1/23/04
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TONIGHT:
- Lukewarm enthusiasm over tech earnings wears off, but buyers return late, cut losses.
- Interesting economic statistics: we have been here before, and not only did we survive, we prospered.
- SP500 tests resistance and drops, NASDAQ tests 10 day MVA and rebounds.
- Subscriber Questions.
Stocks struggle again, but the leading sectors emerge once more.
Microsoft, KLAC, SYMC and others rekindled investor desire for tech stocks and NASDAQ opened higher and ran 19 points, clearly setting the pace. SP500 was tagging along, but hit near resistance at 1150 and once again failed. That is a key resistance point for that index and the market as well as it represents one of the early tops in the December 2001/January 2002 double top. That double top set off the last down leg in the long downtrend for large cap stocks. It is therefore an important top. For the third consecutive session it tapped that level and could not break through.
That killed the early rally as some sellers entered and tried to take stocks lower. They managed to keep the market down most of the session. Small and mid-caps stubbornly hung on, however, while volume was running lower and NASDAQ tested the 10 day MVA. The sellers did not have the numbers to make the selling stick, however, and when NASDAQ hit the 10 day and held, buyers came back into the market in the last half hour. NASDAQ sliced 15 points off of its loss in that late surge as once more buyers could not resist the opening.
Make no mistake as to who the buyers are. We are not talking about you, me, and the supposed legion of ‘day traders’ so often referred to. There has been a dramatic surge of money flowing into mutual funds, particularly tech funds. It slowed to $15.5B in December, but has been up 10 straight months. Overall $180B was put into funds in 2003, the best since 2000. In this month the pace has slowed slightly, but over 70% of the money is going to domestic US funds. That money has to work its way into the market, and thus each time there is the slightest pullback the fund managers move in. When NASDAQ hit the 10 day MVA they saw an opportunity. It was not an accumulation session as volume was lower, but really the lower volume was good to see: selling volume did not race higher as the market sold off most of the session. And while it was good to see the intraday action return to a more positive look again, what NASDAQ really needs is more of a pullback toward the up trendline. Those mutual funds desperately seeking to get in on the action, however, are not giving it any chance to take a breath. Not fatal action, and there are still many stocks that are not extended and ready to move higher, but the higher it goes without a rest, the harder the drop when it comes because the market always overshoots a bit, both on the upside and the downside.
THE ECONOMY
The campaign spin hits high gear, but things are not as bad as they seem.
There is a lot of talk about changing the country’s direction from candidates for president. A lot of that centers around jobs and deficits and how the current administration squandered both. As reported in the Thursday report, however, the recession’s starting point is going to be pushed earlier, something that is without question given the March 2000 stock market crash that forecast the downturn that started three months later as jobs started to contract and manufacturing production rolled over. The recession was well on its way, indeed already present, before the tax cuts that purportedly ‘squandered’ the surplus and caused over 2 million jobs losses were put into place. To the contrary, without the tax cuts the deficits would be worse and we would still be losing jobs. The deficit was going to occur due to lower tax revenues from lower economic output. The tax cuts mitigated the downturn and jumpstarted the comeback. If changing directions means turning back the expansion, that is something nobody wants, at least those of us not running for political office.
Jobs, unemployment rates not a great forecaster in elections.
It is such an easy pitch to hit, the candidates are finding a hard time laying off this one. Over two million jobs lost in the recession. The recession is purported to officially have started during the current administration (though, as noted, that claim is about to be undermined by the bean keepers). Thus the reasoning is the administration caused the job losses. In reality, the administration caused the problems about as much as the guy who comes upon a car wreck and tries to render aid actually caused the wreck. We have discussed at length in prior reports the Fed’s actions that overly heated and then choked off the economy and the stock market, inevitably leading to the recession and job losses. All of that was basically done and the crash was well in motion by the time Bush took the oath of office.
