at Enron before we all forget it.
- Subscriber Questions

Better corporate news continues to flow, but the fear of warnings is still very real.

In a market weary of selling in the longest bear market in 25 years, any sign of improving or even stabilizing corporate profits (or losses?) is met with a very positive response. But it is not all emotional as one might think: good news leads to a rush of buying of stocks. There is substance behind the buying that started back in October (actually even before September 11 attacks) as the economic signs were turning and we were hearing talk from corporations that business was actually firming. The September 11 attacks did one thing that we noted at the time they might: drive the last sellers out in a binge of fear and anxiety. The sentiment indicators shot off the scale as the indexes plunged on massive volume. That shook out the weak holders, and it set the table for a move higher if things continued to improve economically.

Since then the economic news has indeed continued to improve after a short hiatus 9-11 caused. Indeed, we like to think that the tragedy has highlighted and solidified the recovery that was taking place. Highlighted in the sense that the rapid recovery post 9-11 gives insight as to surprisingly solid the nascent recovery was: even with the catastrophic events, the economy picked right back up on the recovery. Solidified in that there has been additional stimulus through more and accelerated rate cuts and government spending (though there is still much work to do along those lines).

The market started pricing all of this in after the market reopened and sold off in a climactic binge. Since that time continued reports of improving economic news and improving corporate news have combined to produce a very nice rally off of the bottom. As we reported last week, now we see the analysts starting to upgrade stocks as opposed to downgrade them. Monday's usually brought another raft of downgrades after stocks had fallen 70%, 80%, 90% or more. Now we see upgrades as stocks have in many cases doubled off of the lows. Today was a banner day for positive analyst and corporate news.

Pre-market saw upgrades of BEAS, CPQ, AMGN, DELL, PSFT, KSS, and MSFT. Circuit board maker BHE announced that its business was vastly improved. Corning (GLW) announced it was reopening 4 plants. CPQ gave Lehman Brothers reason for its upgrade when it said its Q4 would beat expectations. CC upped its own estimates. CS First Boston said its survey of companies showed that 40% would exceed earnings expectations (easy comparables will not hurt) and that 20% would increase their own earnings expectations in the near future. Lots of good news.

Move could not hold its own.

The good news could not keep the green flowing. After positive opens, all indexes turned lower and finished in the red. Rumors still dog the market and can hurt trading. NTAP was rumored ready to warn; the stock was hammered. There are continuing rumors that RFMD is going to warn. These killed the individual stocks involved and acted to put a wet blanket on the market. Despite all of the good news, stocks could not hold the momentum and turned south.

It was not the rumors that turned the market; they just helped. Remember, the rate of earnings warnings is way down this quarter. After a very nice tech move last week they could not maintain the momentum. The selling in light of good news tells most of the story: a strong move last week needed digesting. The good news today was just some icing on the cake that left the market's stomach upset. It was primed for some selling.

After hours the good news continued. ALTR said the bottom of the chip cycle had been reached and focused its earnings estimates on a narrower range. GTW followed CPQ with its own forecast of a profit. LU backed its Q4 estimates and said no more restructuring was needed. YHOO announced that the online ad market had stabilized. BMC Software raised its earnings and revenue expectations. The parade of better outlooks continues to build as the weeks and months since 9-11 pass.

The question is: how far along are we in the move? Some say a correction is imminent given the moves thus far. Yet, they have been saying a correction is at hand for over a month. Today's selling brought out those calling for a correction based on the same reasons: gone too far too fast, earnings projections do not cover the valuations right now. With the new converts to the bullish side given the upgrades we are seeing, it does make one a bit wary: are the bulls getting too frisky?

We doubt it just yet. Remember, there were a LOT of bulls back at the top, and there is by no means extreme optimism right now. What happened today? As noted above, the indexes ran hard and fast at the end of last week, and today they made the pullback we were expecting in the weekend report. The real question involves whether any damage was done today.

Volume falls but S&P breaks below the 200 day MVA on the close.

As far as volume, it peeled back on today's selling as we want it to do. That shows that even though there were more sellers than buyers today, the number of sellers did not outnumber the buyers in the market last Thursday and Friday. That is obviously what you want to see in a continuing uptrend.

