Week Ahead: Even as Fed Tries to Soothe -- Washington Could Still Make Markets Anxious!
Stock Market: Last Week of Earnings Season!
Wall Street: Overseas Markets To Lead The Way?
by Ian Harvey
February 25, 2013
Many investors were expecting a correction after the enormous surge at the start of 2013, but evidence from Europe indicates that the downturn could be short and may have already happened with this past week's minor dilemma.
In the week ahead Washington's budget debate could stir up new anxieties as markets head into March, even with expected reassurances about Federal Reserve policy from Chairman Ben Bernanke.
Bernanke is expected to soothe markets with a reaffirmation during Congressional testimony Tuesday and Wednesday that the Fed will keep policy easy as long as needed. But, at the same time Congress and the White House are likely to do battle publicly about the ”sequester” spending cuts, elevating once more the view that political leaders have created an atmosphere of dysfunction.
To stop the "sequester," or $85 billion in annual automatic spending cuts, from taking effect on March 1, the issue has to be resolved in the coming week. But Wall Street is now betting chances are slim that politicians come together in a compromise, and they are likely to stretch out their wrangling, allowing the cuts to take place for a period of time.
”Sequestration” is a term used to describe the practice of using mandatory spending cuts in the federal budget if the cost of running the government exceeds either an arbitrary amount or the gross revenue it brings during the fiscal year.
Simply put, sequestration is the employment of automatic, across-the-board spending cuts in the face of annual budget deficits.
The Congressional Research Service defines sequestration this way:
"In general, sequestration entails the permanent cancellation of budgetary resources by a uniform percentage. Moreover, this uniform percentage reduction is applied to all programs, projects, and activities within a budget account.
However, the current sequestration procedures, as in previous iterations of such procedures, provide for exemptions and special rules. That is, certain programs and activities are exempt from sequestration, and certain other programs are governed by special rules regarding the application of a sequester."
The market appears to have entered a riskier period, and investors may temporarily want to pull back slightly. There are several reasons for this hesitation:-
• The sequester discussion is one reason, and there is a concern that if the real impact on the economy is worse than economists expect, the market reaction will be very negative – the market is not really well-equipped to handle bad news because it has become so bullishly positioned.
• Washington is also a reason for concern -- given potentially bitter fiscal policy battles linked to required tax and spending reforms in March, there is expected some volatility in the next few weeks.
• Also, headwinds for the consumer are another reason for caution -- the impact of higher payroll taxes has not been realized yet because some companies were still adjusting paychecks in February. The full effect will not be realized until the March retail sales materialize.
• There are a group of retailers reporting earnings in the week ahead, and their comments could reveal some consumer reaction to both higher taxes and gasoline prices. Retailers reporting earnings include Home Depot, TJX, Target, Best Buy, Barnes and Noble, Gap, Limited Brands, Dollar Tree, JC Penney and Saks.
The German Dax Index has been leading the S&P 500 since the June 2012 lows, up 27.8% since then against a 17.2% gain in the S&P 500.
The Dax index topped on January 25 at 7,865, and at Thursday's low of 7,561 was down 3.8% from its highs. The daily chart also shows a fairly normal corrective pattern that has already taken the Index close to support from the September highs at 7,488. A close in the Dax above last week's high of 7,784 should signal that the correction is over.
• For the week, the Dow Jones Industrial Average (DJI) squeezed out a gain of 0.13 percent, to finish at 14,000.57.
The blue-chip index has so far posted a gain every Friday of this year, matching the Friday win streak from July through September of 2012.
Hewlett-Packard was the strongest weekly performer, while Alcoa tumbled.
• The Standard & Poor's 500 Index (SPX) slipped 0.28, to close at 1,515.60.
It was the first down week in seven for the S&P.
Among the key S&P sectors, consumer staples led the gainers for the week, while materials lagged.
• And the Nasdaq Composite Index (COMP) declined 0.95 percent, to end at 3,161.82.
The CBOE Market Volatility Index (VIX) ), widely considered the best gauge of fear in the market, finished Friday session at 14.17, down 1.1 points, or nearly 7%.
The VIX finished the week up 13.7%.
The iShares Dow Jones Transportation (IYT) made another new high last week, but closed the week a bit lower. The range for the week was quite wide, with support now at $104 and resistance at $107.26.
