I woke up this morning thinking that the financials have had their run. The ProShares Ultra Financial ETF (UYG) has moved up about 20% from its recent bottom over the course of just a couple of weeks.
With the Fed decision looming, I thought it best to take profits. If the Fed only cut by 25 bps or didn't cut at all, I thought financials, and probably the rest of the market, would plunge. On the other hand, with a 50 bp cut widely expected, I felt there wouldn't be that much upside. Especially as it may signal that the economy is in worse condition than many thought.
In any case, after the Fed announcement, investors will be getting back to focusing on the economy and the financial state of those stocks making up the sector. And that may not be a good thing.
In terms of the economy, there are so many mixed signals that one can't be blamed for taking a cautious stance.
In terms of the financial companies themselves, most of the major names have reported earnings already. The announcements were dismal at best and guidance amounted to putting good spin on what is expected to be a tough year. The financials are being fingered as the sector acting as a drag on the entire market as their negative earnings growth lowers the aggregate earnings growth of the whole S&P 500.
Some of the developments that set off the recent rally are starting to come under scrutiny and found to be maybe not as timely or as effective as had been hoped. Bailing out the bond insurers now appears to be no sure thing and more complicated and expensive than originally thought. It is now clear that the economic stimulus package will not actually put money in consumers hands until May. That means it will be months before any beneficial effects are felt and there are many economists who feel that the effects will be minimal anyway.
Now we have the FBI investigating mortgage originators and securitizers. Still more shoes dropping in the form of writedowns, with UBS the latest example. Loan loss reserves ratcheting up at most companies portend more defaults and delinquencies on loan portfolios. With the credit card and auto loan segments in focus now it appears that the problem is spreading beyond mortgages. And there are noises starting to be heard about commercial real estate lending beginning to encounter problems.
So I sold UYG in the morning at $38.53 for about a 12% profit. When the market jumped at 2:15 when the Fed released their announcement, I decided to buy some SKF, the ProShares UltraShort Financial ETF. After hitting an intra-day high of $104.69 earlier in the day, SKF dropped like a rock and I picked up a few shares at $97.66, what I would estimate to be a reasonable price and just above the next support level. With SKF finally closing the trading day at $102.70, it so far looks like a good move.
We'll soon see if I have been too clever by half in this trade.
Wednesday, January 30, 2008
I woke up this morning thinking that the financials have had their run. The ProShares Ultra Financial ETF (UYG) has moved up about 20% from its recent bottom over the course of just a couple of weeks.
Tuesday, January 29, 2008
Graham Corporation (GHM) is a company located almost in my backyard, so to speak, so it was with interest that I reviewed their third quarter earnings announcement this morning.
Graham is a small-cap company in the industrial sector. They are an equipment manufacturer for the oil refinery, petrochemical, power generation, fertilizer and pharmaceutical industries, etc. Its products include steam jet ejector vacuum systems; surface condensers for steam turbines; vacuum pumps and compressors and various types of heat exchangers.
The numbers --
Sales were up $6 million over the previous year's quarter but down $3 million sequentially. Net income for the third quarter was $3.8 million, or $0.74 earnings per diluted share, compared with $666 thousand, or $0.14 earnings per diluted share, in the prior year's third quarter. On a sequential basis, earnings were down $600 thousand compared to the previous quarter.
Domestic sales were 52% of total sales for the third quarter of fiscal 2008 compared with 61% in the same period the prior fiscal year. The company seems to be benefiting from the weak dollar and robust exports.
Sales for the first nine months of fiscal 2008 were $63.7 million, up 41% compared with $45.0 million in the first nine months of fiscal 2007. Gross profit margin for the first nine months of fiscal 2008 was 40% compared with 24% for the first nine months of the prior fiscal year.
Looking ahead --
Orders for the first nine months of fiscal 2008 were up 21% compared with the first nine months of fiscal 2007. Backlog was at a record level, up 32% as of the end of 2007 as compared to year-end 2006.
Management addressed the issue of sequential performance appearing to be weakening by emphasizing that timing of order acceptance can significantly impact any particular reporting period; hence, a sequential dip does not necessarily imply a bad trend developing.
Mr. James R. Lines, President and CEO, reassured investors, saying:
"We believe there are no fundamental changes in the global near-term outlook in the refining and petrochemical sectors.”
So far, everything sounds pretty good. But the stock fell almost 14% today, closing at $30. What gives?
Mr. Lines also had this to say:
“It is important to note that capacity constraints at the engineering contractors and end users, which includes skilled human resource limitations, combined with cost creep, are extending the planning and execution cycle for many projects which in turn has impacted the pace of projects and procurement patterns.
Additionally, there has been a step-up in foreign competition in our core markets which in turn may result in more competitive bid processes and lower margin potential. We continue to guide expectations for sustained gross margins to be in the mid-30% range in the next fiscal year, which incorporates the change in mix and increased competition in the market offset by productivity enhancements."
The result --
Ah, a cautious note. An acknowledgment, really, that the business environment will be tough and the company, though it is well positioned to grow, could just as easily end up with flat results. Given the skittishness of the markets these days, that's all it took to sink the stock and confirm a very bearish chart (see below).
As can be seen, the stock dipped below an important support level at $40 but managed to climb back above that level. Yesterday's and today's price action, however, have driven GHM below the support and below its 200-day moving average. Things are looking pretty ugly now.
I would like to be able to recommend the local boys but with a chart like this, it will be best to avoid Graham Corp. for the time being.
Sources: Press Release
Disclosure: author owns no shares of GHM
Sunday, January 27, 2008
I have been neglecting this blog lately and barely paying attention to the markets. Rest assured, though, I haven't been slacking.
I have been working on a new approach for using the TradeRadar software. I have developed a method of scanning practically the whole stock market and applying an automated version of the TradeRadar signal software. The tests involved have been beefed up and made more rigorous. Given that the process is automated, there is less left to interpretation.