The S&P, however, closed below the 200 day MVA after just crossing over that level Friday. That is not what we want, and on first blush looks bad. Let's put it in perspective, however. The move Friday was on rising, above average NYSE volume. That was a strong signal as above average volume is always the strongest signal on any move. Today's sell back down was on substantially lighter volume. Again, more buyers on Friday than sellers today. Further, as noted with the Nasdaq and the Dow, the indexes tend to do a bit of a sideways shuffle when trying to move back through this level. It is key, longer term resistance. It takes a bit of work to break through and then break free of the level. A lower volume move below the moving average after a good run the prior week is not life threatening.

The Nasdaq was a big more troubling, mainly because it has been more successful than the other two major indexes. It rallied hard late last week and closed with a doji right at the December high. Today it gapped up and then sold off on the close. Now if we were playing a pre-split stock, we would have packed up and taken our profits to the bank; in 90% of the cases involving stocks running into their splits, that is a sign the immediate move is over. Does it mean the same here for the Nasdaq? It could mean the Nasdaq is going to pullback to support near 2000; we doubt it means the whole rally is over or that the Nasdaq has double topped here and is looking at a major fall.

Putting some things in perspective by looking at Enron.

There is no real economic news today other than the pretty incredible rhetoric heating up about the budget and whether surpluses or deficits are what is needed. There will be more than we want to hear on that over the next month, so we are going to look at another aspect of our economic freedoms we need to keep an eye on now that the budget is going to take center stage.

Last week there were announcements of more congressional investigation into the ENE debacle. One of the suggestions is that ENE's many partnerships helped 'obscure' the off-balance sheet debt. If there was wrongdoing there, then the SEC should be or should have been on top of it. That should come out in the SEC investigation. Then there is the issue of employees being unable to sell their shares during the plunge because of a change in the 401k plan manager (the lockup period issue). We have all been in that situation, though not while our company stock was plunging. The thing that raises eyebrows is that the top officers were able sell their shares while the everyday employee had to sit and watch his or her retirement gush blood.

That is one of the major underlying tragedies of the story, but let's examine something that has been bothering me since all of the testimony before Congress was given. One oft repeated statistic is the loss of all retirement savings by several employees that had the bulk of their 401k accounts in ENE stock. The one that comes to mind is a $750,000 retirement account reduced to so much rubble. Many of those that we heard from who could not sell during the lockup period as the stock tanked and had amassed large retirement accounts had done so as longer term employees who bought significant shares (and were matched to a certain extent) over a longer employment period. ENE's stock price only started its real rise in 1998 when it went from $20 to $30. From January 1999 to September 2000, the all-time high, the stock ran up $60 (to $90, split adjusted). Thus, after ranging from $10 to $20 from 1993 to 1998, the stock ran 450% in 2.75 years. That means $166,666 turned into that $750,000 over that 33 month period after years of mediocre returns. If that $166,666 returned 20% per year (a generous 'average' index fund return during that time) for 2.75 years, that puts the account at roughly $275,000. By taking the risk of focusing her assets, the employee's account gained almost $500,000 over and above what it would have gained if forced to hold a mandated 'balanced' portfolio in even the rosiest of times.

The point: We should be able to take the risk if we want to. Are we saying that ENE's woes are equally a problem for companies such as Home Depot, Wal-Mart, GE, IBM, MSFT? Of course not. One of the reasons people work for those companies are stock benefits. They seek those jobs, and that is one of the big incentives. The focus of the investigation should be the SEC investigation into the officer share sales when the employees could not sell and the remedies to the employees. That was the problem: employees that took the risk could not then mitigate the risk by selling when they wanted to. Let us not lose one of the great means for U.S. citizens to amass comfortable retirement wealth because of what could turn out to be a one of a kind fraud on the employees coupled with the logistical problems of a change in fund managers.

THE MARKET

A pullback on lower volume where the indexes closed just about where we wanted. The move was one we expected after last week's gains, and it came despite the buckets of good news coming out of companies. That tells us the indexes were a bit winded and needed a breather.