The move through the resistance (line a) in mid-December was a strong sign that this previously lagging sector was going to catch up. It is now a market leader.
The ranges in the sector ETFs were much wider last week, and there were some sectors that showed nice gains while others were hit fairly hard. The weakest was the Select Sector SPDR Materials (XLB), down 3%.
The weekly chart shows that the breakout level (line b) from the 2011 highs has been tested. It will be important that XLB is able to turn higher in the next few weeks.
Also on the downside was the Select Sector SPDR Consumer Discretionary (XLY), which lost about 1.6%. The Select Sector SPDR Energy (XLE) closed down 1%.
Defensive sectors did the best, as the Select Sector SPDR Consumer Staples (XLP) was up 1.5% and the Select Sector SPDR Utilities (XLU) gained 1.2%.
Earnings Reports for the Past Week
The Q4 earnings season has turned out to be not as bad as many suspected. Leaving aside anemic earnings growth, on most other metrics the fourth quarter reporting season is quite good. Not only are the ratio and magnitude of surprises better than the previous quarter and comparable to the last many, but the tone of management guidance has also been less worrisome than was the case in the third quarter reporting season.
Total earnings for the 445 S&P 500 companies that have come out with Q4 results, as of Friday February 22, are up +2% from the same period last year, with 66.7% beating expectations with a strong median surprise of +3.4%. Stripping out the unusual revenue growth at Prudential Financial (PRU) and Express Scripts (ESRX), total revenues are up +1.2%, with 61.8% of the companies beating revenue expectations, with a median revenue surprise of +0.7%.
The drop in crude oil below support at $95.53 early Wednesday preceded the sharp drop in the stock market. There were warnings from the crude oil market the previous week, and stock traders should always keep an eye on crude oil because it often leads stocks.
The April contract is not far above the support in the $92 area, and it looks as though the worst of the selling may be over.
The SPDR Gold Trust (GLD) had another rough week, as it tried to stabilize last Tuesday before again gapping to the downside. The three gaps make it overdue for a bounce, and clearly the sentiment for gold is quite negative.
The dollar was quite strong last week, and the weekly chart of the dollar index futures suggests that an important low may now be in place. The dollar has rallied sharply from the support at 78.86 (line b).
The dollar index closed just below the resistance at 81.66, with more important resistance now at 84.66 (line a). The weekly OBV looks very strong, as it broke its downtrend last December and then retested its rising WMA four weeks ago.
Economic Reports in the Past Week
In the US, it was a generally disappointing week for economic news, as the Housing Market Index was weaker than expected and housing starts declined.
Also, the FOMC minutes revealed that in the January policy meeting, officials had mixed opinions on how long the easy-money policies should continue. This, of course, hit stocks rather hard last Wednesday afternoon.
Part of investors concerns is tied to the explosion in the high-risk or junk bond market. Companies issued $274 billion in junk debt last year, an increase of 55% over the prior year.
The chart shows that since December 2008, these bonds are up close to 150%, and yields have fallen to under 6%. The Fed is also concerned with other high-yielding debt, like mortgage backed REITs, as they fear individual and institutional investors will take on too many high-risk assets.
The yield on the ten-year T-Note was down a bit last week, but is still in a clear uptrend. Its still-rising 20-day EMA stands at 1.833%.
The chart shows that this survey, along with two other measures of their economy, turned up sharply in late 2012. All are looking quite positive.
The Fed in the Week Ahead
In the past week, the Fed added to "risk off" mood in markets with the release Wednesday of the minutes of its January meeting. For a second month, the minutes showed that some members are concerned about the impact of Fed asset purchases, which are ballooning the Fed balance sheet. The Fed is buying $85 billion in Treasurys and mortgage each month, though the Fed members also saw the program as effective. QE is credited with keeping interest rates low while driving investors into riskier assets, like stocks and commodities.
While many Fed watchers did not see a change in the Fed's message, the markets took the comments as hawkish. So Bernanke's semi-annual testimony on the economy before a Senate committee Tuesday and a House committee Wednesday will be closely watched.
Congress is expected to ask Bernanke how the Fed will wind down its bond buying program, another longer term worry for markets. Bernanke is expected to reassure markets that the Fed will continue its program into next year.
