equityletter.com 9/15/08

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 9/15/08

 

 

     Note:  Event Calendar is located at bottom of page

      

I.                  General Market Overview

 

Over the past few years we have heard a constant chorus from so-called “market pundits” expressing the view that the “miracle” U.S. economy was resilient enough to overcome the darkest of calamities.  Many of these same pundits professed that it was different this time, that the U.S. economy was now immune from the credit “cycle”. How could this be, what occurred, what made it “different” this time?  How could the economy continue to grow despite an approximate ten fold increase in energy costs and a diminishing manufacturing base?  The answer to this so called miracle is leverage.  As the prospects for the U.S. economy began to falter the response from U.S. financial institutions was not to pull in the reins and reduce exposure.  The response, and we are definitely paying the price now, was to double down, or lever up.  It is now becoming more apparent that the “poker playing” mentality of financial institution executives will extend the duration of the current downturn far beyond the normal course of an historical recession.  The collapse of Wall Street brokerage firm Bear Stearns, the insolvency of Government Sponsored Entities (GSE’s) Fannie Mae and Freddie Mac, the imminent demise of Lehman Brothers unfortunately do not reflect typical climactic events that signal market bottoms.  These catastrophic failures only beg the question of “who’s next”.  The intertwined structure of our financial institutions resembles a “Ponzi scheme” that has lost the support of unsuspecting future victims.  For whom will the music stop next, Merrill Lynch (MER), insurer American International Group (AIG)?  The Federal Reserve (a very busy lender of last resort), has finally deemed it time to draw a line in the sand.  The time has come for the market to exact punishment on the firms that refused to de-leverage when the opportunity arose.  The Federal Reserve and Treasury Department are signaling an end to the “moral hazard” of backstopping imprudent financial institutions.  It is time for the markets to do what they are designed to do.  The weak will fail and the strong survive.  Strange, that is a Charles Darwin quote, not John Maynard Keynes.

 

 

Sector analysis below will provide information as to where to best allocate funds at this time. 

 

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II.               Sector Analysis

                                             

The IEF-89.62 (I-share 7-10 year Treasury bond) declined 0.47% for the week as the yield on the 10- year treasury increased from 3.66% to 3.73%.  For comparative reference the yield on the 10- year treasury began the 2008 trading year at 4.03%. The IEF is now in week seven of a “buy” signal with the weekly closing price support level remaining at 89.10.  The recent seven-week strength in the bond market continues be a direct reflection of investor angst due to the ongoing disruptions in the financial sector (see LEH, MER, AIG).  A weekly close below the 89.10 support level would signal an end to the “flight to safety” trade that is propelling the IEF.  Despite the recent strength we shall remain steadfast in our opinion that the upside in the IEF from current levels remains limited as a protracted decline in interest rates from existing levels is highly improbable.

 

A.     Financials

 

          The Financial Select Sector Index (XLF-21.15) finished the trading week with a 2.71% decline.  Year to date the XLF is currently down 26.89%.  The XLF is now in week seven of a weekly “buy” signal.   We shall continue to view the 20.00 level as key weekly price support for the XLF.  We have stated numerous times that we were looking for the XLF to trade up to the 23.00 – 24.00 area and would take profits at said levels.  This past week saw a near term euphoric price spike up to our mentioned area of price resistance.  The immediate price rejection from our stated resistance area now gives us reason to raise caution.  We would watch the XLF closely as any weekly closing price below the critical 20.00 support level will indicate another leg lower and eventual re-test of the 17.00 area.  XLF components that currently remain in weekly “buy” mode include Bank America (BAC- 33.74), Citibank (C- 17.96), Wells Fargo (WFC- 34.29), J.P. Morgan (JPM- 41.17), and State Street Bank (STT- 71.70.  Although still in weekly “buy” mode the individual XLF components risk/reward from current levels now appears tilted more to the risk side.  After reaching our upside price objective this past week and immediately retreating from said objective, we are now turning to a “cautious” opinion on the XLF.  Longs positions should hedge against a decline from current levels.