Secondary indicators: Volatility and the put/call ratio are sentiment indicators. They are thus contrary indicators (typically moving inversely with the market) and are most useful at extreme levels. They take a back seat to price and volume, but they can give us a heads up or a caution flag so to speak ahead of time. That is why we keep an eye on them.

VIX: 22.17; +0.15. A slight gain in volatility on the selling. Still down in the summertime range, but we want to look at the price and volume that thus far is still performing just as it should in a rally.

VXN: 47.89; +1.03. The volatility on the Nasdaq 100 continues to fight to hold above the July 2001 July 2001 consolidation level (47.50), all the while holding comfortably above the closing low in June (43.96). Good to see volatility jump on some selling without waiting around as it sometimes does.

Put/Call Ratio (CBOE): 0.70; +0.03. Put activity rose again on the selling, maintaining its higher levels all along. As noted before, this has been a counter sentiment indicator to the volatility indicators, and thus far it has been ruling the day (along with good accumulation as show by the price/volume action).

Nasdaq

Early in the session we issued an alert that we wanted the Nasdaq to hold roughly at 2040 as a good point to mount a rebound. Well, it did that today, but the lunchtime rebound from that level gave way. It ended up closing in that range on lower volume. Some could argue double top at this point, but with the good price/volume action and continuing economic improvement, we are not taking any bets against it right now.

Stats: -22.28 points (-1.1%) to close at 2037.10.
Volume: 2.121 billion shares (-4%). Still above average volume, but lighter on the selling. That is what we want to see, but would have preferred a larger drop off to close out any question of increased selling.

Up volume: 826 million
Down volume: 1.195 billion

A/D and Hi/Lo: Decliners moved in front 1.21 to 1 (advancers led 1.47 to 1 Friday.

New highs: 148 (-5)
New lows: 14 (+1). Always good to see new lows hold steady on selling.

The Chart: http://www.investmenthouse.com/cd/$compq.html

Friday's doji at the December high and today's gap open pretty much set the stage for the test of last week's gains we discussed in the weekend report. The index did sell lower on the session, closing just above some December intraday tops we were looking at early today as possible bounce points. Now the volume was lower, something we like to see on selling, but it was not a whole lot lower. It was still above average and over 2 billion. We could see a further test lower here toward 2000.

Dow/NYSE

The Dow was never really in the action today as it found tough going from the open. Each potential intraday support level gave way and it closed near session lows. NYSE volume peeled back, so overall we still like the move.

Stats: -62.69 points (-0.6%) to close at 10, 197.05.
NYSE Volume: 1.295 billion shares (-15%). This is the type of volume pullback you like to see on a down session following a good rally.

Up volume: 538 million
Down volume: 754 million.

A/D and Hi/Lo: Decliners took the lead 1.15 to 1 (advancers led 1.72 to 1) Friday.

New highs: 124 (-20)
New lows: 23 (+16)

The Chart: http://www.investmenthouse.com/cd/$indu.html

The Dow did not have much of a fight in it today after lat week's solid moves on strong volume. It never really tried to make a stand, but in the end did hold above the December top at 10,184. That is a good point to draw the line, but it has little breathing room between Monday's close and that level. A test of the 200 day MVA (10,094.08) is not out of the question, particularly as the 18 day MVA (10,057.59) is moving up to intersect that level and should provide some support. Overall, the Dow's pattern maintains its bullish look, now even more so than perhaps the Nasdaq.

S&P 500: No the big caps were not able to hold above the 200 day MVA (1166.78) on the close, but we cannot overlook the fact that it was finally able to pierce that level, breaking the ice so to speak. It may have to do the two-step for a few sessions to get its footing and mount another run at it. A test down to the 18 day MVA (1157.61) or 1150 would not be out of the question and would reinforce that support. We definitely like the significantly lower NYSE volume on today's selling: the 200 day MVA was broken on much stronger volume than today's selling. We are not saying the big caps shall lead, but they are at least providing support for the Nasdaq. It will still have to take out the December intraday high (1173.62) and then the middle of the March double bottom (1183.35).

Stats: -7.62 points (-0.6%) to close at 1164.89.
Volume: NYSE volume slid back perfectly on the selling, falling to 1.295 billion shares (-15%).

The Chart: http://www.investmenthouse.com/cd/$spx.html

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