How it works
I scan the AMEX, the NYSE and the NASDAQ. That amounts to over 8500 securities including stocks, ETFs and closed end funds. The most up-to-date list of symbols for each exchange is read in. Then the software sequences through each symbol in each exchange, pulling in a year's worth of daily data and looking for recent trend reversals. In addition to the basic TradeRadar signal, trend lines are calculated and analyzed for direction (up or down) and steepness of the angle. To help confirm the BUY or SELL decision, the shape of the TradeRadar signal is analyzed. 20-day and 50-day exponential moving averages are calculated and a moving average cross-over is required in order to declare a BUY or SELL.
If you would like to check out the lists of alerts generated by this process, visit the TradeRadar Alert HQ page. I am offering the lists for a really low introductory price of $1.99 for either a list of BUY alerts or SELL alerts and $2.99 for both together. Payment is made securely through PayPal. I invite you to give Alert HQ a try. The BUY list has almost 70 stocks on it and the SELL list has nearly 130. At these prices, it's only about a penny per alert. Not a bad deal, if I do say so myself.
In taking a high level look at the list of stocks and ETFs that showed up on the BUY list, I was surprised to find so many municipal bond funds. It appears that over the last three or four weeks, there has been a search for yield and munis have been the beneficiaries. (You may remember a post I wrote describing Merrill Lynch's call that munis were attractive at recent levels.) With these funds bottoming and turning up, it implies that there is little fear of municipal bonds defaulting or municipal bond insurers failing.
Among ETFs, it appears some investors are betting on oil and gas falling. With other investors bidding up crude prices over the last two trading days, we'll have to wait to see which forecast turns out to be right. With all the discussion of utilities being a safe place to hide in a down market, I was surprised to see an ultrashort utilities ETF generating a BUY signal.
It's no surprise to see consumer discretionary and some banks and brokerages on the SELL list. In general, it can be said that the SELL signals are well distributed across sectors. There are energy companies, tech stocks, pharmaceutical, biotech, telecom, industrials, you name it. There is a generous sprinkling of well-known defensive names also. It seems this market is an equal opportunity bear.
As another indicator of the tone of the markets these days, the SELL list has about twice as many stocks on it as the BUY list.
Wednesday, January 23, 2008
It was a gut feeling as much as anything, but it seemed to me that financial stocks were ready for a bit of a resurgence. Watching the UltraShort Financial ETF (SKF) jump and then proceed to plunge on Tuesday was the first tipoff. Seeing that behavior begin to repeat Wednesday morning convinced me that perhaps financials were ready to make a real move up.
Since I had no idea whether this would be a sustained move or not, I elected to open just a small position in the ProShares Ultra Financial ETF (UYG) in mid-morning. It was then a pleasant surprise to see the hard-charging financials lead the market upward in the late afternoon on news that New York State's insurance regulator was encouraging banks to support bond insurers. Combined with Tuesday's surprise rate cut and another rate cut expected when the Fed meets next week, it does seem like a few factors are now falling in line to support the financials after their long decent from their peak last summer.
Having gotten in at $34.11 and watching UYG close at $36.94 today, I am enjoying seeing the ETF up over 8% already. It remains to be seen, however, whether this move can last.
Sunday, January 20, 2008
The financials killed us again this week with Washington Mutual, Citigroup and Merrill Lynch announcing massive losses. This was accompanied by more gyrations among the bond insurers. Based on write-offs by Merrill and others, analysts figure most of ACA's guarantees for CDOs are close to worthless. Ambac and MBIA are flailing about in tatters with ratings agencies seemingly lowering their credit ratings every week.
It was a standoff in tech with bellwether Intel coming in light on fourth quarter earnings and providing cautious forward guidance offset by IBM beating analyst expectations in both Q4 and 2008 projections. AMD surpised by meeting their projections for 4Q07 but still reported a large loss. They are by no means out of the woods yet.
Despite generally positive results from GE, manufacturing took it on the chin when the Philadelphia Fed's reading on regional manufacturing activity came in stunningly below expections.
After all this, I expected a rally on Friday based on the over-sold nature of the market and IBM's results but down we went again to leave the Dow and NASDAQ down 4% on the week and the S&P 500 down a whopping 5.4%.
What's next? Most of the big financials have reported already so the worst may be behind us in terms of 4Q07 earnings news. Energy stocks may disappoint as oil prices, which have been erratic lately, seem stuck in trading range. Still, investors continue to worry about the next shoe to fall in the financial sector and what ripple effects it will have on the economy as a whole.
With investors looking with trepidation at the remainder of 2008, last quarter's earnings may not carry much weight. Markets will be watching the guidance provided by reporting companies and stocks are likely to rally or falter based on how optimistic management teams are.
Comments on the TradeRadar portfolio
I have been watching the iShares FTSE/Xinhua China 25 ETF (FXI) and on Thursday it finally broke down out of its wedge-shaped chart pattern. This brings it right down to its 200-day moving average. On Friday, FXI bounced off the 200-day MA but was unable to penetrate the resistance level that was previously the lower boundary of the wedge. There was a report this weekend that a central bank official in China was quoted as saying that if US consumption comes down significantly it will have a serious impact on Chinese exports. This throws more doubt on the "decoupling" concept. I assume FXI is primed for more weakness unless there is a significant and sustained rally in US markets. Accordingly, I maintain my position in FXP, the ProShares UltraShort FTSE/Xinhua China 25 ETF. And, yes, we are again showing a profit in this position.
With the S&P 500 down 5.4% this past week, we saw a nice gain in the ProShares UltraShort S&P ETF (SDS). The chart for the S&P 500 looks horrible, it has been dropping practically straight down, so I think it will need to establish a bottom before it can begin to move up. Accordingly, it seems safe to continue to hold SDS.
I track the SPDR Technology ETF (XLK). This week it got a boost from IBM's pre-announcement but quickly resumed its recent downtrend. Our position in the ProShares UltraShort Technology ETF (REW) continues to grow. Tech seems more mixed than ever with results varying all over the board. With the negative sentiment in the markets and the unpredictability of techs we will continue to hold REW and keep a close watch on it.
We still keep a small position in Generex Biotechnology (GNBT). As it drooped down to this week's closing price of $1.42, it is approaching our stop at $1.34. If markets keep up their dismal behavior we may finally end up closing this long-held position.