St. Louis Fed President James Bullard, on Friday, confirmed the Fed's position on easing and spoke directly to some of the concerns raised by the minutes. Bullard is known to be somewhat hawkish and has said he thinks the Fed should slow down or stop its purchases as the economy improves.
Bullard said the Fed's easing program carries a "punch" and markets have not yet felt the full impact of the Fed's additional Treasury purchases. The Fed last December transformed a program where it bought long dated Treasurys and sold the same amount of securities at the short end, into a program where it just buys Treasurys. Bullard also spoke to the Fed's discussions on the anticipated end of its program.
Earnings and Company News in the Week Ahead
There are still a handful of Q4 earnings reports to come after the week ahead, but for all practical purposes this is the last week of this earnings season. There is a total of 395 companies coming out with results in the week ahead, including 42 S&P 500 members. By the end of the week ahead there will have seen Q4 results from 97.4% of the S&P 500 members.
The week ahead results are heavily weighted towards the retail sector, with results from a number of major retailers on the docket. This includes players like Lowe's (LOW), Home Depot (HD), Macy’s (M), Limited Brands (LTD), Target (TGT), Gap (GPS), Best Buy (BBY) and others. Priceline (PCLN) and Salesforce.com (CRM) will also be reporting results this week, as will be Heinz (HNZ).
The overall backdrop for the retail space has not been very favorable lately, as we saw in the Wal-Mart (WMT) results, with the payroll tax changes, delayed tax refunds and higher gasoline prices impacting sales. This isn’t a concern with the high end of the retail space, but Wal-Mart’s soft outlook for this year is relevant to Target and other discounters. Guidance from Nordstrom (JWN) and Abercrombie & Fitch (ANF) was also less than reassuring. It will be interesting to see if those trends will show up in Macy’s and Gap’s results.
• RadioShack (NYSE: RHS) is set to release its earnings Tuesday. Analysts currently expect the company to post a loss of $0.05 on revenue of $1.36 billion. Shares of RadioShack have performed extremely well over the last quarter, rallying about 45% in the last month alone. However, analysts at Wedbush are concerned. The firm has an Underperform rating and $1 price target on RadioShack. Wedbush cites margin erosion and an “ill-advised” growth strategy.
“We expect further margin erosion,” Wedbush writes. “Management forecasted weak sales [on its last earnings call] and said it expected gross margin compress to continue.”
• Groupon (NASDAQ: GRPN) will follow on Wednesday. Like RadioShack, shares have runup significantly -- more than doubling since setting an all-time low in mid-November.
Barrington Research is cautious on the company with a Market Perform rating. “We expect in line results,” Barrington notes. “We suspect the company's Goods business benefitted from the Holiday season, but we continue to worry about its lack of visibility and international difficulties, which represents about half of its business.”
• Retailer JC Penney (NYSE: JCP) is also set to post earnings Wednesday. Analysts currently expect the company to report a loss of $0.14 per share on revenue of $4.10 billion. The company has been a controversial stock over the last year, as CEO Ron Johnson's turnaround strategy has led to a steady decline in sales.
Deutsche Bank has a Hold rating on JC Penney and a $17 price target. Analysts remain cautious, noting that the company has had to abandon many of the radical changes it made to its pricing model last year.
“The changes suggest CEO Ron Johnson has embraced promotions as a necessary evil to re-engage the core JCP customer; but with our checks indicating traffic has only experienced modest improvement in recent weeks, we believe the return of coupons may be next.”
• Salesforce.com (NYSE: CRM) will report Thursday. Analysts anticipate the cloud computing pioneer to post earnings of $0.40 per share on revenue of $830.8 million. Since hitting a recent low November 14, shares are up over 20%.
Analysts at Piper Jaffray are bullish on Salesforce, with an Overweight rating and $208 price target. “We believe CRM remains a core long-term holding for its prominent role in the cloud computing mega-trend,” Piper Jaffray notes.
