Uncle, Uncle

With new reports out today indicating that this market has seen enough pain, the Fed still has the market's arm twisted behind its back. We give in, we give in! It is time for the Fed to loosen its tight grip upon stocks and the economy.

Some have prognosticated that this market may turn around after we get a president elect (myself included). It is becoming more evident in the past few sessions that this market has its mind on other issues, of which slowing earnings is on the top of the list.

The big picture looks fuzzy right now, with the 6 previous rate hikes clouding analyst's views of future earnings. Analysts' views are hazy because they are getting vague answers to their questions directed to CFOs, COOs and CEOs. Companies are having a tough time predicting demand for their products in an environment of broad capital spending reductions. Heck, it's hard enough in good times to predict how many semiconductor chips you are going to sell, let alone in times of uncertainty. When analysts can't back up their estimates with actual numbers from the companies they cover, out come the downgrades and the earnings revisions.

When you are driving in fog do you speed up? No. You move forward cautiously, tapping the brakes along the way to control your speed. That is exactly what companies are now doing with production. Nobody wants to be holding a warehouse full of inventory that is collecting dust. It is expensive and risky. It is risky because over a period of a few months, consumers may be demanding a newer, better semiconductor chip. The result is that the semi-maker has to get rid of inventory that won't sell by slashing prices.

I offer you this elementary economic overview only to shed some light on a growing, frustrating situation within the sectors that we have grown to love over the past few years. Tech will be back when rates come down (hopefully in the first quarter of 2001) and the earnings picture becomes clearer.

Having said all this, a prime example of the above mentioned dynamics at work was today's downgrade of Novellus Systems (NVLS) by Prudential. The stock fell $4.75, or 14.39%, to $28.25 on the news. Prudential actually maintained its "strong-buy" rating on the stock but lowered its 12-month price target to $55 from $85 sighting slower growth. Prudential even went so far as to say that they would be building positions in NVLS during downturns in the stock. Iguess they bought a boatload today.

Tuesday's Happenings:

Well, we did it again. We set another closing low in the NASDAQ (COMPX). The COMPX plummeted 145.51, or 5.05% to close at 2734.98. Traders are still using any rally to sell shares. After trying to get above water in the early going, the COMPX rolled over and only attempted one more go of it before closing at its lows of the day. Volume was a respectable 1.9 billion shares and decliners trounced advancers 2937 to 1079.

The DOW (INDU) fared a little better but couldn't hold on to early gains. The index closed down 3849, or 0.36%, to 10507.58. Microsoft (MSFT) led the index lower as Salomon Smith Barney said it was concerned that expectations for 17- 18% growth for MSFT this quarter may be too aggressive. MSFT fell $3.69, to $67.00. J.P. Morgan (JPM) also faltered, losing $3.63, to $140.50. JPM had started the day on a positive note after the economic reports this morning appeared to bode well for financials.

Today's economic data was comprised of the Durable Goods and Consumer Confidence reports. Both showed signs of cooling within the economy. Durable goods for the month of October fell a greater than expected 5.5%. Expectations were for a drop of 1.3%.

There were mixed feelings about this report circulating today. On one hand, this report could just be a reflection of inventory build up that occurred earlier in the year, when sales projections were still robust. On the other hand, some analysts were trumping their views that this report reflects a slow down in capital spending, especially among small companies. The currency argument also surfaced among the analysis if this report. With weaker currencies among our trading partners, the big-ticket items (represented within the durable goods report) become too expensive for European and Japanese consumers.

The Consumer Confidence report came in with a reading of 135.5, the lowest level in 13 months. According to Lynn Franco, head of the consumer board, much of the report can be attributed to the uncertainty in the election. The report indicates that consumers have cut back on their spending plans.

Treasuries ended mixed today, with the benchmark 10-year bond adding 2/32 to yield 5.61% and the 30-year note shedding 3/32 to yield 5.70%.

Stocks and Sectors On the Move:

The theme of the day was again safety plays. Folks still want to be in the market but don't want to touch anything having to do with high tech. Defensive sectors are still seeing their bull runs continue.