As for the PowerShares DB Oil ETF (DBO), it seems trapped in a horizontal channel; however, it is sitting at the bottom of the channel at $32.83 as of the close Friday. Another serious drop in the price of crude and we could see DBO hitting our stop at $32. That would signal a potential drop into the $28 to $30 range.
As can be seen, the portfolio is mostly bearish. Sad to say, this negative period in the markets has turned out to be reasonably profitable for the TradeRadar portfolio.
Friday, January 18, 2008
Most of the posts I and other financial bloggers write are typically focused on individual stocks or ETFs and managing active portfolios.
For those folks who are more conservative investors, those whose main investment vehicle is a 401K, for example, the techniques for portfolio management might be a little different.
The news of stock markets falling and pundits predicting recession is disconcerting to professional investors as well as to those of us who are watching our balances in an IRA or 401K sag.
What approach should the average 401K investor take?
Let's assume that the investor is contributing on a regular basis to one of these retirement accounts. There are two questions that the investor needs to ask:
1. Should I stop putting the regular contribution into stocks?
My feeling is that investors making regular contributions are being handed a present by the markets. Every week the market goes down, these investors are lowering their average cost. When markets recover, as they eventually will, the equities bought as the market was going down will suddenly look like bargains.
My advice, then, is to keep on contributing regularly and be sure that a good percentage of those contributions are going into stocks, not stable value funds.
2. Should I sell a large portion of the stocks or mutual funds already in the portfolio?
Those 401K investors who have access to a stable value fund should take advantage of it now. A stable value fund guarantees principal and pays a modest interest rate. In these times of falling interest rates on treasury bonds, getting the risk-free 4% or so that stable value funds pay is not a bad deal.
If a bear market is underway, it is a good idea to lighten up on stocks. So I would suggest putting up to 50% of the portfolio into a stable value fund but certainly no more than 50%. This percentage allows an investor to preserve capital and sidestep some of the gyrations we are seeing in the markets these days. But an investor needs to leave a reasonable amount of stock in the portfolio in order to take advantage of the rally that will eventually signal the end of what today looks suspiciously like a bear market. Many studies contend that powerful rallies after major downtrends account for a large part of portfolio gains. For this reason, the investor needs to keep a sizable portion of stocks in the game.
In terms of deciding what to sell, the investor may want to trim each individual position rather than totally liquidate some and keep the rest intact. This decision depends on whether the investor is happy with the current allocation or whether there are some clear under-performers that could be removed entirely from the portfolio.
When the up trend seems to be confirmed and market stability returns, an investor can begin to deploy some of the cash in the stable value fund back into stocks and mutual funds.
This may sound like market timing but it is simply a method to react to major turning points in markets. It is a strategy that can be done incrementally. Worried about the market? Park a little in the stable value fund. Still worried about the market? Park a little bit more in the stable value fund. Market going up and you are worried you are missing the rally? Move a little out of the stable value fund. And so on.
The goals of this strategy are twofold:
First, to smooth out some of the volatility you may derive from staying in stocks day in, day out. You will miss some of the upside of the initial bull market rally but you will have hopefully missed some of the losses of the bear market downdraft.
A second goal is to preserve capital in uncertain times. When markets do rebound, the portfolio won't have to make up so much lost ground just to get back to break-even.
And keep in mind, a stable value fund isn't dead money. Though a conservative investment, it generates interest and ensures that there will be at least some gains, more than likely enough to at least keep ahead of inflation.
So be careful and take the steps needed to ensure a healthy and prosperous retirement.
UPDATE: I received a comment that was vehemently in disagreement with my general thesis in this post about using a stable value fund for capital preservation. My response is that the funds seem to be quite conservative and shouldn't be too exposed to the current turmoil in credit and securitized mortgage markets. David Merkel, who writes for Real Money, has some thoughts on the subject ("Unstable Value Funds?") that seem to confirm my opinion. He also provides further detail on how the funds work in the event they do encounter trouble: ie, returns reduced, principal preserved.
In any case, thanks to Anonymous for the comment which got me thinking and doing further research.
For more on this topic, read Part Two.
Thursday, January 17, 2008
The other day IBM pre-announced their fourth quarter earnings. The NASDAQ and the entire tech sector jumped on the good news that was presented. Today after the close, they provided positive forward guidance, saying 2008 profit would rise in the neighborhood of 15% to 16%. This exceeded analyst expectations and gave the stock a nice bump up in after hours trading.
The positive outlook on 2008 may provide an excuse for a market-wide rally or at least a tech sector rally. But really, can it be said that IBM is a fair representation of the market or the entire tech sector?
I'll try to answer this question by reviewing IBM's business segments, organization, workforce and customer base.
Business Segments --
Looking at IBM's business segments, it can be seen that they offer far more coverage of the technology space that those of the typical tech company:
Global Services - this is the segment responsible for installing technology-based solutions at client companies. Within Global Services there are two reportable segments:
Global Technology Services - provides infrastructure services through the company's global scale, standardization and automation. It includes outsourcing services, Integrated Technology Services and Maintenance.
Global Business Services - provides professional services, delivering to clients solutions which leverage industry- and business-process expertise. It includes consulting, systems integration and Application Management Services.
Systems and Technology Group - provides IBM's clients with business solutions requiring advanced computing power and storage capabilities. Includes server and storage sales, semiconductor technology and products, packaging solutions and engineering technology services for clients and for IBM's own advanced technology needs.
Software - consists primarily of middleware and operating systems software. Sales can be based on a one-time charge or include arrangements that provide annual maintenance and licensing fees.
Global Financing - intended to generate a return on equity and to facilitate clients' acquisition of primarily IBM hardware, software and services. Supports direct sales via loans and leasing to end users and internal clients, commercial financing for dealers and remarketers and selling and leasing of used equipment.
Companywide Organizations --
The following three companywide organizations play key roles in IBM's delivery of value to its clients:
- Sales & Distribution Organization and related sales channels
- Research, Development and Intellectual Property
- Integrated Supply Chain
Research, development and intellectual property - IBM annually spends approximately $6 billion for R&D. The company's investment in R&D was approximately 15 percent of its combined hardware and software revenue. R&D also results in intellectual property (IP) income of approximately $1 billion annually. Some of IBM's technological breakthroughs are used exclusively in IBM products, while others are licensed and may be used in either/both IBM products and/or the products of the company.
