Has the current rally run its course and will the
markets fall—or is this just a pause before the next round higher? To
get a better idea let’s take a good look at…
WHICH WAY THIS MARKET IS HEADED
As you can see we had an important technical
breakdown this past week as both indices broke below their support lines
reversing the uptrend that began in mid-March.
By the end of trading Friday the SP-500
was down 18.42 points to close at 1375.93--down 6.29% for the year.
The SP-500 came
close to finishing above the closely watched 200 day SMA on Monday but
slipped off of the morning gains. The market traded flat on Tuesday
until the Federal Reserve minutes were released--a couple of the
governors had dissenting votes indicating their rightful concern about
inflation. The worry is that the Fed may need to increase interest rates
sooner rather than later--and that’s all it took--Wednesday the market
broke the two month uptrend line signaling the party is over.
The Nasdaq began
the week above the 200 day SMA but slid below it by Monday’s close—and
continued lower for the rest of the week. With next support down around
2380 this index has room to drop.
We’ve got a slew of data to be released this
coming week and there are several key reports that have the potential to
move the markets. The kickoff is at 10 a.m. Eastern on Tuesday with May
consumer confidence. Economist are expecting another decline but the
actual number isn’t that important--the test is whether declining
confidence drags down spending.
So far the decline in spending hasn't been as
bad as the fall in confidence but that could change as economic
conditions worsen-- the consensus forecast is for confidence to drop to
59.5 from 62.3 in April, which was already the lowest level in five
years.
The two biggest deterrents to consumer
discretionary spending right now are declining home prices and rising
food and gas costs—and we’ll get a good look at both this week.
The Case-Shiller home price index for March
released by Standard & Poor's will also come out on Tuesday with
expectations for another decline in spite of many market pundits calling
for a bottom in housing.
On Friday the National Association of
Realtors reported a flood of homes coming on the market in April even as
sales and prices declined. The number of homes currently on the
market represents an 11.2 month supply at the April sales pace, the
biggest excess supply of inventory since the combined
single-family/condo records began in 1999.
For single-family homes alone, the inventory
rose to 10.7 months' supply, the highest since 1985. For condos, the
inventory of climbed to a 14.2 month supply--the highest ever.
Meanwhile the median sales prices for houses
and condos fell to $202,300, down 8% from a year earlier and the second
largest price decline on record. Median prices are down 12% from the
peak.
The Fed has said that the home-price decline
is the key downside risk to their economic outlook and that makes sense
with the majority of American’s net worth tied up in their homes. It’s
doubtful the markets can continue to climb if housing doesn’t put in a
bottom—and for now the real estate sector is still heading south.
The last piece of data on Tuesday will be the
April new-home sales report, released by the Commerce Department at 10
a.m. Eastern. Analysts at Lehman Brothers warned sales would continue to
fall through the third quarter, bringing new-home sales 70% below their
peak in July 2005. None of this is good news for consumers who have come
to depend on their home equity to continue spending.
We’ll find out just how much consumer
sentiment is affecting spending on Friday when the Commerce Department
releases spending and income data for April. Even though there are some
tough headwinds consumer spending is still expected to rise
0.2%--however that tiny increase becomes less than zero with the past
months increase in inflation.
In addition to spiraling food costs, energy
is taking a big chunk out of consumer’s budgets and that trend continued
this past week. Crude for July delivery closed up $1.38, or 1.1%, to
$132.19 a barrel after trading as high as $133.69. It ended last week at
$126.04. On Thursday, crude briefly touched a record high of $135.09 in
electronic trading. In fact crude climbed for four straight sessions
this past week hitting new records on a daily basis.
And with hurricane season starting June 1
supply concerns could drive that price even higher. The National Oceanic
and Atmospheric Administration said Thursday that it predicts a
near-average or above-normal hurricane season this year. NOAA sees a
60% to 70% chance of 12 to 16 named storms, including six to nine
hurricanes and two to five major hurricanes
All this competition to insure crude supplies
is driving the price of gasoline ever higher. The price for a gallon of
regular gasoline reached another record at $3.831 on Thursday, according
to AAA's Daily Fuel Gauge Report. The price is up 9.1% from a month ago
and 19% higher than a year ago.
Prices records have been set consecutively
from May 7 through May 22, according to the AAA and preliminary driving
data is finally starting to show a decrease in consumption as gasoline
flirts with the four dollar mark. All this translates into less
discretionary spending as consumers struggle to put gas in their cars.
U.S. drivers are paying about $1 billion more each day for gasoline than
they did six years ago and that money is coming from other purchases.
Up until this week the markets kept rising on
the strength of international profits, commodity profits and the
widespread belief that the worst in housing and the economy is behind
us. But this past week’s market downturn may be an indication that Wall
Street is coming to the realization that the Fed is finally done
lowering rates, the housing market is getting worse and the price of
commodities like gasoline and food are adversely affecting spending.
It’s pretty tough to continue bidding up a market with problems this
huge and by the looks of things traders may be taking profits while they
can—the question is…
HOW DO WE MAKE MONEY ON IT?
We’ve got two plays lined up this week and
they are both bearish. Our first trade is hiding in the most unlikely
sector for a bearish position but the chart and the fundamentals tell us
this one is a downside money-maker. Even though the stock is in the
energy patch the rising price of crude is actually hurting the company
and the stock finally rolled over Friday giving us the perfect entry
point for some stellar downside profits.
Our next play is on a tech company that has
been having a tough time keeping market share over the past few years
but just recently the stock popped higher on a piece of news that isn’t
likely to keep it up there for long—in fact it may start sliding as
early as Tuesday morning. The good news is we can take a very nice put
position for less than a dollar making this a fast, low-cost and high
potential trade!
We’ve got two plays lined up to take
advantage of a market with a new direction—so let’s get to it…
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