Generally strong earnings reports and increasing evidence of recovery in the euro zone helped propel the S&P 500 Index (SPX) above the 1,100 level last week. The Dow Jones Industrial Average (DJIA) likewise surpassed 10,400. However, the major market indexes remain slightly off their June highs (to say nothing of April). Looking ahead, Senior Technical Strategist Ryan Detrick is sitting in again for Todd Salamone this week. Ryan covers a wide swath of territory today, including the health of the euro, the SPX's break above its 50-day moving average, "death crosses," and the CBOE Market Volatility Index (VIX). It's a mixed picture, but Ryan concludes, "I'd say it is wise to side with the bulls." Next, Senior Quantitative Analyst Rocky White takes a look at market performance during midterm election years. Finally, we wrap up with a look at some key economic and earnings reports slated for release this week.
Recap of the Previous Week: SPX 1,100 a Reason to Cheer By Joseph Hargett, Senior Equities Analyst
The Dow Jones Industrial Average (DJIA) fought back from the previous week's 1% loss, gaining a solid 3.2%. The bulls proved their resilience, despite a 100-point drop on Wednesday in reaction to less-than-cheerful comments by Federal Reserve Chairman Ben Bernanke. Earnings season thus far has given the bulls more reason to cheer than not, and the S&P 500 Index (SPX), for one, proved its mettle by muscling above the 1,100 mark.
The news Monday was mixed. Overseas, Moody's Investors Service downgraded Ireland's credit rating. Here in the U.S., the National Association of Home Builders said its confidence index plunged to 14 in July – the lowest level since March 2009. However, Halliburton's (HAL) earnings cheered traders. The Dow settled on a respectable 0.56% gain on the day.
Traders were disappointed on Tuesday by earnings reports from big-cap behemoths Goldman Sachs (GS), IBM (IBM) and Texas Instruments Inc. (TXN), as well as a gloomy outlook from blue chip Johnson & Johnson (JNJ), and the Dow initially sank more than 100 points. But the bulls stood their ground, and buyers returned later in the day. The Dow gained another 0.74%.
Apple (AAPL) and Morgan Stanley (MS), among others, reported strong earnings on Wednesday, but traders didn't show their cards until the Fed's Bernanke testified before the Senate Banking Committee. They didn't much like what they heard. Bernanke said the economic outlook is "unusually uncertain," and that "financial conditions ... have become less supportive of economic growth in recent months." Although the Fed chairman said central bankers are "prepared to take further policy actions as needed," he made it clear the Fed was unlikely provide any more stimulus to the shaky recovery. Traders ran for the exits and the Dow sank 109 points, or 1.07%.
What a difference a day makes. Upbeat earnings reports Thursday from high-profile Dow components such as Caterpillar Inc. (CAT), 3M Company (MMM), and AT&T Inc. (T) boosted spirits into the party zone. Meanwhile, industrial orders in Europe rose by 3.8%, while the Markit euro-zone composite purchasing managers' index unexpectedly rose to 56.7 in July. Furthermore, May retail sales in the U.K. were also better than forecast. The Dow soared 202 points, or nearly 2%.
Only seven of the 91 banks tested "failed" the highly anticipated European bank stress tests on Friday, with Spain accounting for five of the casualties. Although doubts about the strictness of those tests emerged later, the bulls kept their party hats on through the closing bell. The Dow climbed another 102 points, or 1%. For the week, the blue-chip barometer was even more impressive, adding 3.2%. The SPX rallied 3.5% for the week, while the Nasdaq Composite tacked on a very healthy 4.2%.
What the Trader Is Expecting in the Coming Week: SPX Breaks Above 50-Day Moving Average Ryan Detrick, Senior Technical Strategist
I think Federal Reserve Chairman Ben Bernanke summed it up on Wednesday when he called the economic outlook "unusually uncertain." On Tuesday we rallied on "weak" earnings, and on Wednesday we sold off on big volume after "good" earnings. What else can you say, other than uncertainty rules? Nonetheless, earnings for the most part have come in better than expected and the market is showing some signs of life.
Don't get me wrong, there are probably more reasons to be very concerned out there than reasons to be bullish. We have worries over some poor, high-profile bank earning reactions, weak housing numbers, jobs, European debt, future dividend and capital gains tax increases, and lastly record lows for the two-year yields - suggesting the bond market isn't buying into the economic recovery. Nonetheless, if everyone else is worried about these same things – you have to wonder how much of this bad news is already baked in.
What I do find encouraging is the fact that the S&P 500 Index (SPX) was able to substantially break above its 50-day moving average, along with breaking a three-month downtrend line. Again, we have some major concerns regarding the world economy – but price action is what matters, and this is a step in the right direction for the bulls.
