Archive for the 'Stock Market' Category

A Whole Lot Of Nothing

The S&P 500 has been stuck around the 1110 are for the past month.  Some will say we’re just churning around and pausing before we move higher.  But, while the stock market has been moving sideways, the negative divergences have been building.  Below is a picture of the S&P 500 SPDRs (SPY) which correlates with the S&P 500.  For months now, the RSI (the indicator at the top) has been moving lower making lower highs while the S&P is making new highs.  This is called a negative divergence and a warning sign.  It shows the intensity of the rally is going away.

In addition, we’ve recently seen some of the leadership like Goldman Sachs (GS) and Apple (AAPL) showing some real relative weakness.  This is another warning flag to me.  There are still pockets of strength like REITS & semiconductors.  But, for a healthy market, all sectors must participate.  It’s not good enough to simply see rotation like we’ve seen the past few weeks.  I can’t get excited about buying financials for example without Goldman Sachs (GS) participating.  Now, the reason we haven’t seen an all out drop in equities is the fact that there simply isn’t enough selling pressure.  Not many people willing to sell at these prices.  They are simply locking in profits in one area and moving it to another.  In addition, demand for stocks has definitely fallen.  As I mentioned above, the intensity in the buying has gone away.  But without selling pressure, equities will continue to bounce around.  With no commitment by buyers and sellers, that means it’s a stock pickers market for now.

I’m choosing to be very cautious right now because of all the negative divergences I continue to see.  The trades I am making are in a small way.


Too Many Red Flags To Ignore

As we approach the holiday season, it reminds us that the end of the year is coming as well.  With only one month to go, it’s a natural time for investors to start to tally how they’ve fared in this difficult environment.  Some were spooked out of the market in late 2008 (with good reason) and have missed out on the entire rally.  Some, have just hung in there.  They rode it down and have ridden it back up.  While others have navigated pretty well.

But, with the new year on the horizon, fund managers, hedge fund managers, & individual investors have begun making adjustments to their portfolios.  As they do this, it’s important that we follow the money.  Over the past 10 days, the S&P 500 has struggled to go and stay above the 1110 level.  Why is this?  Isn’t the economy continuing to improve.  As you recall, the stock market is highly correlated to how fast the economy is recovering.  Up to this point, the economy was recovering at a faster and faster rate each month.  That may be behind us.  It’s not to say the economy won’t keep improving, but it may not be fast enough to sustain higher equity prices (Flag #1).

Bull markets go through many stages as they mature as I’ve discussed in previous blog posts.  I believe we are firmly in stage #2 which means much more selectivity on the part of investors.  There is profit taking, less enthusiasm for stocks, and more scrutiny.  This explains why some of the leaders of the rally since March (i.e. Goldman Sachs) have begun to lag and companies with excellent balance sheets that have lagged (i.e. Disney, Wal-Mart, & Coca-Cola) are now leading.  Having the mega large cap stocks lead a rally isn’t the worst thing in the world but it definitely tells me the character of the market has changed (Flag #2).

Let’s move to some of the technicals.  A healthy bull market is one where more and more sectors and stocks are participating.  That was the case up until about a month ago.  Now, what you are seeing is the complete opposite.  Less and less stocks are participating in the rally and the big caps are doing the heavy lifting.  Remember that most of the indices are cap weighted meaning the bigger the company, the more points they are awarded in the index.  That’s why when big caps go up, the indices go up (Flag #3).  Another healthy sign in a bull market is when there are more and more companies making new highs.  That has peaked as well.  So, the number of companies blasting through their old highs is dwindling (Flag #4).

I’m also noticing that there just isn’t the demand for stocks there was a few months ago.  Most of the up days are because sellers are pausing or resting waiting to sell at higher prices.  The demand is not there right now (Flag #5).

These flags don’t mean we have peaked.  In fact, the indices could keep making new highs for several more months.  But, when there are this many red flags and we’ve advanced as much as we have since March, you better start thinking of exit strategies.  This could simply be a major pause in a longer-term bull market.  But, given the headwinds in front of us (deficits, rising taxes, potentially rising interest rates, etc.), my bet is that 2010 will be a much different year than 2009 and this is the time to start preparing.

Happy Thanksgiving everyone!  Thanks for your support.


