Market Hubbub

On Tuesday oil climbed 9% on fear of geopolitical issues in Libya disrupting supply. Since, it has hit $100 per barrel as fear levels rise. The rational person is willing to wait and see what happens. Does oil stay at these levels, recede when ’normal’ returns, or does it move even higher? The irrational or fearful person will react, maybe run out and buy a smart car to cut their consumption costs. Either way, the uncertainty being created by the rise in oil prices isn’t good for the markets short term.

The calculators are out and analysts are figuring at what point the price of oil and gasoline will impact the economy. The answer will be different relative to perspective, but we know in 2008 that oil cost $140 per barrel and gasoline was $4 per gallon. This had a great influence on the consumer and the wholesale price of goods. For now, it is a reasonable assumption the same result will take place as we move forward. Nationwide, the price of gasoline is $3.25 per gallon at the pump. The ripple effect is hitting airlines and in turn the price of tickets. FedEx has added back a fuel surcharge on packages, and consumer gasoline consumption has turned flat. Wall Street is watching for the tipping point relative to the price of oil and the economy.

It is rational to believe if oil prices continue to rise, the effect to the U.S. and global economies could be a double dip recession. This result would put fear back into the market. On Tuesday, the Volatility Index jumped 26% as oil prices climbed showing the spike in fear from investors. The S&P 500 in turn has dropped from 1343 to 1306 or 2.7%. The drop is mild thus far, but it could easily accelerate to the downside if fear continues to rise in relationship to the price of crude and geopolitical issues around the globe.

Inflation is a concern, but it isn’t the normal type of core inflation we study in economics 101. It’s more of a tax/inflation caused by higher energy and food prices. Just a week ago we were discussing commodity inflation relative to agriculture cost rising. Cotton has nearly tripled versus 12 months ago. PowerShares Agriculture ETF (DBA) is up 52% since June 2010. Throw in crude oil up 36.9% and gasoline is up 43% during the same time frame and you can see the tax/inflation on the consumer. Historically, this additional cost will recede based on a drop in demand. Is that going to happen this time around?

The bigger question is how we address these events and their current and future impact on our portfolios? The first mistake we want to avoid is not taking these issues seriously. It is easy to brush off the events as a temporary setback in the equity markets with the assumption we should be buying on the pullback or dip. This could grow into something more if the events stymie economic growth. Of course, the outcome will take time to determine, and that is where the challenge comes into play. Determining how to manage money in the face of uncertainty is the biggest challenge investors face. Thus, coming up with a plan of action is vital.

5 Steps to Managing Money in Current Markets

1)  This is a pullback, not a correction. The market is right sizing. Use the November 2010 pullback as a benchmark. The May to August pullback could be an example if geopolitical issues expand. Either way investors can see clearly how to manage the pullback.

2)  Manage portfolio risk. Sell the laggards and raise cash to take advantage of the resulting opportunities.

3)  Accept this as a traders’ market. Non traders hold cash and build a watch list of leaders that hold up throughout the pullback period. Those will be the leaders when the market resumes its uptrend. 

4)  Look for support on the S&P 500 to be in the 1225 range, 1200 worst case. Having realistic expectations help prevent investor anxiety.

5)  Investors should be patient! Don’t force positions and don’t overreact to the news events. Building cash helps to dampen risk and emotions.

36,000 versus 140,000 expected new jobs, but the rate falls to 9%? This must be that fuzzy math they use in Washington D.C. Unemployment dropped by 622,000 in January pushing the rate of unemployed lower. So where are the jobs? They didn’t show up in this number, but they are improving according to the Labor Department.

What is the reaction of the market? The future were slightly higher heading into the opening, but not much reaction overall as investors try to put this in perspective. The economic data is improving and the comments from corporate CEOs show they think the marketplace is improving, but we will have to be patient and wait for it to show up in the numbers is the only conclusion we can draw from this.

What are we watching today?

Retail (XRT) reported solid same store sales data yesterday pushing the sector up more than 2%. Today we look for the follow through and the resulting opportunities. See my Notes this morning for more.

