One Step Back

Daily State of the Markets 
Monday Morning – March 22, 2010  

The bears were out in force after the close on Friday. The modest decline in the Dow hid the underlying weakness in the rest of the indices and in short, this seemed to energize our friends-in-fur. The glass-is-at-least-half-empty crowd could be heard emphatically telling anyone that would listen on Friday that the decline marked the end of the rally and it would be downhill from here.

We will admit that Friday’s action was no bed of roses. Worries about Greece returned in a big way as Germany is taking a hard line on no bailouts. The Bank of England suggested that a double-dip was a distinct possibility. The surprise rate hike in India added credence to the rumors of a Discount Rate hike here at home. And the chances of the administration ramming through a health care bill (that 74% of the public doesn’t want) via some obscure congressional procedure, definitely kept buyers on the sidelines. Now add in the fact that it was a quadruple-witch expiration Friday and well, you have a pretty darn good recipe for a selloff.

And sell off is exactly what stocks did. As expected, the recent leaders took it on the chin. The group had become more than a little extended during the joyride to the upside and as such, definitely had some ground to give up. Sure, the action was ugly in some spots. But it is important to remember that this is simply how the game works when you play with the leaders.

We will readily admit that a pullback could be on tap this week. Everybody knows trees don’t grow to the sky and buyers are likely to stand aside for a couple days and let prices “come in” before hitting the buy button again in earnest. From a big picture standpoint, this would be the “one step back” part of the market’s dance. And as long as the indices don’t violate their breakout zones during the pullback, the bulls should retain possession when the selling subsides.

From a chart perspective, the leaders (Russell, NASDAQ, and Midcaps) all have strong cushions to play with before things would turn negative. For example, the S&P Midcap Index could pull back 4% from here before we would worry about things from a technical perspective.

However, the charts of the Dow and S&P 500 are different stories entirely. Thus, all eyes will be on the 1150 zone on the S&P and the 10,600 – 10,700 level on the Dow. Should the indices fall back below their breakout zones, the bears will argue (and we might just agree) that a more meaningful pullback could be on tap. However, if the retest is successful (meaning that the indices do not break back below the breakout areas) a “second chance” buying opportunity could present itself. So, stay tuned; this will likely be interesting.

Turning to this morning… As expected, the passage of the Health Care Bill is causing some selling both in Europe and here in the U.S. as traders don’t like the new 3.8% tax on “unearned income” (capital gains) or the fact that there is really nothing in the bill to control costs. Thus, the cynics point out that the bill is simply another massive spending program (think Social Security and Medicare) and will actually hurt job growth due to the additional requirements/taxes for small business. For example, Medtronic (MDT) CEO Bill Hawkins says his company will need to cut 1,000 jobs in order to pay for the new 2.9% excise tax on device makers. However, from the human perspective, insuring more Americans is certainly a good thing.

In the news this morning, Greece says they don’t need aid and the IMF has projected that the world’s advanced economies face “acute challenges” in tackling their public debt.

On the economic front, the Chicago Fed reported that their National Activity Index fell to -0.64% in February and the January reading was revised downward to -0.04 from 0.02

Running through the rest of the pre-game indicators, the overseas markets are mostly lower as traders attempt to deal with what the health care bill means. Crude futures are down $1.29 to $79.39. On the interest rate front, we’ve got the yield on the 10-yr trading at 3.69%. Next, gold is moving down $3.90 to $1103.70 and the dollar is higher against the Pound, Yen and Euro. Finally, with about 45 minutes before the bell, stock futures in the U.S. are pointing to a lower open. The Dow futures are currently off about 40 points; the S&P’s are down about 5 points, while the NASDAQ looks to be about 5 points above fair value at the moment.

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