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Stock Ideas Top Headlines Breaking Down the Market
Stock Ideas Top Headlines Breaking Down the Market 
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Dear Taipan Daily Reader, Bad news for the country’s major financial institutions is pouring in so fast it’s hard to keep track of it all. Investors are growing more pessimistic as the nation’s biggest financial institutions including Merrill Lynch & Co., Citigroup Inc. and JP Morgan Chase & Co. continue to report dismal numbers from the sub prime fallout. |
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| Breaking Down the Market |
| Monday, 15 October 2007 | ||||||||
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Dear Reader, When I analyze an individual stock, I look at three forms of analysis: fundamentals, technicals, and sentiment. I also like to look at the overall market this way, and right now there is a mixed signal from these three. First, the fundamentals are not looking all that great. Most of the economic reports we have seen over the last month are pointing to an economic slowdown. Most of these negative reports have been greeted with a bullish move from the market, because everyone is expecting the Fed to wave its magic wand again before the end of the year. It has been said that the market is a forward-looking mechanism of the economy. But in this case, I think the markets are being shortsighted. Investors are counting on the Fed to make another rate cut to fix everything wrong with the economy.
Never mind the current housing situation and the fact that foreclosures in September doubled from last year. Never mind the fact that this month marks the peak of the mortgage resets (where adjustable rate mortgages adjust). Many of these mortgages are going to jump substantially. The worst thing is that many of these homeowners will not be able to re-finance because the current value of their home is lower than it was a year ago. If their loan-to-value was already high, the payoff on their current loan will be higher than the amount they can borrow now. Based on this, I think the housing slump is far from over and will cause bigger problems down the road. Another factor that came to my attention concerns earnings of the S&P 500 companies for the third quarter. Thomson Financial reported that with the earnings warnings from Boeing, Chevron, and Valero Energy, overall earnings for the S&P are expected to turn negative. This would be the first time since the first quarter of 2002 that year-over-year earnings growth was negative. Turning our attention to the sentiment indicators, the Investors Intelligence sentiment index showed a 60.2-percent bullish reading. This is the highest reading since 2005 for the bullish percentage. Another sentiment indicator that is showing excessive optimism is the 21-day moving average of the CBOE equity put/call ratio. This ratio is close to moving below the 0.60 level. The lower the reading for this ratio, the more optimism that exists among the options crowd. Historically, trips below 0.60 by the 21-day moving average have been greeted with some short-term selling. The last thing is the technical analysis of the market. As you know, the Dow and S&P have been hitting new all-time highs over the past week. In my database of ETF charts that I look at each morning, I noted that 28 of 38 are hitting overbought levels.This tells us the strength in the overall market, but it also raises a red flag. When so many sectors and overseas markets are all hitting overbought levels at the same time, it should be cause for concern. So we have the technicals pointing to a higher market, yet the fundamentals and the sentiment are pointing to a lower market. Where does this leave us? I wouldn’t be making a big bet on the overall market in either direction right now. Until the technicals point to a pullback, I wouldn’t be anxious to load up on puts. But if the fundamentals continue to show weaker earnings and a weaker economy, the technicals will eventually reverse. The sentiment is at an optimistic level, so when the technicals do reverse, there will be plenty of selling as investors switch camps.I was speaking with a friend of mine the other evening, and I think he put it best about how to play this market: “If you have deep enough pockets and enough patience, you could start wading into a bearish position here, but until the trend reverses a little, the little guys need to sit this one out.” Thanks, David, I could not agree more. Good luck and good trading, Rick P.S. To let me know what you thought of today's article, send an e-mail to: This e-mail address is being protected from spam bots, you need JavaScript enabled to view it
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