Commodities (DBC) remain at the forefront of the investors mind and today is no different. Agriculture (DBA) fell 1.5% yesterday and I would look for the uptrend to remain intact, but it is worth watching for opportunities.

Semiconductors (SOXX) remain in a positive trend as well and we continue to see earning surprises and positive data from the telecom (IYZ) sector relative to the chips. JDS Uniphase (JDSU) is up big on earning this morning blowing away the estimates. These sectors have combined for some solid upside results and more are on the horizon.

The dollar (UUP) bounced and is heading higher, interest rates continue to trek higher with the 30 year Tresury yield breaking above resistance (TBT) and precious metals (DBP) found some buyers yesterday. Look for opportunities in each of these areas moving forward.

Watch to see how investors react to the employment data in the AM, it could give you some insight into the trading sentiment short term.

The market remains in a uptrend despite the talk of being overbought. The scanning to find opportunities become more of a challenge, but they are there nonetheless. The following have been added to the watch list to review and track for potential plays: 

Small Cap Index – The S&P 600 index continues to trade in a defined range of 410-426. We hit against the upside this week at 425, but moved lower again into the range. This is setting up for a opportunity on the break higher or lower short term. There is an opportunity to trade the range as well if you like trading. Specifics are on the Sectors-to-Watch page.

Alternative Energy is coming into focus as energy prices rise and geopolitical issues arise. There are plenty of options in the sector with solar energy, wind energy and specialty items. The price of crude rising to $90 per barrel has invited investors back into the sector as well as research money.  Specifics are on the Sectors-to-Watch page.

Treasury bonds continue to slide as yields rise. The question mark relative to how low prices will fall on bonds remains the central theme to the sector. There is resistance at the 4.75% level. The primary question is do you short the bonds or look for the bottom and buy? Specifics are on the Sectors-to-Watch page.

Networking is bouncing off support and making a move back towards the January high. Earnings in the sector have been hit and miss. Last quarter Cisco started the disappointment, but Broadcom and Juniper picked up the slack. The sector has continued higher despite those not helping the cause.  Specifics are on the Sectors-to-Watch page.

We see opportunities, but equally see a need to manage the risk of the current market environment. We have addressed all the stops on the Sectors in Play table today. Take the time to review and manage your risk currently, but maintain your focus on the uptrend in play.

The worries are back. Spreading unrest in Egypt, negative talk from analyst, excess valuation versus value and commodity inflation are all bothering investors. I stated in the updates last night we are tightening stops based on the worry quotient rising. The more worry in the markets the more money shifts. Money flow is trending lower during the latter part of this leg higher. Not a conclusion to sell, but another indicator showing weakness in the push higher.

The S&P 500 as we discussed did move above the 1304 resistance level, but the NASDAQ has failed to make a new high. Conclusive unto itself? Absolutely not, but it adds to the worry list as technicians discuss the potential implications. The news surrounding the markets relative to Egypt, earnings and political debates over deficits only act as trigger that launches the fulfillment of the technical indicators. A third attempt to break higher on the NASDAQ failing along with a bad jobs report on Friday could be the combination to trigger a pullback.  

Thus, we have to take the necessary precautions based on the timeframe relative to the risk of the holding in the current market environment. In simple terms adjust your stops based on the risk defined by you!

On one side analysts have been warning about an overbought market, and on the other they are extremely optimistic about the future upside of the market. Friday Egypt took some of the wind out of the sails for investors. The selling got the attention of most as the uncertainty sent some to the sidelines. As we approach a new week of uncertainty relative to the Arab world there is plenty to consider in order to manage the short term risk of this event.

First, you have to consider the uncertainty of the geopolitical risk of not just Egypt, but northern Africa as well. There have been protests in Tunisia, Jordan, and Yemen along with those in Egypt. The concern over disruption of oil has the price of crude on the run, but the rising cost of food could be even more of a challenge near term. The price of agriculture products continue to rise and that is putting pressure in the emerging markets. Rising food costs will cause greater instability in countries like Egypt.

