This week marked the meat of earnings season, with a host of leading stocks across many different sectors reporting. We characterized this earnings season as ‘make or break’ coming in, and this week would provide telling evidence in regards to the health of the corporate landscape. Given the strong month-and-a-half rally into Q3 earnings we were light on our feet and cautiously bullish on the market. When stocks run up relentlessly into earnings, as a rule of thumb, it takes a blockbuster report to push them significantly higher. A report that barely meets expectations or misses can be disastrous for extended stocks. The reports this week came in strong, however, and the market proved resilient after a potentially damaging uptrend break. And in a shocking development, there is actually significant amounts of water on the Moon! Now, the doom and gloomers will have somewhere to go when the world ends after QE2! Enough of that, let’s get right to the action.
Earnings Confound
Monday was business as usual for this rally. Stocks churned higher as the Street waited for much-awaited reports from Apple Inc. (AAPL), VMware, Inc. (VMW) and International Business Machines Corp. (IBM). Each report came in better-than-expected, but investors sold the news. Apple (AAPL) is a huge component of the Nasdaq, and any weakness triggers widespread fear in today’s highly interconnected market. VMware (VMW), which had recently been decimated along with most of the other cloud computing, also got hit after beating estimates, opened below the previous move low from that fateful October 6th day. IBM (IBM) also opened down around 3.5%. The result of these sell-offs, most notably Apple, was a large gap down. The market tried to enter the gap, but ran out of steam and dropped like a rock. Many investors, rattled by the May 6th flash crash and several ‘mini’ and isolated flash crashes thereafter, hit the panic button and ran for the exits, thinking this was the pivotal day that would trigger the long-awaited sell-off doom and gloomers have been touting. The market was able to pare some of the intraday losses, but it felt like the damage had been done. Scott labeled it as a rare ‘day to take notice’ and began leaning short for the time-being, and he wasn’t the only one. While we would soon look to buy the dip at measured support levels, it definitely seemed as if this precipitous rally needed to work off some of its oversold condition.
Back On The Wagon
As it turns out, traders who got short were too quick to jump off this rally’s bandwagon, and were quickly stopped out of shorts Tuesday morning as the market snapped back. This entire year, the market has performed like Rocky Balboa, and you don’t doubt Rocky. The banking sector was next on tap for earnings with two companies at opposite ends of the spectrum, Goldman Sachs Group, Inc. (GS) and Bank of America Corp. (BAC). Bank of America (BAC) reported a net loss of $7.3 billion after a goodwill impairment charge of $10.4 billion relating to the Global Card Services segment. Of greatest concern for Bank of America right now, however, is the worsening-by-the-day foreclosure crisis. The catalyst for further weakness in the stock was news that a group of bond investors, headlined by PIMCO, Blackrock (bLK) and the NY Fed was suing to seek $47 billion in mortgage repurchases from Bank of America’s Countrywide division. BAC stock has traded nearly 15% lower in the past eight trading days, and is just the worst of the banks isolated in the foreclosure mess, namely Citigroup Inc. (C), JP Morgan Chase & Co (JPM) and Wells Fargo & Company (WFC). Goldman Sachs actually beat analyst estimates and led the market higher on Tuesday, and followed through with authority on Wednesday. It continues to reassert its status as the undoubted leader among the banks. The bank, maligned from a humanity perspective, is also set to embark on an advertising campaign to convince America it’s not so bad, but that is a whole ‘nother story. Apple (AAPL) also bounced back Tuesday, taking back nearly half of its pre-market losses as investors showed demand for shares at lower prices.
Netflix Impressive
The next earnings report that really caught our attention was Netflix Inc. (NFLX) (WSCS) which showed robust earnings and subscriber growth. Some write Netflix off as simply a bloated streaming video company, but that notion comes with a great deal of naivete. Netflix is the leading digital media company in a society in the middle of a media revolution! They have met all challenges and vanquished mighty competitors, putting Blockbuster out of business with barely a whimper. Apple’s recent decision to include Netflix as part of its new AppleTV, rather than try to build a competing service, spoke volumes to just how powerful the brand has become. The stock gapped up around 12% to near all-time highs, and a bright future seems in store for Netflix, even if we aren’t buyers at these levels.