Among the defensive sectors, drug stocks did well today. The pharmaceutical index (DRG.X) posted a new high, closing up 2.02 to finish at 440.95. Within the sector, the stocks breaking-out and or making new highs today included Merck (MRK), up $1.00 to $92.63, Schering-Plough (SGP), up $1.06 to $55.44, Johnson and Johnson (JNJ) up $2.75 to $100.13 and Abbott Labs (ABT) up $1.75 to $54.75.

Insurance stocks, also traditionally a safety play, outperformed on the day. The Insurance Index (IUX.X) is bouncing off its 50-dma and is showing signs of strength again. Within the sector, some stocks bouncing off levels of support include American General (AGC), up $1.94 to $75.06, American International (AIG), up $1.00 to $93.69 and St. Paul (SPC), up $1.13 to $49.94.

On the down side were the semiconductors, in part due to the aforementioned Novellus downgrade. The Semiconductor Index (SOX.X) lost 8.1% on the day, notching a new yearly low. Some semi stocks looked like they were going to duck the downdraft, only to get caught in the selling frenzy late in the day. One of these stocks was Xilinx (XLNX), which started the day in rally mode after SG Cowan and Merrill Lynch came to its rescue. The brokerage houses indicated that XLNX is "genuinely cheap" at these levels. Altera (ALTR) also started the day in the plus column, only to get pummeled later in the day as Merrill came out with cautionary words on the stock's inventory levels. ALTR lost $1.41, or 5.15%, to $25.91 on the day.

The Software Index (GSO.X) also set a new yearly low, closing down 23.69 to 301.37. Leading the index lower were shares of Peoplesoft (PSFT). Peoplesoft broke through its 50-dma and closed down $2.41, or 6.05%, to $37.34. PSFT has been one of the last remaining high flyers. Shares of Oracle (ORCL) also continued their slide, slipping away by $0.47, to close at $22.66. The stock is now down about 18% on the year.

The Morgan Stanley High Tech Index (MSH.X) is a broader measure of the highest capitalized tech stocks within 6 sub sectors of the tech industry. The MSH.X, like the NASDAQ has hit a new low, but unlike the NASDAQ, will not run into support for quite some time (see chart below). Stocks that make up this index include Microsoft, Sun Microsystems, Cisco, Applied Materials, Texas Instruments, Xilinx and Intel. These are the heavy-hitters that need to rally if we are to see any noticeable gains in the COMPX.

Looking Forward, Always Forward:

As in my last commentary of last week, buying into the defensive sectors looks to be the way to go until we see some action out of the Fed or some serious improvement in the NASDAQ. Sectors like the drugs, banks/brokers (provided we get more favorable economic numbers) and the healthcare sectors continue to outperform. These stocks, for the most part, are coming out consolidation ranges, so it should be some time before we see another bubble build up within these sectors. The banks look to be the least extended right now, but be careful, as these stocks are trading in anticipation of an interest rate cut early next year.

Speaking of the Fed changing its outlook, much of the ammo that will work to persuade the Fed to cut rates comes out this week. Watch for Q3 GDP figures out tomorrow, with expectations of a gain of 2.5%. Thursday is a big day for reports, with Personal Income for October (expected to have risen .2%), and Initial Jobless Claims, both due out before the market.

As mentioned, there are some warning signals out there in tech-land that are now clearer than ever. The Morgan Stanley High Tech Index does not find support until the 640 level. This may mean more pain for the large cap techs, which in turn means more pain for the NASDAQ, as the index is market cap weighted.

There are also some bearish wedges forming among the like of Texas Instruments (TXN) and Cisco (CSCO). The wedge pattern is generally bullish except when it is formed within a down- trend. Within a downtrend, the probability of the stock violating the bottom of the triangle becomes higher.

Although the risk/reward scenario in the tech sector does not currently look appetizing, there are plenty of other defensive sectors to snack on right here and right now. As mentioned, the drug sector is seeing plenty of money-flow into pharmaceuticals like Merck and Schering-Plough.

Until the market tells us otherwise, the best offense is to get into the defensive stocks. Keep your watch list handy and go with what is currently working. Time your entry points into some of these high flying defensive stocks on oversold conditions signaled by the stochastics, or on breakouts such as the one illustrated above in SGP. Keep you stops in place and take a hard look at what you are willing to risk on the down side, in order to lock in the gains you are aiming to take in a stock.

Trade Smart!