Second, the jobs report is due out Friday. The expectations are for 150,000 new jobs in January and the unemployment rate to move back to 9.6%. Without the addition of new jobs the sustainability of market growth is suspect. The weekly jobless claims have been up and down the last four weeks and the indications are not pointing towards a strong turn higher for jobs.

Third, earnings will be mainstream with more than 100 companies of the S&P 500 index reporting this week. ExxonMobil, Pfizer, News Corp, Time Warner, MasterCard and Merck are all due to report. More than 200 companies in the index have already reported earnings and 70% have beaten earnings and revenue estimates based on Thomson Reuters data. Earnings growth is outpacing revenue growth and that could be a key data point to watch looking forward.

How do we approach this week? Cautiously and with a willingness to raise cash as the uncertainty plays out. The geopolitical risk is rising versus subsiding, and the economic picture still has a big question mark hanging over the outlook. Now is a good time to reset and confirm your stops heading into a challenging week of trading. Raise cash levels and look for the resulting opportunities as this unfolds in the coming weeks.

NASDAQ down more that 1% at the open? What gives, for one Amazon’s earnings disappointed as their operational margins less than expected. The stock was priced for perfection and any hiccup like this results in selling. The stock fell more than 8% in early trading.

Small cap stock are down 1.7% this morning in sympathy with the balance of the markets. The sector has been a laggard which I have discussed many times the last two weeks. This is one of the worries we listed this morning in the notes. The small cap sector remains a challenge for the markets overall.

Transportation is lower with airlines down 2.5%. We recently hit our stop on IYT and now we are seeing the downside pick up. The sector is an indicator for the strength of the economy and this could be a pullback or a sign more downside is coming. Watch the sector for clues.

EFA is down 1.4% in response to selling in the global markets. Asia was lower on the day and Europe is following suit. Weaker economic data and political issues in Egypt are adding to the issue facing the global markets. Adjust your stops on EFA and other global positions to account for the downside risk in accordance with your objective.

Not a pretty day and as I stated on the video last night, we were likely to see some selling based on the earnings from Amazon in the NASDAQ. Protect your money and watch the downside risk.

This morning I posted the outlook for gold. The challenge currently facing the metal is two fold. First the price erosion is due to profit taking and second, stabilization in the global economies. The second is a bigger influence when you consider the risk appetite of the investors is growing. They are willing to take on more risk in their portfolios and thus the flight to safety and alternative currency trade is unwinding.

One concern I voiced earlier was breaking support at the $129 level. Today we closed below that level which technically is a big negative, and if you look at the volume on the bottom of the chart below, you will note it was two times the average trading volume. This brings to light another concern of the impact on liquidations from ETFs which physically hold the gold.

Think in terms of the bond sell off in 2008 when fear set into the credit markets. The acceleration to the downside exacerbated the price of bonds. We could see an acceleration in the selling based on the amount of supply hitting the gold market. Not saying that as a gospel fact, but it is food for thought on the downside risk.

The chart gives the levels to watch short term relative to gold. We would have to consider playing the downside if there is a follow through on the downside break of support. DGZ, PowerShares DB Gold Short ETN is the unleveraged short ETF. The move above $16.28 shows the break above the trading range reflecting the selling in gold. Make sure you are disciplined if you attempt to play the downside in gold. ETF Watch List covers more on this topic.

The NASDAQ 100 closed below the 20 day moving average, barely, and back up on the day. Technically speaking a break below this level is a negative and for some traders a possible exit signal. At the least, it is  a warning sign the short term momentum in the market is turning lower. The Dow Jones Transportation index broke below the 20 day and is near the 50 day moving average. The transports are considered one of the leading indicators for the health of the economy. The caution flag is out and as investors we have to take notice at least from a short term perspective.

The commodities have been leading since the low in August and the beginning of the current uptrend. Two components have shown recent weakness that has trickled into the broad market. First, precious metals (DBP) broke support at $49.40 and moved below the 50 day moving average. Weakness in gold and silver has been building but made a key move lower last week. Stepping back and looking at the longer term weekly chart the rounding top is very clear as is the next key support level of $46.05. Second, the base metals (DBB) moved below the 20 day moving average and broke the first level of support at $24. The weakness in the metals have impacted the mining stocks (XME) which has moved to the 50 day moving average. Coal (KOL) stocks, another leader in this sector fell 7.7% over the last five trading days, breaking support and closing at the 50 day moving average on Friday. Watching this previous leader looking forward as an indicator for the broad market.

