Market Comment - October 24

(Marco Bonelli) Here we go - do we see early signs of economic acceleration or do we more mix it up with a hiccup in a decelerating trend?


A very broad-based rally, the Dow Jones and SPX breaking out of their August/September top (now only the Russell 2000, the S&P Midcap Index and the Value Line Index are lagging a bit), a declining Dollar, Q3 earnings growth expectations for the remaining S&P companies still to report revised up to 13.7% (14.9% ex financials) from 11.5% (13.8% ex financials just a week ago - a result of the 70.4% positive surprises and only 20.0% negative surprises of the 135 earnings reported in the S&P - and hints of QE3, in combination with sentiment that turned more cautious, were a good combination of events on an expiration Friday.

This morning you add a strong October PMI Flash-Report in China (PMI readings in the Eurozone that pointed to  a second successive contraction of the private sector economy is not surprising given the events in Europe and can be ignored for that and other reasons), ORCL $1.5 Bln bid for RNOW, that goes right into the direction that a Barron's article suggested over the weekend, which talked about the tech sector, massive cash on company's balance sheets and a resulting pick-up in M&A activity (JNPR appears to be open for acquisitions as well) and strong Q3 results and comments from CAT and you wonder why you didn't put all the money you had left into the stock market on Tuesday, October 4, as the only way seems to be up!

The simple impression that some kind of general agreement came out of the 13th European Summit in 21 months is enough to counter cautious sentiment and comments going into the weekend and coming out (forecasts of a stock market meltdown if nothing substantial gets decided over the weekend, rumors of delays and postponements of decisions and meetings, skepticism over the effectiveness of any decision). Now the world waits for the 14th Summit in 21 months on Wednesday for the final announcement of what is more or less discussed anyway, which will be cheered as positive because there is finally one decision, the question however is if the markets didn't already discount everything that will be said and now rather focus on the effectiveness of the measures and the gloomy economic outlook for Europe.

What's rather remarkable of this earnings season is the variety of opposites and the conflicting messages, investors hear from corporate managements. You hear AA talking cautiously ("For the first time this year, ongoing productivity improvements across our businesses were insufficient to overcome slowing market conditions and prevailing cost head-winds."), you see GE only being able to show better revenues and orders as a result of aggressive price cutting that lead to margin declines but then you hear CAT, UTX and PH expressing optimism and pointing towards continued economic growth, although on a slow pace. You see IBM and AAPL missing aggressive estimates, you see many semiconductor names coming in way below expectation but then GOOG, INTC and EMC erase all doubts with strong results and the low inventory and product upgrade thesis lifts the whole sector higher in expectation that global demand will eventually pick up. Finally also financials send conflicting signals but the sector mostly trades up because it cannot get a lot worse for the "too-big-to-fail" financial giants.

So what did we learn the last three weeks? As long as a certain state of the fundamentals is known and accepted, every news that hints towards an even small improvement from there is bullish for the stock market until sentiment and expectations embrace these hints as the new fundamental state. With quite a few investors still being cautious and holding back on their investment decisions, this rally could go on a bit longer as even pull-backs might be seen as the "last chance" to get in at "attractive" valuations.

Having said that, due to the high degree of uncertainties, the whole picture tends to change on a daily base and the risk of a 200 to 300 point decline in the Dow is always out there. We are not far away from 12000 in the Dow Jones and 1250/1260 in the SPX, let's see what comes next!

Trade well.


(Marco Bonelli is the Managing Director of International for CL King & Associates in New York. The opinions expressed are his own)