Integrated supply chain - IBM leverages its supply-chain expertise for clients through its supply-chain business transformation outsourcing service to optimize and help run clients' end-to-end supply-chain processes, from procurement to logistics.
IBM's workforce is represented in all geographic areas and totals approximately 360,000. India has shown the greatest growth in hiring, up 16,000 to approximately 52,000 employees by the end of 2006.
Customer base --
The majority of IBM's revenue, excluding the company's original equipment manufacturer (OEM) technology business, occurs in industries that are broadly grouped into six sectors:
- Financial Services: Banking, Financial Markets, Insurance
- Public: Education, Government, Healthcare, Life Sciences
- Industrial: Aerospace and Defense, Automotive, Chemical and Petroleum, Electronics
- Distribution: Consumer Products, Retail, Travel and Transportation
- Communications: Telecommunications, Media and Entertainment, Energy and Utilities
- Small and Medium Business: Mainly companies with less than 1,000 employees
IBM is just so big and diversified that there is little comparison between it and most other tech companies. Small-cap tech names, for example, a focused semiconductor company like RF Micro Devices (RFMD) or a modest software vendor like Concur Technologies (CNQR) are nowhere near in the same league. Even the large-cap tech names like SanDisk (SNDK) can't compare. IBM is a member of an elite group of companies like Cisco Systems (CSCO), Microsoft (MSFT), Oracle (ORCL) or Hewlett-Packard (HPQ).
IBM's wide international coverage and deep technological capabilities dwarf those of most tech companies. Not only do they have sales organizations worldwide but they have developers, consultants, R&D workers and supply chain workers in each geographic region. Their product mix runs from custom software to packaged enterprise software, hardware (mainframes and servers), semiconductors, databases, middleware technology, etc., etc. There are few tech companies that even attempt to support that many kinds and variations of products.
IBM's services business brings in billions in revenue. There are few tech companies that can compare in this area unless their main focus happens to be consulting and services, like EDS, for example.
As color on the fourth quarter earnings announcement, there are a couple of observations that I would like to make. The first one speaks to IBM's international prowess. The company indicated that growth in the Americas was only 5%. International sales were a primary driver of IBM's good results. As an insight on the difference between IBM and most other tech companies, it is clear that nowadays, a tech company that isn't adept at selling internationally is going to be in trouble. And buried in IBM's announcement was the admission that hardware sales had declined in the fourth quarter. What does that say for other hardware manufacturers?
So, bottomline, IBM's fourth quarter earnings were fine and their outlook for 2008 is quite positive. The whole stock market, being oversold, will probably rally again. My feeling, however, is the rally cannot be long-lived because, as this post demonstrates, IBM is not at all representative of the tech sector let alone the market in general.
Disclosure: author owns no shares of IBM
Wednesday, January 16, 2008
We saw a hint yesterday but today we got the confirmation. The iShares FTSE/Xinhua China 25 Index ETF (FXI) has been carving out a wedge-shaped chart pattern for weeks but it has now broken to downside.
On October 31, 2007, FXI established its peak closing price at $218.51. At today's closing price of $151.81 it is now down about 30%.
With huge gains in Chinese stocks over the prior year, China has been referred to as an equity bubble. For some months, however, it has appeared that Chinese stock markets were getting tired. On the charts, it could be seen that the price action in FXI has been increasingly compressed into the wedge mentioned above. As we got to the end of the wedge, expectations have grown for the ETF to finally break out one way or the other.
The situation may have been resolved today and it appears to have been resolved in favor of the bears. Two days with downward gaps have taken FXI from the top of the wedge to clearly below the bottom of the wedge. These moves have been accompanied by very volume. I suspect we will now see some congestion around $151 to $152. Traditional technical analysis would then indicate a drop down to the next support level in the $140 range (thick horizontal line). From there we could go all the way down to $120 (double horizontal line).
Assuredly, $120 would be close to a 50% drop. In a normal situation, that might seem excessive. If you buy into the "bubble" evaluation, then 50% might seem reasonable.
In a recent post titled "Expectations for China" I tried to identify whether the fundamentals were in place for a resurgence in Chinese equities or whether the bear case was justified. It seemed clear that the Chinese economy will remain strong. It has a growing domestic economy and it is quickly ramping up trade with other emerging markets; both developments will help insulate it from a US recession though perhaps not from a severe US recession. Still, with inflation growing and speculation rampant, the Chinese government has been trying to put the brakes on the economy. In other words, the economic picture is not exactly crystal clear.
With regard to stocks, however, there are two questions that must be answered. First, are Chinese stocks overvalued? Second, and more pertinent to the ETF FXI, do US investors think the basket of stocks underlying FXI is overvalued? I have noticed that FXI does not exactly track the performance of the Hang Seng or Shanghai indexes, for example. It often trades more in tandem with the S&P 500. It seems to reflect US investor attitudes toward the 25 Chinese stocks in the ETF in particular and the Chinese stock market in general. That attitude, however, seems to be strongly colored by whatever is currently going on in US markets. With the serious weakness in US markets in 2008, it is not surprising to see FXI break out to the down side.
Disclosure: author is short FXI via inverse ETF FXP
Tuesday, January 15, 2008
Intel announced their fourth quarter 2007 earnings after the close today. Here are the headline numbers:
2007 Operating Income $8.2 Billion, up 45 Percent
• Fourth-Quarter Revenue $10.7 Billion, up 10.5 Percent Year-over-Year
• Gross Margin 58 Percent, up 8.5 Points Year-over-Year
• Operating Income $3 Billion, up 105 Percent Year-over-Year
• Record Microprocessor and Chipset Units and Revenue
• Net Income $2.3 Billion; EPS 38 Cents
Sounds great. So why did the stock drop over 13% in after hours trading? Q1 is always seasonally weak but this year the company sees weakness somewhat beyond mere seasonality. Many investors are taking this as another sign of economic weakness, another bellwether stock throwing in the towel even as management contends that the company is still a growth story.
Below I have provided my quick notes from listening to the conference call. Take a look and you can decide whether Intel's guidance is a disaster or merely a modest slowdown while still in growth mode. I have captured phrases that seemed important but I have not provided precise quotes.