The consumer services sector (XLY) was lead by the retail stocks off the low in August. The Consumer Services index has been in a narrow trading range near the high for  the last seven weeks. The 50 day moving average is now a key support level for the index and the key to holding support will be the retail sector. SPDR S&P Retail ETF (XRT) has been struggling since the same store sales data for December was announced and disappointed investors. The sales data for December was better, but still below expectations. The ETF fell below the 50 day moving average last week and is struggling to hold support at $46.50. Momentum has exited the sector the last three week on news. The next hurdle for the sector will be earnings, which starts this week, as the major department stores announce. Watch the sector as another indicator for the broad market.

The financial services sector (XLF) exerted leadership in early December breaking out of a six month trading range. The sector has gained more than 12% the last eight weeks, but earnings season has been shedding light on the strength and weaknesses of the sector. The brokers were mixed with JP Morgan and Morgan Stanley showing improved earnings and revenue, while Citigroup and Goldman Sachs disappointed. The same was true in the banking sector relative to earnings. Momentum took a hit last week as volatility picked up on the earnings reports. Fundamentally the data was over positive, but the question is whether investors are willing to put more money to work in the sector near term. Money flow had been rising since December, but dropped off in January. Watch the sector as another short term indicator for the broad market.

Citigroup (C) reported earnings this morning and they were not up to expectations. The stock dropped 5% on the news and analyst are divided on the outlook for the company. One challenge is $247.6 billion in cash on the books. The CFO stated they would be putting the money to work in a loan portfolio as well as retiring a large amount of maturing debt in 2011. Profits were 4 cents compared to estimates of 8 cents. Revenue declined 11% over last quarter and that was the primary reason for the miss in earnings.

There was a $1.1 billion off set in revenue relative to their own debt. Their debt rose in value as investor confidence grew that they would be able to repay the debt and thus, created a charge against revenue and earnings on the increased value. The charge was a result of writing the same debt down and taking a gain during the financial crisis. The funny money procedures that helped the banks survive in 2008 is coming back to bite them now that things have turned around financially.

The cost of credit fell in the quarter by $1.1 billion helping the bank, but trading revenue was less than expected. All revenue in fixed income, trading and derivatives were lower. Bottom line they are still making adjustments to the current market and the new regulatory environment. These challenges aren’t going away quickly, but the numbers continue to improve overall for Citigroup.

The sector struggled on the day as a result of the data and KBE fell 1%. Bank of America, Goldman Sachs and Wells Fargo all report the balance of the week. They will give insight into the sector overall and the outlook for the next quarter. The outlook is improving and thus, the opportunity to own some of these positions and/or add to existing positions. We are adding Citigroup to the Watch List again, which would expand on the current play.

Intel announced earnings last week and has not benefited from what are considered great results. Why the lack of respect for the bellweather semiconductor manufacturer? Most of the concern comes from the reports relative to the PC market. There are plenty of reports stating that tablets are selling better than PC’s and laptops. The assumption from some is the tablet will replace the laptop and in some cases the PC. Intel of course does not make chips currently for the tablet marketplace and thus, it is assumed they will see a drop in revenue and earnings.

Assuming anything is a dangerous game as we all know. Intel posted a 48% rise in profit year-over-year and revenue grew 8.4%. Margins increased to 67.5% from 64.7% last quarter. There estimates are for 10% revenue growth in the next 12 months. Why the drop in stock price, remains my primary question? The stock is trading at 10 times forward earnings. AMD is trading at 21 times forward earnings. Throw in the fact they pay a 3% dividend on the closing price Friday and it looks opportunistic as a value play.

Intel expects to spend $9 billion in capital expenditures in 2011. If revenue and earnings were going to be a challenge it would be fair to believe that number would be cut. I think the stock is worth putting on the Watch List and defining the opportunity moving forward.