Friday, July 11, 2014

The Morning Call--The 'buy the dip' crowd showed up right on schedule

The Morning Call

7/11/14

The Market
           
    Technical

The indices (DJIA 16915, S&P 1964) had quite a ride yesterday, selling off big in the morning, then gradually recovering through the rest of the day.  Of course, one day’s highly volatile pin action is meaningless in the scheme of things.  What matters is the longer term trends; and on that count, things are just fine.  The Averages finished above their 50 day moving averages and within uptrends across all time frames: short (16168-17647, 1901-2068), intermediate (16422-20781, 1846-2646) and long (5083-18464, 762-1999). 

            Volume was flat (so no sign of panic here); breadth, not surprisingly, was negative.  The VIX did spike and closed above the upper boundary of its very short term downtrend.  If it ends today above that boundary, the trend will be broken.  However, don’t forget that this is the second such occurrence this week; so we shouldn’t assume that volatility is starting to pick up---at least not yet.

            A dramatic decline in stock buy backs (medium):

            Rejoice in the reminders of risk (medium):

            Update on sentiment (short):

            The long Treasury moved up slightly, finishing within short and intermediate term trading ranges.  Intraday, it pushed above the upper boundary of a very short term uptrend and a prior high but then declined back below both levels---hence, keeping confusion alive and well over exactly what is being discounted by the bond guys.  Given that pin action, I am now watching for a further decrease in price.  If it happens, TLT would (1) set a second lower high, keeping the very short term downtrend intact and (2)  likely break below the 50 day moving average, (3) which together would suggest the expectation for the growth/easy money/higher inflation scenario.

            GLD continued to advance.  It is now in a very short term uptrend as well as short and intermediate term trading ranges and is above its 50 day moving average.

Bottom line: despite the early sell off on some pretty rough international economic news, the ‘buy the dip’ crowd showed up right on schedule and cut the early losses by more than 50%.  True stocks were still down; but it was on little volume; and breadth, while negative, could have been a lot worse. Plus stocks were overbought, anyway.  Which is not to say that a long anticipated correction hasn’t started.  But it does mean that we need a lot more follow through before that would become obvious.

My most likely scenario for the Averages continues to be a challenge of the upper boundaries of their long term uptrends---and then failure to hold.   Our strategy remains to do nothing save taking advantage of the current momentum to lighten up on stocks whose prices are pushed into their Sell Half Range or whose underlying company’s fundamentals have deteriorated.

GLD has begun to move higher but I am too chicken to initiate a position until I get some clarity from bonds.

    Fundamental
    
     Headlines

            Yesterday’s US economic data was upbeat: weekly jobless claims fell and while wholesale inventories rose less than anticipated, sales increased more.  These are not what got investor attention.

Overseas, (1) a Portuguese bank announced that it was considering bankruptcy which prompted fears of additional insolvencies not only at other Portuguese banks but also across the economically weak southern EU countries, (2) French, Italian and Dutch industrial production came in well below expectations and (3) Japanese machine orders fell 19%. 

As much as (1) was the more flashy headline, (2) and (3) have much wider global implications---they call into question the generally accepted proposition that the rest of the world’s economies are sufficiently healthy to make for clear sailing in the US. That said, as I am fond of noting, one day’s data doesn’t make a trend.  So we just have to watch the data flow before starting to alter our forecasts.

There is another troubling development: the very early earnings reports have not made great reading.  To be sure, a lousy couple of days doesn’t mean the entire season will be a disappointment.  But it something to which we must pay attention.

Bottom line: yesterday witnessed two of our frequently mentioned risks hitting the headlines:

(1)   a financially weak global banking system.  While the Portugal bank insolvency got the major early headlines, still it was quite small.  Plus it was already known to be having problems---which presumably means the ECB/Portuguese banking authorities have taken steps to ring fence this bank’s difficulties---‘presumably’ being the operative word.  I am not poo pooing this news; I am just saying that we need more information before deciding just how serious this situation is

(2)   economically weak sovereigns.  It has been sometime since so many poor numbers from so many countries have been reported.  Unfortunately, all these countries [except maybe the Dutch] are already on the injured reserve list.  True this data and its timing could be an outlier.  But, at this point, I am more concerned about the economic implications for the US from multiple negative economic surprises from multiple countries than I am about one small bank’s solvency problem that apparently already known to banking officials.

My bottom line is that for current prices to hold, it requires a perfect outcome to the numerous problems facing the US and global economies AND investor willingness to accept the compression of future potential returns into current prices.

 I can’t emphasize strongly enough that I believe that the key investment strategy today is to take advantage of the current high prices to sell any stock that has been a disappointment or no longer fits your investment criteria and to trim the holding of any stock that has doubled or more in price.

            Bear in mind, this is not a recommendation to run for the hills.  Our Portfolios are still 55-60% invested and their cash position is a function of individual stocks either hitting their Sell Half Prices or their underlying company failing to meet the requisite minimum financial criteria needed for inclusion in our Universe.
        

            It is a cautionary note not to chase this rally.

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