Highlights from the Business Overview
Margins improved from Q3
Server business had a great 4th quarter
Mobile unit growth continues to be very strong, records set in Q4. Lower price points consistent with consumer purchase capabilities; Intel will be able to supply products with reasonable margins to these price points as planned
Desktop processor shipments up 40% from Q3
All segments up yoy
Channel inventories healthy
NAND environment worse than anticipated, ASPs down
Flat ASP for microprocessors
yoy gross margins 8.5% better than 4Q06
The company continued to reduce spending as a percentage of revenue during Q4
Staffing is down 8% yoy
Sequential decline of 9% in revenue using mid-point of estimated ranges tho 10% increase yoy (my emphasis)
1Q08 margins improved over 4Q07 but lower processor unit sales are expected (my emphasis)
Highlights of the Q&A portion of the call
NAND environment hurt Q4, will hurt Q1. NOR also will be weak in Q1.
In CPU, inventory is lower than preferred but no unusual cancellations seen in Q4, things seem normal
Q4 very strong in Europe; so far in January no significant signs of slowdown in Europe or elsewhere.
What is keeping margins flat sequentially? unit shipments seasonally lower than expected in Q1 but lower costs and better product mix should be yielding better margins as year progresses.
Combination of small impacts for Q1 shortfall: macro situation, Marvell business reduction continuing as expected, NAND pricing, etc.
PC market outlook: expectation is for growth in low double digits.
No signs of double ordering
Shift toward mobility is a growth driver. Lower cost notebooks opens more markets. Servers showing no signs of diminishing.
Emerging markets: big part of revenue growth, hit record in Q4, expecting good year in China in 2008, especially with Olympics coming.
With respect to economic or tech slowdown in 2008 - Intel and its customers "just don't see it", the problem is focused on US markets but 75% of Intel revenue is not from the US. Still, Intel feels it is "prudent" to be "cautious". (my emphasis)
What products are coming:
• Low cost notebooks, more mobile devices, consumer devices
• more 45 nanometer products coming, 30 products already launched and shipping
• WiFi notebooks will be introduced
• new processor architecture will be introduced, code-named Halo
Intel is now under $20 per share in after hours trading. It has not been this low since the summer of 2006. Based on the conference call, do you think this is a company on the ropes? Management seems fairly confident that business is good yet they feel it is "prudent" to be "cautious" as they announce greater than normal seasonal weakness. Not exactly a ringing endorsement. Still, I don't think you can fault Intel management here; they don't exactly have a crystal ball. They are hostages to the macro environment and, though there are still signs of reasonable strength in the PC business, we could easily see weakness increase if the US enters a serious recession and emerging markets and Europe are affected.
Intel shares are down about 29% from their peak. This conference call will probably blast the tech sector again tomorrow. Still, this is a quality company, a clear leader in its sector and its stock has been marked down dramatically. After an initial period of volatility, a patient investor may want to start building a position in the stock as it vacillates in the teens.
Source: Intel Investor Relations - Earnings Results
Disclosure: author does not own any share of INTC
Sunday, January 13, 2008
I recently took a small position in the UltraShort FTSE/Xinhua China 25 ETF (FXP). This is the inverse fund corresponding to the FTSE/Xinhua China 25 ETF (FXI). After peaking in October, FXI has been moving down. It now appears to be forming a wedge-shaped chart pattern (see chart below). Price action on FXI has been narrowing as the ETF begins to get close to the point where the downtrend line meets the horizontal line. It has seemed like we are overdue to find out whether FXI was going break out to the bullish side or to the bearish side. On Thursday of this past week, it looked like the outcome had been resolved in favor of the bulls. Then on Friday, the ETF fell back inside the wedge. We remain waiting for the breakout.
Well, I'm no expert on China so I have been relying on the charts. What are others saying about the economic outlook in China?
According to academics from Wharton, China's economic situation is fairly positive though it is harder to predict the direction of stocks. Rather than focusing on the US impact on China, management professor Marshall W. Meyer feels that China's impact will be felt by the rest of the world.
He makes the point that China's huge demand for oil, metals and other commodities has pushed commodity prices up around the world. Now Chinese officials are taking significant steps to slow their economy to control inflation, Meyer says. That should stop the spike in commodity prices, but it also will likely cause a slowdown in growth worldwide in 2008. Referring to skyrocketing food prices, Meyer says that "the central government is adamant about restraining credit and, where they can, restraining prices, because the failure to do so creates social dynamite."
To stem inflation, Chinese officials have moved to tighten credit. Regional bank branches have been directed to assure that money is lent only to borrowers likely to pay it back. In addition, in a move meant to deflate the Chinese stock-market bubble, regulators have told Chinese mutual fund companies to stop buying Chinese stocks.
Meyer says that "the assumption has been that global growth will be driven by China and India." In addition, Meyer says he can't predict a recession in the U.S., "but I can see a slowdown in global growth because of the tightening in China."
Andy Xie, an independent economist and former managing director of Morgan Stanley's Asia/Pacific economics team, has a somewhat more positive outlook. He feels a US recession is a definite but in spite of that, the outlook for emerging markets remains robust.
Despite his positive outlook, Xie feels that China will see some challenges. Many analysts have discussed the vulnerability of China's export-led economy. "The Chinese are going to suffer," Xie predicts. "Whereas in the past, the U.S. used to absorb Chinese savings and products, it will now want to turn the tables and export to China. "It's going to be an enormous challenge for us. Next year is the first year of this new world."
What will save China, however, is increasing trade with other emerging markets. Xie notes that China's exports to the West are already winding down. He predicts a 10% to 15% growth rate in these exports over the next year compared to a growth rate of more than 20% in recent years. This trend is partly due to market saturation, he says, and partly due to the loss of some cost advantage to countries like Vietnam and Bangladesh.
Emerging market trade already accounts for half of China's trade growth, says Xie. These economies export precisely what China needs -- commodities such as oil, copper and iron ore. In return, they buy cheap Chinese-made consumer products and capital goods. "In the short term, this is going to be a huge cushion for China," says Xie. "Next year, exports will continue to grow."