 

          The Brokerage sector (IAI-30.41) index declined 9.84% on the week.  The year to date performance of the IAI stands at a negative 40.56%.   The apparent imminent demise or piece meal fire sale of Lehman (LEH-3.65) crushed the brokerage sector this past week.  Who will the next victim be?  The price action of Merrill Lynch (MER-17.05) raises eyebrows as to the ability of the firm to remain as an ongoing entity.  Last week we issued weekly “buy” signals for Morgan Stanley (MS-37.23) and Goldman Sachs (GS-154.21).  Needless to say the price action of the past week has negated these “buy” signals.  This coming week brings earnings reports from GS and MS.  These reports will be critical in determining whether there are any survivors in a sector stricken with mortgage contagion.  The only brokerage firm under our coverage that currently maintains favorable weekly status is Raymond James (RJF- 31.16).  The sector remains on “death watch” but watch for the key earnings reports from MS and GS for an indication of potential survivors.

         

B.     Builders

 

 The Homebuilder exchange traded fund (XHB-21.26) advanced 6.89% leaving the year-to-date return at a positive 9.87%.   The XHB is now entering week six of a weekly “buy” signal.  We shall now view the 20.00 price level as weekly closing price support in order to maintain our weekly “buy” signal.   Our view shall remain that the XHB will trade up to the 22.00 – 24.00 area of weekly price resistance at which point longs should look to take profits.   XHB components that currently maintain favorable weekly status include Centex (CTX-17.79), Pulte Homes (PHM-16.45), Lennar (LEN-14.36), Toll Brothers (TOL-25.43), and Ryland Group (RYL-26.06).   Continue to buy weakness as the intermediate trend remains favorable.

 

C.  Semiconductors

 

The Semiconductor group (SMH-25.75) declined 2.83% for the week.   Year to date the SMH performance is a negative 20.67%.   The SMH is now entering week four of a weekly “sell” signal.  The key weekly closing price resistance level for the SMH is 27.21.    The SMH remains under selling pressure and appears headed lower to the next level of weekly price support, 22.00.  Key SMH components that remain in “sell” mode include Intel (INTC-20.16), Texas Instruments (TXN-22.15), Applied Materials (AMAT-16.23), and Analog Devices (ADI-26.75).  On a brighter note there are two SMH components that are acting as positive outliers in the sector.   SanDisk (SNDK-15.69) has potential merger interest from Samsung and appears to be a low risk long trade from current levels.  Our key weekly closing price support for SNDK is 14.26.  A fresh weekly “buy” signal has been generated in Micron Technology (MU-5.13).  We would look to buy a price dip in MU around the 4.20-4.50 area.  Use price strength in negatively mentioned names of this sector as an opportunity to reduce long exposure or to initiate short positions.

 

D.   Retailers

 

          The Retail sector (RTH-98.37) finished the trading week with a 1.59% advance bringing the year-to-date return to a positive 5.38%.  The RTH is now entering week six of “buy” mode.  Our weekly closing price support for the RTH now stands at 97.06.  Although in “buy” mode we do not think that the risk/reward of initiating long positions from current price levels is favorable at this time.  We would continue to look to initiate long positions in the RTH around the 93.00 – 94.00 area of price support.  RTH components under our coverage that currently enjoy favorable weekly status include WalMart (WMT-62.41), Target (TGT-57.26), Home Depot (HD-28.80), Sears Holding’s (SHLD-100.65), BestBuy (BBY-44.49), and Kohl’s (KSS-51.19).  Walgreen’s (WAG-36.07), highlighted in our prior letter as a fresh weekly “sell” signal, looks like it has entered a bidding war with competitor CVS Caremark for control of Long’s Drugs.   The near term trend remains to the upside for the sector but do not chase at current elevated levels.  Look for price retreats for proper entry for long positions.

 

E.    Steels

 

The Steel sector (SLX-69.00) finished the week with a 0.47% advance bringing the current year to date return to a negative 18.86%.  The SLX is now entering week fourteen of a corrective phase but at this point in time appears to be poised for an oversold near term relief rally.  Our weekly pivot point for the SLX is now at 70.82.  Any weekly closing price above the 70.82 level will signal an end to the near term corrective phase for the SLX.   SLX individual components that currently reside in weekly “sell” mode include U.S. Steel (X-108.73), Nucor (NUE-49.39), Mittal (MT-65.46), and Steel Dynamics (STLD-22.86).   After trading down to the 2008 lows on accelerated volume the SLX is set up for a short term relief rally up to the 80.00 area of strong weekly price resistance.  Be nimble if attempting to trade the long side potential rally.