With the almost cataclysmic drop in economic activity from such lofty heights, the job loss should have been expected. With all of the company implosions (remember all of the dot com deaths?), unemployment should have shot through the roof yet it never came close to past recessions. In Q4 2002 unemployment was at 5.9%. When Clinton ran for term 2, the same quarter showed 5.6%; Reagan had 8.5% to deal with; Carter had 6%. Given who won those races, it appears that the rate of employment had little to do with the election results. Even if it does, an honest examination of the facts shows the job losses were baked into the cake given the monetary and fiscal missteps that started in the late 1990’s. With the household survey showing an increase of 1.2 million jobs from March 2003 to December 2003 and the payrolls survey (that measures traditional employee hires by major corporations) showing 278K jobs created from August to December, it appears the tax cuts have worked as they always have, mitigating the downside and then ushering in the recovery. As we have noted before, the job creation to this point is ahead of the historical schedule for the start of job creation based on the true measure of economic recovery, i.e., when the stock market bottomed.
If companies are hesitant to hire even when they are enjoying a strong jump in business, who can blame them? After all there is hesitation to make the tax cuts, the very thing that spurred business investment and is fueling the recovery, permanent. More than that, those who would be president all want to raise taxes on those very groups that have taken their tax savings and funded the recovery. Business may be booming now, but business owners know all too well that if the policies are changed business could easily dry up. Business owners, like the stock market, hate uncertainty because they cannot plan. If they cannot plan they do not spend. If the articulated stance of potential leaders is against business, they most certainly will curtail their activities. For example, JDSU said it was not going to get caught in the same bind as before even though business was booming. If booming business is not yet bringing on the jobs, one can easily imagine what an utter desert the job market would be without the stimulus that jumpstarted the economy.
Deficits aren’t what they used to be. Literally.
One of the other main issues is the deficit. The ‘squandered future’ argument is premised on the belief that even during an economic downturn the trillions required to fund the plethora of social programs would always be there at the ready but for the tax cuts. There is a lot of talk about how this is a record deficit. While we would love to see spending sliced in half by the reduction of fraud and waste in social programs and halving the size of government agencies that run the programs, we bristle when we hear talk of record deficits. Maybe in actual dollars, but those mean little over 200 years. Everyone knows that $1 today is not worth $1 in 1972; they have to be inflation adjusted. Moreover, and most importantly, the economy itself is bigger: a larger dollar deficit may not really be larger if the overall economy grew.
What are the numbers? You compare the deficit as a percentage of GPD, i.e., how much of the economy it takes up. That is the only way to compare apples to apples. In 2003 federal spending was 19.9% of GDP. During the 1990’s spending averaged 20.7% of GDP. That means there were years well above the 20.7% average. In the mid 1980’s after the tax cut shot the economy into high gear and tax revenues surged, the deficit ballooned to 24% of GDP because more money was spent even though tax revenues jumped by hundreds of billions of dollars. Part of that was the price of out-producing the USSR into economic ruin. The benefits, however, were huge as the investment spawned by tax incentives created new technologies, millions of jobs, and huge surpluses once we did not have to spend so much on the cold war.
Right now we have to spend on the war on terror, putting up big bucks to do so while also running a lot of fraud-riddled social programs that require an ever expanding federal government to run them. Very similar to the 1970’s and early 1980’s. Also similar are the supply side tax cuts that are starting a massive investment back in the US by businesses and individuals. The expanding economy is already churning out more tax revenues, sending deficit projections lower by almost 30% still very early in the recovery (it is amazing that this is being denied. The born again deficit hawks have switched positions: instead of looking at the actual reports on the deficit they are looking at the projections based on the static analysis that see $1 out of tax revenues as creating $1 in deficit. Recall how they debunked the administration deficit projections because they were just projections, instead preferring to look at actual revenues. You have to at least be consistent in your frame of reference, but no one calls them on it).
Yet we continue to hear how the burden will crush future generations. This is the SAME arguments that were made in 1984 when Mondale ran against Reagan, promising tax hikes to cure our ills. Reagan won, the tax cuts stayed in place, the economy continued to expand, and all of that investment produced the 20 year expansion and ultimately the surpluses. Growth trumps deficits that inevitably arise when the economy slows and tax revenues cannot keep pace with the entitlements and other federal spending. No doubt spending could be slashed across the board and federal programs need to be reviewed to reduce duplication and fraud. The euphemism ‘nondiscretionary spending’ needs to be exorcized from government with every program put under scrutiny. The current administration is guilty of overspending: not one veto and no attempt to reduce the size of government. The growth spurred by the tax cuts that provide incentives to invest in America and a reduction in spending would once again cure the deficit concerns over the next 5 to 7 years. Both sides have to reduce spending and continue to empower the individual to make decisions as to what to do with limited resources to best drive the economy.