A Change In The Air

As rallies mature, they go through different stages.  First, there’s the anything goes rally where low quality investments rally along with high quality.  Mutual funds go up, stocks and bonds go up, exchange traded funds go up.  Just about every sector goes up.  It’s not about what to buy, it’s just about getting more long and reducing cash.  Then, you get to the part in the rally where there’s a little more analysis done on which company should be added to a portfolio.  The low quality stocks start falling behind and are culled out.  Companies with real sales, real earnings, low debt, high return on equity, etc. get the new money.  That’s the stage we could be entering now.  It’s not a horrible thing.  It doesn’t necessarily signal the top in the market.  But, it’s going to require you to do a lot more homework than what you’ve been used to since March.

In addition to this change that may be upon us, there is also a potential change in sector leadership.  When an economy is recovering, the types of companies you want to own are the ones that are directly tied to the economy.  These are called hypercyclical companies.  This would be a Caterpillar for example.  It could also be a technology company or a financial company.  Naturally, those have been the leaders in this rally.  Companies that are consumer non-discretionary (staples) are the ones that have lagged.  Those aren’t as sensitive to the economy and therefore don’t move up as fast when the economy is re-accelerating.  In fact, looking at this sector, it’s underperformed the S&P 500 by about half since March.  But, in the last few days, I’ve noticed a rotation.  Perhaps investors are beginning to worry that the end of the recovery is near.  They don’t want to exit stocks, but just change which ones they own.  Consumer staples can hold up better in a rising rate and/or a sluggish economic environment which I think 2010 could look like.

Keep an eye on this rotation along with a rotation out of junk and into higher quality over the next few days and weeks.

More M&A A Positive

On Wednesday evening, Hewlett-Packard (HPQ) announced it was buying 3Com (COMS) for $2.7 billion in cash, a 35% premium over its closing price.  This will enable HP to sell just about everything for data centers, from servers, storage, management services and networking.  This deal is expected to close in the first half of 2010.  This deal is raising eyebrows for a number of reason.  First, it was all cash and a big premium over the closing price.  Second, this wasn’t the company many believed would be bought out.  Third, the options trading before this deal was announced has many believing somebody knew something that you & I weren’t privy to.  Something stinks.  I’m sure there will be an investigation.

The ball is now in IBM’s court whether they want to make an acquisition and there are rumors that Brocade is the company they may target.  But, investors need to focus on the bigger picture.  The M&A activity is heating up and it has been for some months.  The credit markets have been easing allowing more deals to get done and company’s are anticipating a slower growth environment.  Therefore, the bigger companies with lots of cash are using that cash to acquire growth.  I think this will continue into 2010.

Where you & I can benefit is by focusing on where the action might be for the next acquisition.  Sure, we could speculate on individual companies.  But, that’s exactly what that would be, speculation.  We know there are going to be more deals.  The easier way to benefit from the acquisitions is to buy a basket of companies that are prime.  The place I think that has the most potential is the midcap growth area.  These companies are big enough to matter to a big company, but small enough that the big companies can afford them.

Not only can we benefit from M&A activity by purchasing medium-sized growth companies, but these buyouts help the overall market.  It builds confidence that if big companies with lots of cash are finding values and pay big premiums for companies, then surely there are a lot of companies undervalued.  Hence, a higher market.  One more positive for the market.  Add it to the list.

Back To The Norm

Two weeks ago, investors were worried about the removal of stimulus (i.e. Australia, Norway, & India), rising U.S. rates, and a strengthening dollar.  On Monday, investors woke up to news that the IMF was quoted as saying the dollar was still overvalued, G20 finance ministers were saying they were committed to more stimulus, and the dollar was weakening.  In fact, all that talk about the dollar strengthening, the call buying, buying in the ETF UUP (bullish dollar ETF) all went away Monday.  In fact, you can see that as I mentioned in my video newsletter, unless the dollar index breaks above the 50-day moving average, there was nothing to worry about.  Well, it failed at the 50-day moving average once again last week and is headed down further.

dollar index 11 9 09

Weak dollar, more stimulus, and low interest rates.  This is the recipe for owning pretty much anything.  Risk assets moved up once again.  Commodities, stocks, materials, emerging markets, U.S. stocks, etc. all moved up.  We may be entering the more selective phase in the rally where not everything goes up but if this reflation recipe is still being served, the coast is clear.  But, let’s watch for underlying weakness even though the indices are moving higher.
That’ll be a sign that this rally is getting tired.