Again, although I see some positives, by no means is this an all-clear buy signal. Last year at this time we were very bullish on the overall market and rode it up into the April peak. Unfortunately, things aren't quite that clear today, and for this reason we recommend shortening your timeframes or making sure you have hedges in place.
With that said, the action in the financials is one area that has us concerned. Numerous names have had poor reactions to earnings and the price action on the XLF is rather weak.
Meanwhile, the 50-day buy-to-open (BTO) put/call ratio on the XLF has peaked and rolled over sharply. This rollover looks quite bearish, especially when you consider the rally in 2009 was accompanied by a rising put/call ratio. Additionally, we see huge August puts relative to calls in at-the-money options. With heavy put open interest, there is always the risk of a major delta hedge-based decline from that put open interest.
What is there to like? Well, for starters, the price action in the euro is very encouraging. Will the euro exist in 15 years? I don't know, but a lot of people seem to think there's a chance it won't. Nonetheless, for today's market, strength in the European currency is a great sign that some of the recent European sovereign debt issues could be subsiding. Additionally, we continue to see extreme skepticism toward the currency. As Todd has mentioned in the past, this is a very nice-looking contrarian play.
As we've mentioned several weeks in a row now, the CBOE Market Volatility Index (VIX) is down near support from its 200-day moving average. This level continues to act as strong support. A break beneath this level could signal volatility is subsiding and a nice summer rally is ready to take off. Keep your eyes on this one.
Another potentially major positive is that overall sentiment continues to be very negative. Should we see a string of good news, this could be very powerful. Sentiment polls still show investors are near past levels of bearishness consistent with major market bottoms. Last week, I noted how last July saw a well-publicized head-and-shoulders topping pattern that was dead wrong, and coincidentally marked a huge end-of-year rally, and how we were seeing the exact same thing this July. One other similarity between last July and this July is the Investors Intelligence poll, which has the same number of bears and bulls. Last year, after such a configuration, the Dow rallied almost 1,800 points in two and a half months.
On the technical front, this week the PowerShares QQQ Trust (QQQQ) completed a "death cross." This is when the 50-day moving average crosses beneath its longer-term 200-day moving average. As the name would suggest, this is viewed as a very bearish indicator. The SPX completed its death cross a few weeks ago, and this brought out a good deal of bears claiming that no major bear market has occurred without a death cross. Although on the surface this is correct, as Rocky White mentioned in Monday Morning Outlook recently, since 1972, on the one-, three-, and six- month timeframes, a death cross is actually more bullish than the typical returns on the SPX. Not so bearish after all, huh?
What does a death cross on the QQQQ tell us? Well, going back to 2000, death crosses are indeed bearish.
The only problem I have with this is the results are extremely skewed due to the massive drop in 2000. Not that we should discount this, but let's take a look at all the death crosses since 2003. In fact, we get a much different result. In fact, death crosses on the QQQQ are actually more bullish in all time frames going out a year – confirming that a death cross by itself isn't reason alone to put on the bear suit.
Todd is back next week and I'll leave you with this chart. Although we see reasons to be concerned and reasons to be bullish, as long as the SPX stays above its upward trending 80-week moving average, I'd say it is wise to side with the bulls. Remember, this trendline served as support during the last bull market and was supportive on the recent pullback. So far, so good.
Good luck trading.
Prepare for the investing week ahead. Every week, Bernie Schaeffer and his staff provide you with their insight about what has happened and, more importantly, what will happen in the market. We dig deep and show you what's happening behind the scenes, and tell you which indicators are predicting major market moves. If you enjoyed this week's edition of Monday Morning Outlook, sign up here for free weekly delivery straight to your inbox.
Indicator of the Week: Presidential Cycles By Rocky White, Senior Quantitative Analyst
Foreword: We're a few months away from the midterm elections. In the last couple of years there have been some major pieces of legislation passed (TARP, health care reform, financial regulation) and there are a few more things some Democrats would like to take care of (energy/climate change legislation). Will legislation before the midterms be good for the market? I'm not one to get into a political debate, so I'll leave that for others to discuss. But I do have the numbers on how the market has performed depending on which party holds the presidency and which year it is of the presidential cycle.
Dow Returns by Party: In 1949, Harry Truman became the first president to be inaugurated to his first term on Jan. 20 (prior to Franklin Roosevelt's third term, presidents were inaugurated in March). So I went back to 1949 and looked at how the Dow Jones Industrial Average performed depending on whether a Democrat or Republican held office. The table below shows that the Dow has performed better with a Democrat in office as opposed to a Republican. The second-half returns would be most relevant to now. With a Democrat in office, the Dow has an average return of about 7% for the last six months of the year. Also, there has been a positive return an impressive 84% of the time.