THE MARKET
The market may have finished mixed for the week with NASDAQ and DJ30 breaking their winning streaks, but it was constructive action as price/volume action remained solid: up on rising sessions, down on falling sessions. With that in mind along with the continuing strong uptrend, the struggles at the end of the week don’t look that bad. After bumping 2150 for three sessions, NASDAQ has made a quick 10 day MVA test but late Friday was already trying to bounce. Not bad action as it is just coming off of a nice 3 month consolidation and is taking a quick breather after its first breakout run. SP500 rallied to resistance at 1150 and failed to break over that level after tapping at it for three days. It is much more extended, having run almost straight up for a month and covering 100 points. It needs a rest, but is still holding the 10 day MVA as it continues its uptrend. Indeed, all of the indexes are holding their uptrends, some stronger than others.
Indeed, Friday the leadership hot potato was passed again as NASDAQ and the small caps took the lead. The small cap uptrend is arguably the strongest in the market, and they were leading Friday. Notably absent were semiconductors. SOX undercut the 18 day MVA and is close to testing its up trendline and 50 day MVA (roughly coincident at 515). Some key chips have broken their 50 day MVA (AMAT, INTC, MCHP, NVLS) while others are heading that way (KLAC). It is important to note, however, that many smaller chip stocks with new technology and niches are performing very well. SOX will be an early indicator for us as to whether the market is going to hold the near term pullback or head lower. It is already ahead of the pack but typically overshoots support a bit, giving the rest of the indexes a chance to test their support levels while it makes wider gyrations. The market has been trying to take a breather, and SOX is, as usual, ahead of the rest of the pack. We are still looking for more of a pullback, but again, we do not anticipate a severe correction given the strong leadership and price/volume action.
Put/Call Ratio (CBOE): 0.77; -0.15. Still hanging in at higher levels after a short, quick dip near 0.5. On CNBC they were again talking about the put/call ratio and how it had moved up. From that they drew the conclusion that there were people hedging positions so everyone was safe. Remember it was just a few short days ago the same commentator raised the alarm that no one was hedged because the put/call ratio dropped near a complacent level for one session. That analysis totally ignored the high ratios up to that point even on upside days. The point: one day does not make a trend.
NASDAQ
Tapped just below the 10 day MVA and then rebounded, showing a nice tight doji, looking as if it is already prepared to bounce.
Stats: +4.86 points (+0.23%) to close at 2123.87
Volume: 2.268B (-4.2%). Fifth session of falling volume regardless of whether the index was up or down. The pullback on lighter volume is good, but NASDAQ is struggling to move higher.
Up Volume: 1.123B (+439M)
Down Volume: 1.101B (-517M)
A/D and Hi/Lo: Advancers led 1.33 to 1. Improved nicely at the end of the session.
Previous Session: Decliners led 1.69 to 1
New Highs: 250 (-51)
New Lows: 7 (0)
The Chart: (Click to view the chart)
After three taps at 21500 NASDAQ fell back, testing near the 10 day MVA (2112) on the low and then cutting the losses in the last half hour. A gain on the session but lower volume means no accumulation. As it spent most of the session in the red, that is really not that bad. What is concerning is how it tested the 10 day MVA on the low and rebounded nicely. We were wanting more of a pullback and then a bounce; buyers were moving on a simple 10 day MVA test. That is not all that bad, however. It broke out in late December, rallied to 2100, moved laterally for a week, then broke higher again. It has come back to fill that gap and test that short lateral consolidation. We might want a bigger pullback, but it is fighting it, and the Friday 10 day MVA test may be all we see. Nasdaq has that nice consolidation as a foundation, and there are still many NASDAQ stocks in good patterns.