Appreciation of the yuan has been much discussed in the financial press and has been something that has been encouraged by western governments. Scott Chu, Pioneer Funds' China representative, thinks it will have little impact on East-West trade. "When the yuan gradually appreciates, those low-margin, labor-intensive, heavily polluted and low-value-added industries will be forced out of China, and enterprises will start upgrading themselves into high-value-added businesses while also trying to improve their efficiency. That's why in recent months, you see that China's trade surplus number is actually going up instead of going down."
Chu also sees "real estate consumption... going up steadily. In short, China's consumption, exports and investments are all healthy, which suggests a 10% or above growth for 2008." Adds Xie: "My hunch is that next year is okay," but he cautions that it would be an altogether different story if the U.S. falls into a deep recession, with 2% or 3% negative growth for the year."
This is despite the central government's efforts to cool investment in real estate. Property prices will only fall when the U.S. dollar strengthens and liquidity starts to flow out of China, according to Xie.
What about Chinese stocks?
Touching on expectations for Chinese equities, Xie is upbeat. Following the subprime crisis, money that would have flowed to the U.S. will instead come to China, he predicts. "Wall Street financiers, ... are arming themselves with funds and taking aim at China... So the asset bubble you are seeing here is probably going to become bigger" next year.
Meanwhile, Chu, when asked whether the P/E ratio is too high for China's listed companies, notes that "in certain periods of emerging markets, concurring currency appreciation and excessive liquidity, it's common to see a high P/E ratio. You can't simply compare China to Japan, the U.S. or Hong Kong, since the capital flow in those mature markets is free and is looking for the lowest P/E ratios with the highest profit growth companies. But in China, it's a different story because the country has relatively tight regulation on foreign exchanges and there are limited choices for investment."
In general, he concludes, China's stock market is more expensive than those in the U.S. and Europe. But there is logic behind it. "First, it's an indicator of high growth... Some companies in China are in a monopoly position and therefore it's understandable to see high P/E ratios.
"From the perspective of demand," he continues, "you can see that with an inflation rate of 6% to 7%, the ordinary Chinese people are moving their bank deposits to the assets market. As long as the actual interest rate is negative and the yuan keeps appreciating, the money from both home and abroad to buy these assets will keep on growing, and growing fast."
Chu suggests taking a cautiously optimistic approach to China's A share market in 2008. "It will be very good if you have a return of between 10% and 30% next year. My view is that after the first quarter of 2008, the market will have a deep correction."
Meanwhile, in early December, China's government announced a "tougher" economic policy for 2008, which is a rare and significant change in its official stance. Chu says that the biggest risk for China now is inflation. "The actual inflation rate is far exceeding the official number of 6.7%. If inflation expands to a certain point, it will be a disaster for the whole economy and the stock market as well."
Zhou Qiren, an economics professor at Peking University, noted in a speech in Beijing in early December that the main challenge China's economy faces comes from its currency. "Excessive liquidity is reshaping the price level and pushing up all the [basic] costs." Adds Zhou: "It's unprecedented in the history of [mankind] that labor, information, technology and capital can be flowing freely and be re-organized around the globe. This forms the basis for a big transformation. China has experienced tremendous growth in the past three decades. But I see 2008 as a major turning point for its economy."
It seems that the experts see continued strong growth in China. "Decoupling" is more real than many of the US pessimists think. Trade with other emerging markets will support economic growth in China. A strengthening yuan could actually benefit China.
On the downside, inflation is becoming a serious issue among the populace. Food prices are soaring. Petroleum prices are rising and are being held in check by government decree. Prime Minister Wen Jiabao announced that China would freeze energy prices in the near term. Banks are seeing limits put on lending. The government is raising interest rates.
What does this all mean for Chinese stocks? It is difficult to say. Chinese stocks are clearly showing a rich valuation but, as described above, there are valid reasons for that. Others are saying that we are witnessing a bubble and that eventually the stocks will come back to earth. The experts are expecting a moderation in growth from a previously torrid rate but are wary of risks from domestic inflation and a potential severe recession in the US.
Will all this be sufficient to cause a breakdown in the FTSE/Xinhua China 25 ETF? I'm back to watching the charts.
Sources: What's Ahead for the Global Economy in 2008? Reports from the Knowledge@Wharton Network
Disclosure: author owns shares of FXP
Thursday, January 10, 2008
Markets have been up two days in a row now. The charts show that we are bouncing off a support level. Are the fundamentals in place to support a real rally? Or will we end up with another lower high?
It sometimes helps me to create a list of recent news items and try to interpret their impact on the markets and their meaning in terms of the economy. I look to see whether the evaluation changes anything in my current outlook or investment strategy. Does positive news outweigh negative news? Is the sun about to shine on the markets?
Herewith is a selection of recent news items I've been thinking about.
- WalMart reported an increase in same-store-sales but most other retailers didn't. Is this an indication that consumer spending is slowing down? That consumers can only afford to shop at bargain retailers?
- The Consumer Electronics Show has been going on in Las Vegas. It has been a complete bore. There are no killer applications or products in sight. What does this say about the health of the tech sector? Can MacWorld save tech all by itself?
- AT&T's CEO commented that the company has seen an increase in consumers who have had their service terminated due to non-payment. This worries me for two reasons. First, it is surprising to hear that people are losing phone service. This is basic stuff that is typically last to go when consumers are cutting back. Second, it was surprising to see the markets react so negatively to comments that a small percentage of a huge company's customers were in financial trouble. It shows how skittish investors are at the moment.
- Merrill and Citi are begging for dollars again. It is said they chasing more sovereign wealth funds. They must have a ton of bad news that they are about to dump on investors.
- Weekly jobless claims were down. This is good news but the market shrugged it off because it didn't have much impact on the moving averages. Skittish investors again.
- The market was up yesterday but breadth was not good and new lows continued to swamp new highs. Was yesterday just an oversold bounce? The beginning of that bounce off the support level?
- Today Capital One provided guidance indicating the consumer is having problems paying credit card bills and auto loans. The company is raising reserves and forecasting diminished profits. Another indication the consumer is no longer going to prop up the economy?