• Earnings in the Week Ahead: Lowe's, Autodesk, Oneok, Caesar's Entertainment, Health Care REIT, Stifel Financial, FirstEnergy
• 10.30 am Dallas Fed survey
• 1.00 pm $35 billion 2-year notes auction
• 7.00 pm Atlanta Fed President Dennis Lockhart speaks on economy
• Earnings in the Week Ahead: Home Depot, AutoZone, Saks, Macy's, Bank of Montreal, Holly Frontier, American Tower, Priceline.com, Vornado Realty, First Solar, American Water Works, Edison International, Tivo, Papa John's, AMC Networks, Vivendi, Tenet Healthcare, Sempra Energy, Range Resources, MetroPCS
• 9.00 am S&P/Case-Shiller home prices
• 10.00 am Fed Chairman Ben Bernanke testifies on economy before Senate Committee
• 10.00 am New home sales
• 10.00 am Consumer confidence
• 10.00 am Richmond Fed survey
• 1.00 pm $35 billion 5-year notes auction
• Earnings in the Week Ahead: AB InBev, Target, Dollar Tree, JC Penney, Groupon, Limited Brands, TJX, Continental Resources, Mylan Labs, Monster Beverage, Joy Global, NRG Energy, Federal-Mogul, Whiting Petroleum, Pall, Liberty Media, Chicago Bridge and Iron, DCP Midstream Partners. Vale, Liberty Brands, Western Gas Partners, Liberty Media, Liberty Interactive, Federal-Mogul, CenterPoint
• 8.30 am Durable goods
• 10.00 am Bernanke testifies before House Committee
• 10.00 am Pending home sales
• 1.00 pm $29 billion 7-year note auction
• 4.30 pm Dallas Fed President Richard Fisher speaks on economy
• Earnings in the Week Ahead: Kohl's, Best Buy, Barnes and Noble, Sears, Gap, Salesforce.com, Luxottica, Ocwen Financial, Rowan Cos, Western Refining, Copano Energy, Great Plains Energy, Cablevision, Chico's FAS, Domino's Pizza, Sotheby's, Universal Health, Toronto Dominion, Canadian Imperial Bank, Iron Mountain, Valeant Pharma, Integrys, Molycorp, Splunk
• 8.30 am Initial claims
• 8.30 am Q4 GDP (second)
• 9.45 am Chicago PMI
• 11.00 am Kansas City Fed
International Economic Reports in the Week Ahead Internationally, Wednesday will bring the GDP report for the U.K. and Japanese Industrial production. Thursday will have a variety of economic reports, including Indian and Swiss GDP, German unemployment data, Eurozone and German CPI and the Chinese manufacturing PMI. The Eurozone unemployment rate and Brazil's GDP will come out Friday.
• Earnings in the Week Ahead: Foster Wheeler, Magna International, Pepco Holdings, Berkshire Hathaway
• Monthly auto sales
• 8.30 am Personal income
• 8.58 am Markit Manufacturing PMI
• 9.55 am Consumer sentiment
• 10.00 am ISM manufacturing
• 10.00 am Construction spending
Sentiment Effect in the Week Ahead
Sentiment improved a bit last week, as financial newsletter writers became a bit less bullish, dropping from 52.6% to 48.4%. Only 41.8% of individual investors are now bullish, down from 52.3% on January 24.
The NYSE Composite in the Week Ahead
The daily chart of the NYSE Advance/Decline line shows that it dropped below its WMA on Thursday, but was back above it with Friday's close. The A/D line did make new rally highs last week, and has long-term support at line c.
The NYSE Composite did test its daily Starc- band Thursday (see arrow) and closed the week right on the flat 20-day EMA. There is next resistance at 8,900 and then in the 9,000 area. The daily uptrend (line b) was broken Thursday, but prices regained it on Friday.
Conclusion for the Week Ahead
Last week's trading showed an increase in volatility, and this is likely to continue this week. Several prominent analysts came out with very negative comments last Thursday, and it is likely quite a few new short positions were established. If stocks can continue higher Monday on positive market internals, we could see quite a squeeze. If the major averages do make new highs, it will be important to watch the technical indicators to see if any divergences are formed.
Clearly, this is a time for caution particularly if you are an aggressive buyer, and new buying is best suited for those who have been participating in the recent rally. A drop below last week's lows in leading market-tracking ETFs will signal that the correction is not over.
As always, it is important to have your stops and a clear plan in place for your current holdings. It is wise to continue to focus on your entry and exit levels, as risk, as always, must be considered of importance this year.