S&P 500/NYSE
Tapped resistance again, fell to the 10 day MVA, then rebounded to cut its losses.
Stats: +0.09 points (0%) to close at 1141.55
NYSE Volume: 1.539B (-9.14%). Lower volume on the modest decline, precisely what you want to see as it indicates fewer sellers than buyers in the market.
Up Volume: 723M (+32M)
Down Volume: 767M (-223M)
A/D and Hi/Lo: Advancers led 1.1 to 1
Previous Session: Advancers led 1.09 to 1
New Highs: 431 (-86)
New Lows: 4 (+3)
The Chart: (Click to view the chart)
Tested key resistance at 1150 then tested near support at the 10 day MVA (1135). As with NASDAQ it bounded up off the low, cutting the losses. No distribution as volume was lower though still above average. Quite extended with its 100 point run and that makes the 1150 resistance all that more potent. It is still holding the uptrend, but we will have to see how this fight at 1150 plays out. A brief pullback to the 18 day MVA would be great for its continued upside move, but institutions have a lot of new money to put to work, so we may not get it just yet. Again, we have to see how it plays out at this 1150 resistance.
DJ30
Stats: -54.89 points (-0.52%) to close at 10568.29
Volume: 234 Million versus 220 Million
The blue chips are playing a tennis match at the upper channel line (10,622), moving over it one day, selling back below it the next. Friday it was selling, and though it rallied and managed to cut its losses by 45 points, volume was much stronger. That indicates some distribution or churning at this key level as well as some price resistance at 10,620. As with SP500, DJ30 continues its uptrend, but it is flattening some as its rate of ascent slows. Typically indexes run out of gas at their upper channel lines and correct back to the up trendline that marks the bottom of the channel. This is particularly true after a long run as seen here, a 1000 point jaunt off the 50 day MVA (10,223).
The Chart: (Click to view the chart)
THIS WEEK
Economic news returns with important Q4 GPD and consumer sentiment being noteworthy. After the debate on just how much the economy slowed from the 8.2% Q3 level, this will be an important number. Earnings will steal a lot of the thunder, however, as the busiest week of the season churns by. The SP500 and DJ30 are still extended at the upper reaches of their channels, in need of a deeper pullback. NASDAQ is already trying to shake off a short pullback; if it does, the others will hang in there though money many continue to find its way into techs from the new accounts as well as rotating from the cyclical indexes.
Even with SP500 and DJ30 struggling with resistance, we continue to find many stocks in good patterns or that are making pullbacks with NASDAQ to near support. That tells you that the entire market is not extended, and as long as rotation continues you can buy into these stocks as they breakout or rebound from breakout tests. If investors turn cold on buying, these patterns will shrivel either without breaking out or attempt a breakout and fail. Thus far the new money has continued to dive the action as it is put to work and as money is shifted from sector to sector. We have seen nothing to indicate that is changing. The DJ30 struggle with its upper channel line and SP500 bumping into 1150 are not foretelling major selloffs, but more of a pullback to take a breather or consolidate a move.
With the patterns we see and NASDAQ’s rebound off the lows late in the session we are going to continue to look for and pursue upside positions that are in nice patterns and show strong breakout moves. Money has not left the market, and with expectations of continued solid growth in Q1 and Q2, it is still pricing in that growth. That does not mean we don’t’ get that mid-earnings season pullback to test support. That is something it has done the last several seasons, and it would be the best thing for the market longer term. That possibility is why we are choosy with the stocks we pick as well as the moves they make. We want to see the volume to show sufficient support for the stock and give us more confidence it can make the breakout and then run for us.
It is always harder to enter positions after a strong run, but the run itself does not guarantee a pullback at a set time. The large cap indexes are showing their wear and that makes us cautious. It does not, however, keep us from participating in upside moves in trends that have yet to be seriously challenged.
Support and Resistance
NASDAQ: Closed at 2123.87
- Resistance: First upper channel line at 2168. 2200 then 2300 represent tops from Q2 2001.