Second Half of Year Broken Down: The table below breaks down the Dow performance for the second half of the year. The second year of a presidential cycle is the year of the midterm elections. You can see that it happens to be the worst time for the Dow when a Democrat is in office. During that half-year the Dow averages a 4.28% return and is positive 67% of the time. The Republicans on the other hand have seen the Dow perform well during the midterm year when they hold the presidency. During those years the market is still positive only 67% of the time, but the market returns an average of 7.26%.
Finally, below is a table showing you the second half of the individual midterm election years where a Democrat was president. The first half of this year was not a good one for the Dow, but that has been typical according to the table below. Five of the seven results in the table below are negative, averaging a loss of 3.88%. The second half of the year has usually been pretty bullish, averaging a return of 4.28%. That is no thanks to the third quarter, though. We see in the table that the third quarter has a very slightly negative average return. Four of the six results are pretty good, but there are two returns that are negative by double digits.
This Week's Key Events: Earnings, and Several Reports on Consumer Sentiment By Joseph Hargett, Senior Equities Analyst
We're right in the thick of earnings season. Here is a brief list of some of the key events for the upcoming week. All earnings dates listed below are tentative and subject to change. Please check with each company's respective website for official reporting dates.
Monday
We'll get several more glimpses into the minds of consumers this week, beginning with new homes sales for June on Monday. Sohu.com Inc. (SOHU), Lorillard Inc. (LO), SL Green Realty Corp. (SLG), Albemarle Corp. (ALB), and Universal Health Services Inc. (UHS) will release their quarterly earnings reports.
Tuesday
On Tuesday, we'll get the Case-Shiller 20-city home price index for May, but more importantly, the Conference Board's Consumer Confidence Index for July. If you recall, this index slumped badly in June. AK Steel Holding Corp. (AKS), BP plc ( BP), CIT Group Inc. (CIT), Cummins Inc. (CMI), Domino's Pizza Inc. (DPZ), DuPont (DD), L-3 Communications Holdings Inc. (LLL), LCA-Vision Inc. (LCAV), Lexmark International Inc. (LXK), Office Depot Inc. (ODP), Lockheed Martin Corp. (LMT), United States Steel Corp. (X), Teva Pharmaceutical Industries Ltd. (TEVA), Under Armour Inc. (UA), Valero Energy Corp. (VLO), Aetna Inc. (AET), AFLAC Inc. (AFL), Broadcom Corp. (BRCM), Buffalo Wild Wings (BWLD), CB Richard Ellis Group Inc. (CBG) Cephalon Inc. (CEPH), DreamWorks Animation SKG Inc. (DWA), Fiserv Inc. (FISV), Massey Energy Co. ( MEE) and Panera Bread Co. (PNRA) are scheduled to report earnings.
Wednesday
The market will be graced with the weekly report on U.S. petroleum supplies on Wednesday, along with the Fed's Beige Book, while ArcelorMittal (MT), The Boeing Company (BA), Coca-Cola Enterprises Inc. (CCE), Comcast Corp. (CMCSA), ConocoPhillips (COP), Constellation Energy Group Inc. (CEG), International Paper Company (IP), M/I Homes Inc. (MHO), Martha Stewart Living Omnimedia Inc. (MSO), P.F. Chang's China Bistro (PFCB), Sprint Nextel Corp. (S), Akamai Technologies Inc. (AKAM), Cincinnati Financial Corp. (CINF), Cliffs Natural Resources Inc. (CLF), Goldcorp Inc. (GG), Green Mountain Coffee Roasters Inc. (GMCR), NetLogic Microsystems Inc. (NETL), Skechers USA Inc. (SKX), and Sturm, Ruger & Co. (RGR) will post their quarterly results.
Thursday
Weekly initial jobless claims will be reported Thursday. Avon Products Inc. (AVP), Barrick Gold Corp. (ABX), Celgene Corp. (CELG), Colgate-Palmolive Co. (CL), Exxon Mobil Corp. (XOM), Motorola Inc. (MOT), Northrop Grumman Corp. (NOC), Sony Corp. (SNE), Strayer Education Inc. (STRA), Wynn Resorts Limited (WYNN), Chiquita Brands International Inc. (CQB), Coinstar Inc. (CSTR), Expedia Inc. (EXPE), First Solar Inc. (FSLR), McAfee Inc. (MFE), and MetLife Inc. (MET) will report earnings.
Friday
On Friday, we'll get the latest numbers on second-quarter gross domestic product, along with the Chicago Purchasing Managers' Index for July, and a final look at July consumer confidence as measured by Reuters and the University of Michigan. Joining the earnings parade will be Arch Coal Inc. (ACI), Chevron Corp. (CVX), ITT Corp. (ITT), and Merck & Co. Inc. (MRK).
And now a few sectors of note...
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