 

F.    Pharmaceuticals and Healthcare

 

          The Pharmaceutical group (PPH-69.34) advanced 0.71% last week bringing the year to date return to a negative 12.44%.   We are now entering week three of a “sell” signal for the PPH with our closing price resistance standing at 71.12.  We see weekly price support for the PPH at the 68.00 level.  Any failure to hold above the 68.00 support level will indicate further weakness down to the multi-year price support level of 66.00.  The key underlying components of the PPH that currently rest in what we categorize as “sell” mode include Pfizer (PFE-18.62), Merck (MRK-33.82), Wyeth (WYE-39.85), Johnson & Johnson (JNJ-70.59), and Eli Lilly (LLY-45.44).  The shares of Abbott Lab’s (ABT-59.09) have generated a weekly “buy” signal.  The 57.00 level is now key weekly price support for ABT. Week three of corrective mode, continue to look to sell rallies.

 

G.   Internet

 

 

          The Internet sector (HHH-47.92) declined 1.40% last week and is currently negative by 19.05% for all of 2008 trading year.  The HHH is now entering week three of a “sell” signal.   The HHH remains in distribution mode and appears destined to trade down to the three year lows of 44.00.  Key HHH components Ebay (EBAY-22.55), YaHoo (YHOO-19.08), and Amazon.com (AMZN-78.30) all remain in negative weekly mode at this time.  Respect the “sell” signals in the HHH and look to reduce long positions in to any price strength.

 

 

Take note that the VIX (25.66) increased 11.27% from a reading of 23.06 the prior week.  We are now entering week two of a “buy” signal for the VIX.   This “buy” signal for the VIX does not have positive connotations for the overall market.  We would view any spike in the VIX up to the mid 30’s as a near term signal of market participant “panic” and therefore a potential entry level for short term long trades.  Our weekly closing support price for the VIX now stands at 22.12.

 

III.           Gold

 

GLD (streetTracks gold index) – The GLD (75.55) declined 4.34% on the week.  The current year to date return for the GLD is now a negative 8.38%.   We are now entering week eight of “sell” mode for the GLD with the 80.35 price level now acting as weekly closing price resistance.  As the U.S. Dollar continues to benefit from the liquidation of short positions in the troubled hedge fund industry the price of the GLD will remain in distribution mode.  With the 80.35 level now acting as established price resistance we would use any strength approaching this area as an opportunity to exit long positions or establish short positions.  Continue to sell in to rallies as the trend remains a negative one at this time.

 

IV.            Energy- (Oil, Oil Service, Nat’l Gas, Coal)

 

The Large-Cap Integrated Oil space (XOI-1246.97) closed out the trading week with a 2.03% advance.  Year to date the XOI is currently showing a negative return by 20.05%.   The XOI remains in weekly “sell” mode, now entering week seventeen of a “sell” signal.   Although still in weekly “sell” mode the price action of the past week is one of near term selling exhaustion.  This selling exhaustion leaves the XOI set up for a near term relief rally up to the 1350 area of price resistance.  As far as the individual components are concerned they also reflect a near term selling exhaustion.  Exxon Mobil (XOM-77.50), Chevron Texaco (CVX-84.24), Conoco Phillips (COP-73.43), and British Petroleum (BP-54.79) all have weekly technical formations that reflect near term selling exhaustion.  While the weekly technical trends remain negative, over the near term (2-3 weeks) we are looking for 8.0%-10.0% relief rally.

 

The Oil Service Index (OIH-164.21) declined 1.99% this past trading week.  The year to date return for the OIH now stands at a negative 13.13%.   It is now week eleven of “sell” mode for the OIH.  We view the 145.00-150.00 area as critical long term price support for the OIH.   OIH components Schlumberger (SLB-88.68), Halliburton (HAL-37.30), Transocean (RIG-122.69), Ensco (ESV-61.22), Baker Hughes (BHI-65.29), and B.J. Services (BJS-22.58) all reside in week eleven of correctives phases.   The weekly trend remains a negative one but the current deeply oversold state of the sector has left it vulnerable to a near term relief rally.

