Tuesday, July 10, 2007

Inflation Takes a Back Seat

On Tuesday, a relaxed Ben Bernanke shared the latest, cutting-edge thinking on inflation, but jittery investors had other things on their minds.

Like selling.

The NASDAQ gave back almost four days of gains in 6 1/2 hours on Tuesday, and a whopping 20% pickup in volume showed that the sellers meant business.

Everything from uninspiring earnings to retail warnings were blamed for the tumble. However, the action in financials and bond yields was a tell that numbskull lending practices were the real reason for the carnage.

This wasn't a day to own stocks with "Bancorp", "Group" or "Holdings" in the name. Debt is being marked down on a massive scale, and dumb moves by smart people are finally receiving the credit they deserve. As vast wealth is destroyed before our eyes, remember that ginormous opportunity is being created at the same time.

The pros leave clues to these opportunities every day. While Tuesday's selling touched every sector, stocks outside of the financial, housing and consumer areas held up OK. In a familiar pattern, technology was a standout. While the SPX tumbled 1.4%, the NDX shed just 0.9%, and the pure-play Tech Index slipped just 0.7%.

Leading stocks showed no special selling urgency either. The IBD100 fell 1.7% -- less than the RUT -- and while 87 of 100 stocks closed lower, just 19 stocks printed distribution days. If leading stocks are any indication, profit-taking -- not panic -- drove the broader market lower on Tuesday. Institutional investors remain convinced that stocks with the very best fundamentals will continue to produce earnings, even in this environment.

While the financially-laden blue chips are a portrait of misery tonight, the NASDAQ is technically in much better shape. The NDX is even more so. The Composite has closed below the trendline exactly once in four months, but the real danger lies below the 50-day. Based on current market behavior, the bears have a lot of work to do before that boundary is crossed.

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While it's very fashionable to turn to QID at moments like this, the strength in technology stocks has actually made QID a poor investment choice.

The chart below compares several popular inverse ETF's since the blue chips peaked on June 1. Unsurprisingly, Real Estate (SRS) and Financials (SKF) are the clear winners, with 18.2% and 12.9% gains respectively. Among the indexes, MZZ -- not QID -- has actually posted the best return.

If you're having problems with QID, there's a reason: QID is the worst performing inverse index ETF of them all, down 3.7% over the past 27 sessions. Think about it: technology is showing leadership, while financials and real estate are falling apart. To get the maximum bang for your buck, consider targeting market weakness with the inverse sector ETF's. Here's a link to the complete ProShares list.

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The trademark characteristic of the bond market is stability. However, yield charts show that ever since the Bear Stearns news hit the tape in early June, the credit markets have been anything but stable.

The series of wild, spastic gaps in the chart below is sickening evidence that Wall Street actually has no idea how extensive the subprime problem really is. Opinion is all over the map, and it changes every day. Traditionally, times like these see yields driven lower by a flight to quality. However, in this situation, all bets are off, as the precise location of "quality" is under discussion.

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As gut-wrenching as selloffs can be, they also clarify the market's profile. For now, companies generating the strongest sales+earnings are still coveted by institutional investors. This is a very good sign, and until it changes, the market will eventually resume moving higher.

The best generic advice is simply to adjust your risk profile until it feels comfortable to you. Also, this is a risky environment to hold stocks experiencing high-volume selling.

The rest of the week should be filled with surprises, so until tomorrow, have a great evening.




HeadlineCharts said...

Hi, I discovered your blog a few weeks ago, and just wanted to mention how terrific your analysis of the market has been.

dk said...

Thanks, headline. Glad you've been stopping by.