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Short-Term Update on the Stock Market

(September 29, 2004)

Please note that the 100% long position initiated on August 19th was stopped out last Monday morning at our entry point.  No new signals as of now.

Great news: Mr. John Mauldin of www.frontlinethoughts.com is coming to Houston the weekend after next and I am tentatively scheduled to meet him - I am planning to conduct an "interview" with him on a one-on-one basis (he has currently agreed to it).  I have always admired and respected his work a lot and I am very excited to be able to meet him in person.  Readers who are interested may send me their questions - I will attempt to ask them for you when I meet Mr. Mauldin.  Because of the need for me to prepare for this "interview," I will be writing an abbreviated commentary this weekend unless something unforeseen happens.  Thank you for your patience!

Also, Mr. Dion Archibald of the business motivation website Woopidoo! expressed an interest in my Dow Theory article and has published it on his website.  There are also tons of very interesting business articles on his website (along with biographies of various successful business people) - things on time management, marketing, leadership, etc., that I believe my readers may find of interest. 

Dear Subscribers and Readers:

The action of the last three days has not changed my view that we are still in the midst of a correction in the stock market.  It has now been more than a month since the bottom of the last correction - and yet the market still hasn't really gone anywhere, despite an estimated $6 billion inflow into the market (and tons of buybacks and insider buying) during September and despite the fact that other liquidity and contrarian indicators were very bullish at the bottom during August.  Because of this, this author thinks that we will need a deeper correction in order for us to have a sustainable bottom and subsequent uptrend, and as of the night of September 29, 2004, I am still sticking to this view.

So why weren't the hugely bullish buybacks and insider buying (and the lacking of offerings) during August and the first three weeks of this month not bullish enough for the stock market?  Is there more to it than just high oil prices and the threat of a terrorist attack leading up to the Presidential election?  I have not shown this chart in a long time, but maybe, just maybe the following chart will provide some explanation:

Weekly M-3 vs. Dow Industrials (January 1, 1999 to September 13, 2004)

I have been concerned about the lack of growth in the money supply (as exemplified by M3) for the last six weeks.  Every Thursday evening, I go to the Federal Reserve website expecting a pop in M3 - but so far, this hasn't happened.  Given the historical precedent of the last five slowdowns in the growth of M3, I would think that the recent slowdown would not be too bullish for the stock market.  Again, this reinforces the fact that we will need another correction here in order for us to have a sustainable bottom and subsequent uptrend in the coming weeks.  I will update this chart again this week once the latest data is updated tomorrow evening.

So much for oil prices.  All the major business news articles welcomed a mere 50-cent drop in the oil price today - when something else may be brewing on the horizon ahead.  Analysts must have turned a blind eye to everything else because the following chart has definitely been ignored by all the major news media:

The November 2004 contract for natural gas is now at an all-time high - after running up approximately $1.50/MMBtu since two weeks ago.

Dear readers, please note the spike of the last two days (ignore the last candle since that only represents the trading for the last couple of hours - as of 11:30 CT) of the November 2004 contract represented an increase of $1.00/MMBtu in the natural gas price - a commodity which supplies 23% of the total energy needs here in the U.S (compared to 40% for crude oil).  Moreover, this one dollar increase in the natural gas price is energy equivalent to a $5.80 increase in the crude oil price.  This is significant.  The November 2004 contract for natural gas is now at an all-time high - after running up approximately $1.50/MMBtu since two weeks ago.

Another indicator that I believe should point to a correction here is the steady increase in bullish sentiment as exemplified by the Investors Intelligence Bulls-Bears% Differential.  Following is a chart with data updated as of tonight:

DJIA vs. Bulls-Bears% Differential in the Investor's Intelligence Survey (January 2003 to Present)

During the latest week, the Investors Intelligence Bulls-Bears% Differential rose from 27.1% to 28.1% -- the fifth weekly consecutive gain.  The recent low of this indicator during late August was a very oversold reading but yet the market still has not managed a stronger rally.  Why is that the case?  Because of this and because of the fact that the technical conditions of the market are still deteriorating, I believe a further correction may be in order before we will achieve a sustainable bottom and subsequent uptrend.

Readers may remember my advice to keep track of the top ten stocks on the IBD Top 100 list going forward this week and next week in order to try to keep track of the pulse of this market and whether momentum is waning.  As of Wednesday at the close, the IBD top ten stocks remain intact (we are only showing eight stocks since we are not including any oil stocks) with the major exception of TZOO (Travelzoo) - despite the dispelling of the secondary offering rumor today (update: as of Thursday morning, TZOO has just announced a successful private placement of its common stock worth $30 million) and the takeover announcement of Orbitz.  Could TZOO be the canary in the coal mine?  We will see:

IBD Top 10 Performance (Not Including Oil Stocks)

I believe the strength of the last two days could mainly be attributed to a technical bounce in the major indices and window dressing by the major mutual funds.  If that is the case, then the major momentum stocks will lose altitude very quickly once this quarter is over tomorrow.  Another momentum stock that has been going strong is RIMM.  Coincidentally, the earnings report for RIMM will be released tomorrow evening.  Bulls who are still currently long the major momentum stocks should definitely keep an eye on RIMM, as the earnings report for RIMM could set the tone for the momentum stocks in the market in the coming days.

Readers please stay tuned and have a great weekend!

Signing off,

Henry K. To, CFA

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