 

Natural Gas (UNG-34.14) declined 0.38% this past week.  Year-to-date the UNG is currently showing a negative return of 5.82%.  We continue to view the 34.00 area as critical weekly price support for the UNG.  Although the UNG has traded below the 34.00 level on an intra-week basis the fact of the matter is that it has not closed out the week under 34.00.  Any weekly closing price above 34.64 will signal a reversal of trend for the UNG and indicate a time for a near term relief rally up to the 42.00 area of price resistance.  Watch closely as it appears time for an oversold relief rally.

 

The Coal Sector (KOL-35.47) declined by 5.66% this past week.  The KOL has declined an alarming 38.21% from the high weekly cloing price in June of 57.40.  The violent downside correction in this highly volatile group has devastated the share prices of sector components Arch Coal (ACI-40.91), Peabody Energy (BTU-53.99), Massey Energy (MEE-44.63), and CONSOL Energy (CNX-58.66) down to levels of long term weekly trend support.  In similar fashion to the other energy sub-sectors, the recent eleven week price collapse has left the sector deeply oversold and subject to a near term relief rally.

 

 

V.               Dow 30 Analysis

 

Our Weekly Trend Indicator (WTI) measures in at -4, an increase from the previous week reading of -6.   The Dow Jones Industrial average advanced 1.79% for the week to 11421.99 and is currently showing a negative return for 2008 by 13.89%. 

 

The S&P 500, as measured by the SPY (126.09), advanced 1.34% for the week and is currently 13.76% to the downside year to date.   Small caps issues, as measured by the IWM (IShares Russell 2000 Index Fund- 72.25), advanced 0.85% to 72.25, leaving the index an out performing 4.83% to the downside year to date.

 

          The DIA (114.79) closed out the week with a 2.17% advance and is entering week two of a weekly “sell” signal.  Our weekly closing price resistance level is 117.18.  Last week we stated that the intermediate term advance had come to a conclusion.  At this time we shall remain of the same view.  We would now use any rally up to our 117.20 resistance area as an opportunity to reduce long exposure and or initiate short positions.  At minimum we anticipate an eventual decline to the 100.00 – 105.00 area for the DIA.

 

Fresh weekly buy signals generated: DIS, KO

 

Fresh negative weekly signals generated: AIG

 

Readers should take note that none of the Dow Jones Industrial components are scheduled to report quarterly earnings this week.

 

Dow 30 stocks with positive weekly signals:

 

         AXP, BA, BAC, C, DIS, GM, HD, JPM, KO, PG, T, VZ, WMT

 

Dow 30 stocks with negative weekly signals:  

 

AIG, AA, CAT, CVX, DD, GE, HPQ, IBM, INTC, JNJ, MCD, MMM, MRK, MSFT, PFE, UTX, XOM

 

 

·        Underline names have changed from previous week*

 

                              

For access to Equity Letter individual trading positions and ideas contact Richard Reilly at rreilly123@comcast.net

 

 

VI.    KEY EVENTS IN THE WEEK AHEAD:

 

Monday, September 15

 

Economic

 

08:30 N.Y. Empire State Index (Sep.): 1.4 cons.

09:15 Capacity Utilization (Aug): 79.6% cons.

09:15 Industrial Production (Aug.): -0.3% cons.

 

Earnings

 

Before: DFS, NSSC, TITN

 

After: PLL

 

Events

 

ATVI Analyst Meeting

HPQ Enterprise-Focused Securities Analyst Meeting

RVBD Vision Day

WNS Analyst Meeting

BAC, A, GNW, NFLX, SEE, BRCD, QCOM, V at Bank of America Securities Annual Investment Conf.

VIAP, NVLT, CML, DSTI, UTK at Merriman Curhan Ford, & Co. Investor Summit

Tuesday, September 16

 

08:30 CPI (Aug.): 0.0% cons.

08:30 Core CPI (Aug.): 0.2% cons.