- Support: 2115 acted as slight resistance as NASDAQ consolidated, but was not very solid support Friday. The 10 day MVA and the 18 day MVA (2112, 2084). The second peak in the December 2001/January 2002 double top (2100). The lower peak in the January 2002 double top (2044). The March/August up trendline (2068).
S&P 500: Closed at 1141.55
- Resistance: 1150 to 1175, the late 2001, early 2002 double top.
- Support: The 10 day MVA and the 18 day MVA (1135, 1125). 1106 is a May 2002 top. 1100 represents some early 2001 lows. The 50 day MVA (1095). The former upper channel line at 1092.
Dow: Closed at 10,568.29
- Resistance: 10,622 (upper channel line) is keeping the index more or less in check. 10,620 (March 2002 peak) starts the swath of overhead supply that runs up to 11,000.
- Support: The 10 and 18 day MVA (10,551 and 10,487). 10,353 from May 2002 high. 10,320 the March 2003 up trendline. The exponential 50 day MVA (10,223).
Economic Calendar
These are consensus expectations. Our expectations will vary and are discussed in the ‘Economy’ section.
1-26-04
- Existing home sales, December (10:00): 6.10M expected, 6.06M November.
1-27-04
- Consumer confidence, January (10:00): 95.1 expected, 91.3 December
1-28-04
- Durable goods orders, December (8:30): 2.0% expected, -2.5% November.
- FOMC (2:15): NO change expected.
1-30-04
- GDP (1st), Q4 (8:30): 4.7% expected, 8.2% Q3
- GDP chain deflator, Q4 (8:30): 1.3% expected, 1.6% Q3
- Michigan sentiment (revised), January (9:45): 102.5 expected, 103.2
- Chicago PMI, January (10:00): 61.7 expected, 59.2 December
SUBSCRIBER QUESTIONS
Q: Your reports are something I look forward to every night. Keep up the great work. Please describe how you determine the first and second upper channel lines. If possible could you provide an example chart. A picture tells a thousand words. Many thanks.
A: Upper channel lines tend to be very accurate predictors of pullbacks and bounces during solid uptrends and downtrends. They are plotted to help determine when a stock is ready to pull back after it’s been in an uptrend for several weeks or months, making them an important technical analysis tool in designating target prices as well as when an uptrend has begun to run out of steam. We use them to measure whether the stock is climbing ahead of itself and setting up for a sell-off. When used in conjunction with short-term trendlines, we can see if a stock is in a blow-off top. This is when a stock rises 2-3% over the upper channel on extreme volume (usually the highest in the run or in the past year) and gains 50-100% in a short time. This results in a fast and usually deep sell-off. www.investmenthouse.com/1questions.htm (search ‘blow-off top’)
To plot the upper channel line, connect at least three highs as the stock trends upward. The more you connect the better; 2 points can make a line, but the more points, the stronger the line. The line then should slope upward, and run parallel to the up trendline, which connects the stock’s lows as it moves higher. As your question suggests, and as we have stated in discussing NASDAQ’s chart, there can be more than one upper channel. Sometimes a stock will rise above an established channel on occasion while still moving predominantly in the lower channel. That can create another, higher channel line that is almost a sure sign of a steeper pullback. NASDAQ created its primary (first) upper channel line coming out of the March dip. It formed the line with the May high. In June it jumped over that line, fell back, and then did so again in July. That set off a deeper correction to the up trendline. It again tested the first and second channel in September, but after that has been sticking to tests of the first channel.
As a rule of thumb, as a run gets older the moves higher peak out lower (in this case at the first channel line) because the buying is typically not as intense as it is when the run kicks off. Then, when the run is peaking, you may see another spike of volatility where the stock or index jumps up to the higher channel and sells off rather abruptly. When we see that the odds of a longer correction or consolidation as opposed to just a test of the trendline and a sharp bounce from there. Indeed, if we saw NASDAQ race higher from here and fail at the upper channel, that would be a signal to take some money off the table as a precaution. At a minimum you would most likely get some better entry points on stocks after a quick pullback. More than likely you preserve some good gain, particularly with option plays, as the index tests and then consolidates for a more extended time period.
by investmenthouse.com
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