- Goldman Sachs lowered earnings estimates on a slew of financial companies. With the SPDR Financial ETF (XLF) already nearly 30% off its highs, I thought maybe we were getting somewhere near the bottom for financials. Maybe not...
- The market jumped today on news that Bank of America may buy Countrywide Financial. BofA is already a major investor in the struggling lender that has been the subject of bankruptcy rumors. Should this be significant enough to trigger a rally?
- The market spiked at midday and then fell back on hearing Bernanke say more interest rate cuts would be provided as needed. As if that wasn't a foregone conclusion.
- After all the ups and downs, the market closed up today. Breadth was decent on the NYSE but not particularly inspiring on the NASDAQ. New lows continue to swamp new highs. A continuation of yesterday's bounce? It doesn't seem like the bounce is on very firm footing but we are oversold and at support, after all...
- I would be remiss if I didn't mention a couple of pieces of clearly positive company news. Both DuPont and Alcoa reported excellent earnings and provided positive forward guidance.
In the meantime, though, we will no doubt see the major averages moving up for a while. As mentioned above, we are oversold and bouncing off a support level. We are bound to get an interest rate cut soon. Earnings season is starting. All we can do is stay alert and be ready to act as necessary.
Monday, January 7, 2008
Oil fell today on concerns that demand for crude would drop if the economy slows down. And certainly there are fears that, with recession a distinct possibility, that scenario may be playing out right now.
Lower demand should yield lower prices - this is known as elasticity, if I remember my economics classes correctly. With the current oil sector fundamentals as the backdrop, will prices actually fall very much? What have we seen during previous economic slowdowns?
I thought I would investigate by plotting oil imports against the performance of the SPDR S&P 500 ETF (SPY). I will assume that SPY more or less mirrors the performance of the economy. I look at oil imports as a direct proxy for oil demand. The oil numbers exclude what goes into the Strategic Petroleum Reserve. This should shed some light on how demand for oil changes as the economy rises and falls.
As can be seen in the chart above, oil imports (the dark blue line) vacillated in a range between 8.5 and 10 million barrels per day during the bear market of 2000 to 2003. Note that oil demand didn't really plunge as much as the stock market (the magenta line) did during this period.
Looking at the long term trend of oil imports, the straight-line approximation (the red line on the chart) shows that imports dipped below the trend line during the bear market. It also rose up to the trend line, as well. Interestingly, we are seeing the same thing occurring at the present. Is the rate of demand growth finally slowing? Is it due to record high prices? I'm not sure anyone can answer that question. I certainly can't.
In any case, the conclusion is that oil prices will weaken somewhat as the economy weakens but I wouldn't expect to see the price of a barrel of oil plunge. People will still need to drive their cars and heat their homes. The political situation in many oil-producing nations is still questionable. Industrial use of oil may moderate but there will be no plunge there either unless we fall into a severe recession, which no one is expecting at this point.
Bottom line: if we are seeing the beginning of an economic slowdown, demand for oil will moderate but there is no reason to think that the price of oil will drastically fall. The EIA predicts a continued increase in oil consumption for decades to come and an average price of $84 for 2008. The average price for 2007 was $72 per barrel.
Another point the chart makes is that as the economy hits bottom and begins strengthening, oil imports will begin to quickly rise again. That increased demand will no doubt cause prices to rise again, as well. It would seem that keeping an oil ETF like DBO or USO in your portfolio may be a prudent thing to do.
Sources: Energy Information Administration
Disclosure: author is long DBO
Saturday, January 5, 2008
I wrote a post just a couple of days ago reflecting on the recent downgrade of Intel (INTC). The title of the post was "Intel downgrade may set up buying opportunity but not right away."
My premise in that post was that now that Intel had started falling it would have to drop to the $22 to $23 level before it became attractive. I didn't expect to see that happen by the end of this week. Intel closed the week at $22.67. What do we do now?
The swiftness of Intel's plunge and the fact that it has happened on much higher than average volume calls for caution. Take a look at the chart below. The stock is now well below its 200-day moving average. Sure, it appears to be oversold but MACD confirms Intel has taken a turn for the worse.
With the whole market backdrop looking uncertain now, it is best to let Intel ride for a while. It it breaks much below the $22 level it could be a long way down. Keep in mind, Intel was a $17 stock as recently as summer of 2006.
Disclosure: author owns no shares of INTC
Friday, January 4, 2008
A tough week for stocks closed with a thud Friday. The new year got off to a bad start with a weak ISM Manufacturing report. That was followed up by a weak non-farm payrolls report that caught the market's attention and prevented investors from appreciating the reasonably decent ISM Services report. Note that rising prices were a theme in both ISM reports. This has investors worried that inflation will prevent the Fed from freely doling out rate cuts to save the economy. It was all too much for market participants and they sold stocks with abandon.
As for the TradeRadar model portfolio, we were stopped out of our position in SanDisk (SNDK). But the carnage in the NASDAQ encouraged us to move from neutral on tech to a bearish stance. Accordingly, I initiated a small position in the ProShares UltraShort Technology ETF (REW). Here's the background on this decision.
I have written a couple of posts on how the Durable Goods report over the last couple of months has led me to believe that tech as a broad category was in trouble. We have now seen downgrades of the entire semiconductor sector and bellwether Intel in particular, analysts saying a slowing economy will have a strong negative impact on the previously soaring Software-as-a-Service sector, Cisco's famous "lumpy" demand comment from their last earnings conference call, analysts saying Oracle will do fine but the rest of the software sector is facing slowing growth, signs of contracting IT spending, etc.
It seems the drumbeat for a tech slowdown is growing louder and more insistent. Given that tech was one of the best performing sectors last year, it would not be surprising to see a rotation out of last year's winners and into this year's winners, whoever they might be.
By the way, if you don't think the tech sector is having problems, just look at this list of 52-week lows from 247WallSt.com:
Tech & Semiconductors: ADI, ALU, AMD, AMAT, AMKR, ATML, BBND, BE, CSC, CYMI, ELX, FCS, FEIC, FFIV, IMOS, JAVA, KLAC, KLIC, LLNW, LRCX, LSI, LSCC, LXK, MCRL, MIPS, MRVL, MTSN, MU, MVSN, NSM, NT, NVLS, PER, PKTR, PMCS, RACK, SIFY, SIMG, SNDK, SONS, SPSN, STM, SYMC, TLAB, UIS, VECO, VIGN, VLTR, WIND, XLNX
Then there are the charts.
