Profit Taking Hits Dow, NASDAQ Ends Marginally Higher

While it's true that a 2-point advance doesn't exactly inspire bullish confidence, the Nasdaq (COMPX) has nevertheless demonstrated some relative strength for the first time in a while. Lacking any direction of their own, technology stocks have recently taken their cue from the Dow Industrials. Today, tech investors looked elsewhere for leadership. Buoyed by strength in the chip stocks, the COMPX managed to stay positive while the Dow fell to profit taking.

The COMPX couldn't quite mount a rally however, having twice breached the 3,880 level, then settling for a 2-point gain to close at 3851.69. Volume was moderate with 1.34 billion shares changing hands. Market breadth was negative with advancers trailing decliners 21 to 19. Only 47 issues found new highs while 119 issues found new lows.

The Dow (INDU) on the other hand, traded down throughout the day, moving 109.14 points lower to close at 11,067. Profit takers took advantage of recent run-ups in the blue chips to pare their holdings. Volume was light on the NYSE with activity totaling just under 900 million shares. Losing issues beat advancers 17 to 12.

In other market activity, the S&P 500 (SPX) moved lower by 7.13 points to close at 1484.43. The Russell 2000 (RUT) also lost 4.53 points to close at 509.95.

Economic news was light today, but fairly optimistic. U.S. Industrial Output increased 0.4% in July, right in-line with consensus estimates. Increased production of computers and other business equipment offset declines in automobiles and appliances. The upside of this report lies in the fact that consumer spending on big-ticket items seems to be slowing while business investment, which improves productivity and controls inflation, is increasing.

The market will be watching the CPI numbers due to be released tomorrow, an hour before the open. The July CPI is expected to come in at a 0.1% increase while the Core CPI is expected to register a 0.2% increase. Since the market has largely decided that the Fed will not raise rates at next week's FOMC meeting, I would expect a limited upside in the equity markets in response to a favorable CPI report as investors' focus seems to have shifted to earnings sustainability for the time being.

Treasuries registered a bit more concern, perhaps in response to surging oil prices. The yield on the 10-year treasury rose to 5.8% from 5.77% yesterday. The 2-year traded down to yield 6.26% from 6.22% yesterday. September Fed Fund Futures are trading at levels corresponding to an average rate of 6.535% in September which equates to a 14% chance that the FOMC will raise rates next week. Looking further out, traders are assigning a 40% chance for a rate hike sometime this year.

Oil prices are showing continued strength based on concerns over historically low levels of U.S. crude oil stocks. Surprisingly firm adherence to OPEC production quotas coupled with Brazilian desires to maintain high oil prices to help boost its economy have contributed to oil's recent run-up. September light sweet crude futures traded lower $0.27 to $31.67 while September Brent Crude contracts traded up $0.70 to close at $32.18, a 10-year high.

Many oil analysts are still bullish on the service side of the oil industry due to the high likelihood of oil remaining at levels that encourage new exploration and production. Oil-service stocks sometimes tend to trade along with the price of oil, but the fact is that as long as oil is economic to produce, around $18/bbl, drilling and other oil services will continue to be in high demand. Further, contracts for equipment in this industry are generally long-term (up to 5 years), thus providing excellent earnings visibility going forward, regardless of the subsequent swings in the price of oil. The Philadelphia Oil Service Index (OSX) is currently testing resistance at the 130 level, failing to surpass that level today, trading down 1.42 points to close at 128.99.

Semiconductors continued yesterday's torrid advance, helping to sustain the Nasdaq today. The Philadelphia Semiconductor Index (SOX) advanced 3.24% to close at 1060.52. Positive comments from Morgan Stanley analyst Mark Edelstone helped to support the SOX today. He claims that the semiconductor cycle is 18 to 24 months away from peaking and inventories remain low. The SOX has exhibited some strength in rallying off the lows following a double-top formation established during June and July. At 1060.52, the index is just below the trough of the double-top formation and this level should offer some resistance. Once this level is breached, the SOX could make a run back up towards 1200.

Retail stocks were punished today as recent profit warnings in the industry have weighed on the S&P Retail Index (RLX). J.C. Penney (JCP), continued the trend today, reporting second quarter profit 90% lower than prior year numbers and losing 1.44 points. Home Depot (HD) reported results that matched estimates, but sold off $5.50 to $53.5 as investors bought the rumor and sold the news. Top-line growth was a bit lower than investors had hoped. Slower spending on the consumer side is crimping sales at retail concerns across the country. Higher oil prices and a tremendous $627 billion in credit card debt have produced a more cautious American consumer.

Biotech stocks dropped further on legal fallout from patent disputes. Today the victim was Ivax Corp. (IVAX). IVAX shares had run up this year in anticipation of the company being approved to produce a generic version of the Bristol-Myers Squibb (BMY) cancer drug Taxol. IVAX shares fell almost 30% (-12.62) to close at $29.75, when it became apparent that the company faced additional litigation as a result of a competing patent issued to a privately held company, which in-turn, may be licensed by Bristol-Myers.

In other market news, IBM (IBM) -1.25, announced that it would bundle its computers with Red Hat software, a Linux based operating system. Red Hat (RHAT) +2.18, and Corel (CORL) +0.06, a linux software distributor, advanced on the news. In a related story, Red Hat also announced an initiative with Motorola to make Linux ready for telecom applications designed to run 24 hours a day. The LinuxWorld Conference opened today in San Jose and has generated some additional excitement over Linux possibilities.

In other deals, Motorola (MOT) +0.12 won a contract to become the primary supplier of broadband technology to AT&T (T) +0.25 and Nortel Networks (NT) +1.06 announced plans to acquire Sonoma Systems, a privately held maker of high-speed Internet access devices.

Boeing (BA) -2.25 also announced its intent to purchase Tribune Co's Jeppesen Sanderson unit for $1.5 billion. Jeppesen provides navigation data to airlines and pilots. The move is based in part on an effort by Boeing to diversify its income streams and reduce dependence on aircraft sales. Jeppesen had sales of $235 million last year and controlled 80% of their market. Boeing forecasts the aviation services business to grow to $2.6 trillion over the next twenty years, more than the current $1.5 trillion airplane market. Time will tell.

The market absorbed just under $150 million worth of IPO's today. The big performer was Dyax (DYAX), a biopharmaceutical company that has developed and patented phage display technology, which presumably has something to do with bacteria and possible therapeutic applications. The stock surged from its IPO price of $15, traded as high as $29.50 before closing at $25.75.

The technology market is clearly in need of a catalyst to convince investors to place bets on the NASDAQ. Until now, we have seen investors transfer money to more established blue-chip stocks. With the focus off the Fed, for the time being at least, third quarter earnings will most likely be the spark the market is waiting for. Until that time, I would expect a continued range-bound trading environment for the Nasdaq.

Good luck and trade wisely.

Chris Pikul
Assistant Editor