Mini-Rally Continues

Absent a reason to sell, stocks continued to meander higher Thursday. Gains were lead by the technology sector, with some buying spilling over into slow-growth areas. Although the trading ranges remain tight, stocks are following an uptrend on most major indices.

There was very little news to move the markets, but a boost from the July Durable Goods report did get things off on the right track. Durable Orders came in at a 12.4% decline, which exceeded estimates of a 6% decline. Traders liked the news, because the overall number was anti-inflationary and the major component of the slide was in aircraft orders, which is not a sector that traders are overly concerned about.

The NASDAQ Composite (COMPX) closed over the 4000 level for a second consecutive day. For all the talk about the significance of the 200-day moving average (now at 3967), the Nasdag composite has yet to really perk up now that the index is trading above it for the first time since late July. Buying did pick up with slightly higher volume than the recent average, but it wasn't the kind of wild enthusiasm that meets a convincing break above resistance.

So why aren't investors jumping in headlong? Maybe traders are contemplating the risk/reward scenario at this point. The leading industries that have moved us to this point may be a little overextended. Semiconductors, Fiber Optics and Financials have come a long way since early August, with Fiber looking a little top heavy. Fortunately the Internet and Biotech stocks seem to be picking up the slack. If they can carry the weight and give the other sectors time to consolidate, in other words, if the rally can broaden out, then the upward move may continue for a while longer.

Last Thursday I was calling for a sell on the news event following the FOMC meeting - turns out I was more wrong then right. Although some selling did develop, we are still up 136 points on the INDU and 123 points on the COMPX this week. Those aren't huge gains, but stocks are moving forward nonetheless.

Right now I'm in a quandary about just how far we can move in this current rally without taking a breather. I do believe we are in a definite "buy the dips" period though, with some traders accumulating positions in anticipation of a fall rally and others licking their chops for a pullback and a chance to buy lower. So, with that in mind, I made a list of the bullish/bearish indicators that I'm looking at. We'll discuss them in my Looking Forward segment after we wrap up Thursday's action.

Thursday's Data:

The Nasdaq Composite traded in a tidy, 51-point spread between 4004 and 4055. The intraday trend was sideways until the last two hours of trading, which turned solidly higher, with the index closing at 4053, very near the day's high. The net change of +42 points came on 1.5 billion shares, which is better than the recent average. Advancers beat decliners 22 to 17.

The Dow Industrials moved within a 78-point range, topping out at 11197, just below resistance at 11200. Closing at 11186, the INDU gained 38 points on the day. Volume was light at 821 billion shares. Breadth finished nearly even at 14 to 14.

On the broader measure, the S&P 500 index managed to stay above the 1500 level, closing at 1508, a 2 point gain.

Bond traders pushed notes higher following the Durable Goods report. The ten-year note gained 8/32 to yield 5.73%. The upward trend in bond prices has pushed the yield down to levels not seen since August of 1999.

Stock and Sector News:

Biotechs are Back! They were Thursday at least. You never quite know were they are headed because they truly are the most speculative sector in the market. Today, Robertson Stephens upgraded Human Genome Sciences (HGSI) based upon valuation. They like the risk/reward scenario based upon the recent slide in the Biotech Index (BTK). What's good for one is good for all, so while HGSI gained 20.81 points, the Biotech index gained 6.85%.

Oil stocks offered a sacrifice to the market gods today. The Amex Oil Index was off sharply (XOI -2.74%) after Morgan Stanley Dean Witter downgraded the group on valuation concerns.

Two tech indexes that are late to the party are Internets and Software. Internets are showing signs of life. Wednesday's sharp move higher was followed by another decent Thursday move. The Amex Internet index (IIX) gained 1.94% Thursday, to close at 548. The upside potential for this index is good in a risk/reward scenario. Software was strong, up 2.3%.

Semiconductors (SOX) gained 0.55%. They seem to have reached a level of consolidation, but some upside potential remains to 1200. If that level can be beaten, then 1300 is the target, which would be the resistance from the July highs. The index is up 32% from the August 3rd low of 880.

In individual issues, today's big loser was Next Level Communications, (NXTV) off 49.81 points or 54%. Lehman Brothers says that Qwest (Q), which acquired US West, is unlikely to deploy the VDSL product from NXTV, as formerly planned by US West. Problem is, US West accounted for 67% of NXTV's sales during the most recent quarter. OUCH!

Earnings news that came out after the market included Sycamore Systems, (SCMR), Crossroads Systems (CRDS), and Puma Technology (PUMA). SCMR beat estimates, but was trading lower because revenue was slightly less than spectacular (that's what it takes to meet par in the fiber/networking group). CRDS tumbled when revenues came in lower on a sequential basis. PUMA was off $3.00 after hours, but beat EPS estimates by 3 cents.

Looking Forward:

No big earnings news is expected for Friday. On the economic front, the GDP report and existing home sales are scheduled. Next week is chock full of economic news and that's important because investors are beginning to wonder if our economy is slowing much too quickly. The biggies next week are New Home Sales and Consumer Confidence on Tuesday, Labor reports come out on Friday.

Ok, to my list of bullish and bearish sentiment. I am looking at a number of indicators that appear to be pointing up and just about as many that point down.

Short term bullish:

• MACD is in a strong uptrend (both INDU and COMPX).
• September is normally a good month for the market.
• The end of the month and beginning to the next is normally strong.
• The COMPX is now over the 200-dma, the INDU is holding above 11,000.
• Trend is our friend - and the trend is up.
• Investors may be thinking 'accumulate before the fall rally'.
• The leading tech sector - the Semiconductors, are back in favor and the recent book to bill ratio report was strong.
• Financials remain strong - indicating overall health of economy.
• Internet stocks seem to have formed a bottom and turned up (for now).
• Economic reports remain friendly to the market.

Short Term Bearish:

• The Stochastics indicator is pegged at overbought.
• Wilder RSI is nearing levels that corresponded with temporary tops in recent INDU and COMPX trading.
• Volume has not supported the rally.
• The Volatility Index or VIX, is a contrarian indicator and is still dangerously low at 19.10.
• Upside vs. Downside - at least on a short-term basis, some of the hottest sectors - i.e. fiber stocks are looking somewhat pricey.

Given all these factors, I am thinking more bullish than bearish. If the market does turn bearish, traders are likely to jump on the chance to "buy the dips".

One last thought before I go. This one is of a longer-term nature. Most participants are expecting a fall rally. I'm one of them. Statistically speaking, history does favor a rally in the fourth and first quarters.

But here's the catch. An interesting development has occurred in the S&P 500 futures markets that appears to be bearish for the long term. The Chicago Board of Trade compiles the Commitment of Traders report every two weeks, showing the net positions of small speculators, large specs and commercial traders. The COT report is a long-term indicator - the timeline here is months, not tomorrow or next week. The commercial traders are often thought of as a leading indicator of future market direction.

Beginning in late May and running through to the latest report as of August 11th, the commercial traders had accumulated a huge net short position on the S&P 500 futures contract. In fact, the commercials are more net short than at any time during the past ten years. The next report comes out Friday. If they don't begin to cover their short positions in the next report, does it mean that the market is doomed? Not necessarily, the large commercials aren't always right, but it's something to consider if you are contemplating buying high and hoping to sell higher. If they are right, maybe you'll have another opportunity to pick up that hot stock you might have missed during the last rally.

Good Luck!
Steve Pekarek
Editor