When considering a position in an ultrashort ETF, I always look at the corresponding long ETF and do the technical analysis there first. Looking at the Technology SPDR (XLK), we can see the ETF opening Friday's trade with a gap down. This brought XLK below its 200-day moving average. The chart of XLK is beginning to form a head-and-shoulders top. Looking at a 3-year chart of XLK it appears the first support level is at $24 (another 4% drop). If the ETF reaches that level (and it is not far from it as of today), it will pretty much confirm the head-and-shoulders. If that happens, we could see the ETF fall at least to the next support level around $22 (about 12% below where it closed today). (Support levels are indicated by horizontal black lines in chart below.) As further confirmation, the weekly TradeRadar chart shows a clear SELL signal.
With this kind of chart setup in XLK, the next step is to look at the chart of REW. Here, somewhat surprisingly, the chart pattern is not exactly a mirror image of XLK. There is no head-and-shoulders bottom apparent. What is encouraging for buyers, however, is that today's action displayed a move above the downward trend line and the move was on high volume. In addition, we have a TradeRadar BUY signal that was first flashed back in November 2007 (see second chart below.)
In summary, the charts and the red flags in the fundamental industry backdrop provide sufficient negativity on the tech sector to prompt us to jump into REW.
As for the rest of the TradeRadar portfolio, our bear ETFs had a very good week with the UltraShort S&P 500 ETF (SDS) moving up 8.6% and the UltraShort China ETF (FXP) climbing 9.3%.
Oil hit $100 a barrel this week and our position in DBO benefited. Unfortunately, Friday's profit-taking and the weak jobs report causing demand concerns prompted DBO to give back a bit of the week's gain. Still, the position remains modestly profitable and the gap up from earlier this week has not yet been closed.
Disclosure: author is long SDS, FXP, REW and DBO
Wednesday, January 2, 2008
The Federal Reserve's FOMC Minutes for the December 11 meeting were released today and bloggers and analysts have been enthusiastically commenting. Many have said there is nothing we didn't already know, to wit: economic growth is slowing, inflation is moderate but worsening, the housing market is weak and there is still trouble in credit markets.
I was struck, however, by the number of times the year 2009 was mentioned. It was as if the FOMC members had already written off 2008 as a lost cause and were looking forward to 2009. Note the following quotes forecasting a weak 2008.
- "Real GDP was anticipated to increase at a rate noticeably below its potential in 2008."
- "Conditions in financial markets... were expected to impose more restraint on residential construction as well as consumer and business spending in 2008 than previously expected. In addition, ..., higher oil prices and lower real income were expected to weigh on the pace of real activity throughout 2008 and 2009."
- "By 2009, however, the staff projected that ... an improvement in mortgage credit availability would lead to a gradual recovery in the housing market. Accordingly, economic activity was expected to increase at its potential rate in 2009."
- "The forecast for headline PCE inflation anticipated that retail energy prices would rise sharply in the first quarter of 2008 and that food price inflation would outpace core price inflation in the beginning of the year. As pressures from these sources lessened over the remainder of 2008 and in 2009, both core and headline price inflation were projected to edge down, and headline inflation was expected to moderate to a pace slightly below core inflation."
- "... looking further ahead, participants continued to expect that, aided by an easing in the stance of monetary policy, economic growth would gradually recover as weakness in the housing sector abated and financial conditions improved, allowing the economy to expand at about its trend rate in 2009."
To me it sounds as if the Fed expects this year to be a washout and that the economy won't really get back on track until sometime in 2009. And don't even think about investing in the housing sector until the end of this year at the earliest.
Source: Minutes of the Federal Open Market Committee December 11, 2007
Intel (INTC) was downgraded by Bank of America and the stock was under pressure all day. The BofA analyst feels that, despite Intel's current situation being nearly ideal, upside is limited. With competition from AMD wilting, the things holding Intel back could be slowing demand due to seasonal weakness and rising costs. After today's ISM numbers, I would add to that the threat of a slowing economy.
From the SIA Global Sales Report for November, however, we have the following:
What the SIA is saying is that in the microprocessor sector, sales are doing well and manufacturers are able to pass higher prices on to customers. This is not the case in many other semiconductor sectors, especially memory chips. Intel seems to have two big advantages in being the dominant player in microprocessors and having pricing power that other semiconductor companies can't match.
The Durable Goods report for November indicated new orders for Computers and Related Products were up 9.8% over the previous month. This will certainly lead to a strong fourth quarter for Intel. The question is: what about the future quarters?
The best data point we have at the moment might be the December 2007 Manufacturing ISM report which was released today. In general, the report paints a depressing picture, with a downward trend continuing and driving the PMI Index below 50 to 47.7, a level associated with a contracting economy. There are bright spots, however. Computer & Electronic Products was one of five categories that registered an increase in New Orders during December. It also showed growth in Production, in Inventories and in Export Orders. Ominously, Computer & Electronic Products was not among the categories that showed growth in Employment nor was there growth in the Backlog of Orders. It was among the categories that paid higher prices for materials.
In general, the case for a slowing economy is now stronger but it still appears there are factors that indicate that the tech sector has the potential to outperform other sectors. Intel is one of the strongest players in the tech sector but they would still see some demand weakness if the general economy contracts. Reduced demand would most likely impact the company's envied ability to pass on cost increases to its customers.
With Intel's deep pockets and domination of the microprocessor industry, the company should not be counted out. Some might say that Bank of America is being overly pessimistic but it could just as easily be said that they are being cautious. With the stock closing at $25.35 today (down 4.91%) and further weakness a distinct possibility, a very attractive entry point might eventually be reached at around $22 to $23. It has been nearly a year since the stock has seen that level and it looks like the shares would find support there. This could be a good opportunity to buy a quality company at a reasonable price.
Sources: December 2007 Manufacturing ISM report and Barron's Tech Trader Daily
Disclosure: author owns no share of INTC
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