Baidu Double Fakeroo
The new generation of tech leaders had two more members report Thursday after the close in Amazon.com Inc. (AMZN) and Baidu.com, Inc. (BIDU). As mentioned previously, given their recent run over the last 1 ½ months, we were cautious on Amazon.com (AMZN) and Baidu.com (BIDU) into earnings. In the case of BIDU, we outlined an options strategy on the blog for traders looking to lock in previous gains or those looking to initiate a new position. I had a gut feeling that BIDU would issue a strong report, but you don’t trade on gut feel. Also, as AAPL proved, you never know how the Street will receive a good report after a strong run. BIDU gave sort of a double fake out, first ripping higher, then fading ominously lower. But as the evening wore on, the prevailing winds sent the stock soaring towards all-time highs once again. AMZN was also weak before opening green. When you look at BIDU’s report, it is no wonder smart investors were urgently trying to scoop up weakened shares after hours. It beat estimates handily on both the top and bottom line and guided higher with no real chinks in the armor. Baidu’s growth story in China, the world’s fastest growing economy, is compelling, buoyed by evidence it is the main benefactor from Google’s exit from the People’s Republic. I am extremely bullish on the future prospects for BIDU, even at these levels.
Rare Earth
There was another more ‘rare’ focus for momentum traders (or risk-tolerant swing traders) this week that deserves mention: rare earth stocks, namely Molycorp, Inc. (MCP) and Rare Earth Resources Ltd (REE). Driven by news that China, which mines and processes more the 90% of rare earth minerals, was halting exports to Japan (who develops most products containing rare earth materials bought by the US) and was set to cut future exports by as much 30% due to depletion and environmental concerns. I know Mike Lee is on pace for one his best months in a while due to his success trading REE and MCP. These stocks are highly speculative and extremely dangerous for the retail investor, but are a momentum trader’s paradise. Perhaps in the future they will be compelling for more of a long term trade, especially given America’s need to reduce its dependence on China for rare earth products.
Dollar Finds Footing
The final tidbit I will note this week is the strengthening inverse correlation between the dollar and equities. Elliot Turner at WSCS makes an interesting assertion, however, that while the two are inversely correlated, there is no causation.
The dollar’s drop and the corresponding rise in equities are both the result of the end of the flight to safety and the willingness of market participants to once again put money to work. Stated another way, the dollar’s drop is not causing the rally in equities. There is a common thread between the two moves, but there is not the causation element. With that being said, it is certainly possible for both the market and the dollar to move in tandem moving forward.
Tuesday was a perfect storm of bearishness in the market, which made Wednesday’s snap back all that more impressive. In addition to the post AAPL earnings sell-off, the dollar rallied strongly off what looks like at least a short term bottom after China raised interest rates. The pricing in of QE2 has further debased an already weakening dollar, and it feels like bearishness in the greenback has reached a fever pitch, as Brandon has so eloquently noted in recent weeks, here and here. The Beige Book released this week showed signs of mild growth in pockets of the US economy, but it was likely not enough to influence the Fed’s thinking in terms of possible further monetary easing. As the dollar found some footing, Gold in turn took a hit this week, and there may be an opportunity to buy the dip in the near future as a hedge against escalation of currency ‘disagreements’.
Well, there it is, another week in the books, but the action is starting to liven up a bit. I didn’t touch on everything notable, but simply the things that my eyes were focused on the most. For example, I was too busy waiting in line for a Chipotle burrito bowl to notice the that CMG stock was going to the moon. There was a little scare on Tuesday for the market, but as we stand this weekend the relentless rally marches on. Don’t get complacent, though, that’s when they’ll getcha. As the rally gets more extended, take new trades in smaller size and take profits more aggressively. This week reinforces the need to be a stock picker. The “have’s” performed admirably, even if some strong earnings reports were initially sold, while the “have not’s” (cough cough BAC) got what was coming to them. Have a great weekend, and let’s get back at it again on Monday!