Not Trusting This Predictable Rally

The almost too predictable oversold rally has occurred.  We were so oversold according to many different oscillators that I watch.  They were at such low levels that we knew a rally would occur.  On my radio show the past few days, I told listeners if they wanted to sell, they would have higher prices to do so.  Now, we have those higher prices.  If you want to sell, go for it.  Here’s your chance.  Of course, when the Dow’s up 200 as it was on Thursday, nobody wants to sell.  But, the rationale person sells at higher prices if they wanted to sell a few days ago.  The question now is whether this was just another dip on the way higher or was the pullback a part of something substantial?

Two things happened when we got this sell off.  First, it created a deeply oversold condition that almost insures a snap back rally.  But, more importantly, some damage was done that is causing investors to reconsider holding stocks.  Now, we know the economy is still improving.  If you’ve been following this blog, that’s been a consistent theme for several months.  More surprises regarding the economy are in our future.  But, there will be a time when the stock market has fully discounted this.  I don’t believe we’ve reached that ultimate top yet.  But, in the short-term, I’m concerned about the market.  When the S&P reached 1100 & the Dow reached 10000, we churned around for a few days and then fell down to 1030.  But, we also fell below the 50-day moving average, we had a little bit heavier volume, and the uptrend that’s been in place since March was broken.  Investors haven’t forgotten that.  In addition, we’re getting late in the year and many managers want to make sure they lock in gains before they erode after last year’s results (hedge funds get paid purely based on performance).  This is all causing a lot of volatility and big swings.  We could get up to the 1075 level in the next day or so based on the picture below.

S&P 500 11/5/09
The market could be developing a head and shoulders pattern which could signal lower prices ahead.  As I said, I’m not suggesting the top has been reached in the market but a correction down to 1000 or so wouldn’t surprise me a bit, especially if the dollar breaks above its 50-day moving average.  This head & shoulders pattern is just something to watch for over the next few days.

Now that we’ve had this oversold rally, I’m very cautious right now and would not hesitate selling a lot of positions on the first signs of weakness.  Tomorrow’s jobs report could be that first sign.  You know this is a backward looking indicator and doesn’t mean anything regarding how the economy will look a few months from now.  In fact, rising unemployment into a recovery is perfectly normal.  But, any number could be spun to be bad news and cause some selling.  No time to fall asleep.

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Why Did Warren Buffett Really Buy Burlington Northern?

Tuesday morning, we woke up in the United States staring at the Dow Jones futures down almost 100 points.  A big down day certainly would have fit the pattern of the last few days.  Up, down, up, down.  Then, we got the news that Berkshire Hathaway was purchasing Burlington Northern Santa Fe (BNI) for $100/share, or $26 billion.  This was a 31% premium over Monday’s closing price.  Buffett already owned 23% of BNI and now he owns the whole enchilada.

As soon as this news spread, the futures healed up and we finished with a stronger market than the futures were indicating.  The speculating began about why.  Why would Warren Buffett buy this company now and why at such a premium?

There are all kinds of reasons being tossed around why Warren Buffett purchased the rest of Burlington Northern.  He believes in the U.S. economy.  He had too much cash.  He wanted a business with plenty of cash flow.  Those all may be true but the real reason Warren Buffett purchased BNI is because he’s adjusting his portfolio to reflect the macroeconomic situation.  For years, he’s been known for purchasing insurance companies because they were such a great business.  Coincidentally, he’s owned insurance companies during a period where interest rates have fallen from the high teens to under 5%.  You see, insurance companies own lots of bonds.  Bonds do very well when interest rates fall.  Warren Buffett has basically been buying lots and lots of bonds for years enjoying capital gains from those purchases.

Now, he sees and worries about the same thing I worry about,  interest rates.  That means he needs to diversify away from bonds into businesses that will benefit from rising rates and inflation.  Burlington Northern is a company that transports lots of goods around the country, including commodities such as coal.  This is a play on the need for commodities around the world and inflation.  Pure & simple.

Mr. Buffett still has it.



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