09:00 Net Foreign Purchases (Jul.): $53.4B prior

14:15 FOMC Policy Statement

    

Earnings

 

Before: BBY, CBRL, GS, KR

 

After: AIR, ADBE, DRI

 

 

Events

 

MNKD Analyst Day

AIQ Investor Day

ATR 2008 Analyst Day

CSCO to Host Financial Analyst Conf.

DOW, CYT, NCX, ASH, ECL at Credit Suisse Chemical Conf.

FGXI, GCO, HIBB, OXM, PERY at BB&T Capital Markets Consumer Softlines 1x1 Conf.

FGXI, GCO, HIBB, OXM, PERY, SCVL at BB&T Capital Markets Consumer Softlines 1x1 Conf.

HNT, EOG, ESI, PG, GPRO, KSS at Bank of America Securities Annual Investment Conf.

ICO, WLT, NCOC, USAP, CRS at Davenport & Company, LLC Metals & Mining Conf.

MWV, IP, PCL, WY, CSAR at UBS Global Paper & Forest Products Conf.

NCC, WABC, ZION, COBZ, WFCT at RBC Capital Markets Financial Institutions Conf.

OPTR at CanaccordAdams Anti-Infectives Conf.

PRE, RNR, VR, AHL at Fox-Pitt, Kelton Inc. Bermuda in Boston Conf.

SBLK, GLF, NM, EGLE, GNK at Jefferies & Co. Shipping, Logistics & Offshore Services Conf.

TOT 2008 Mid-Year Review in New York

Fed Policy Announcement

 

   

Wednesday, September 17

 

Economic

 

08:30 Building Permits (Aug.): 925K cons.

08:30 Housing Starts (Aug.): 950K cons.

10:35 Crude Inventories

    

Earnings

 

Before: BRC, GIS, MS, OHB, SMTS

 

After:  APOG, CKR, CLC, CMTL, DBRN, DDMX, MLHR

 

Events

 

BRCD Analyst Meeting

ABAX, GCO, RRD, AFCE, HLIT at CL King and Associates Best Ideas Conf.

BMO, ANL, CLP, CSA, EGP, PKY at BMO Capital Markets North American Real Estate Conf.

BPFH, SOV, CINF, FMR, HCC at RBC Capital Markets Financial Institutions Conf.

BPO, XIN, KIM at Merrill Lynch Global Real Estate Conf.

CCK, AGO, COP, PTV, CXO at Bank of America Securities Annual Investment Conf.

POT, DD, AGU, CF, TRA, PX, APD at Credit Suisse Chemical Conf.

PRGN, TDW, KEX, TBSI, SSW, SFL at Jefferies & Co. Shipping, Logistics & Offshore Services Conf.

VRS at UBS Global Paper & Forest Products Conf.

WIN, Q, EQ, ATVI, FRP, AMT at Goldman Sachs Communacopia Conf.

 

 

    

Thursday, September 18

 

Economic

 

08:30 Initial Claims

10:00 Leading Indicators (Aug.): -0.2% cons.

10:00 Philadelphia Fed. (Sep.): -10.0 cons.

 

Earnings

 

Before: CCL, CAG, CRAI, FDX, PIR, PRGS, SCHL, SIFY

 

After: ARTC, CTAS, EGLS, HSTX, HIS, OPTM, ORCL, PALM, RAE

 

Events

 

VLTR Analyst Meeting

CBI, DY, EME, FIX, KBR at D.A. Davidson & Co. 7th Annual Engineering & Construction Conf.

CCRN at Longbow Research Multi-Industry One-on-One Conf.

DAL, UAUA, NWA, AMR, CAL at Calyon Securities Airline Conf.

EMN, FOE, WLK, IPHS, OLN, MON at Credit Suisse Chemical Conf.

MFB, ICFI, USG, PWAV, SRDX at CL King and Associates Best Ideas Conf.

OKE, OKS at UBS Master Limited Partnership Conf.

PSA at Merrill Lynch Global Real Estate Conf.

RMG, LVLT, MCO, GLUU, SNI at Goldman Sachs Communacopia Conf.

 

 

Friday, September 19

 

Economic

 

Earnings

 

Before:

 

After:

 

Events

 

JEC, WLDN, FLR, AZZ at D.A. Davidson & Co. 7th Annual Engineering & Construction Conf.

OKE, OKS at UBS Master Limited Partnership Conf.