Markets On Edge

By Duru

October 10, 2005


(In this piece I present several strong points of view on the direction of stocks. Click here for my disclaimer).

By the looks of the selling in housing stocks, it seems the market is finally ready to bet on the end of the housing boom for this cycle. I follow a small basket of homebuilder stocks: CTX, PHM, HOV, CTX, TOL, LEN, and KBH. KB Homes (KBH) was the last of these to hang onto the 200-day moving average (DMA) of price for dear life. This line is often treated as a line in the sand dividing long-term bullishness from long-term bearishness. I suspect that there remain plenty of housing and real estate enthusiasts out there who will gladly bid these stocks back up given how "cheap" they have gotten, but I will certainly not be one of them. Any such rallies will invite better entry points for shorts.

At the same time, the oil and gas sector has experienced a harsh and swift correction that has everyone wondering whether the bull market in energy is also coming to an end. Since no one has announced any new refineries, major new oil fields, or major new gas deposits, the only way we have seen a cyclical top is if the economy is truly about to slide into recession. You can place your bets how you wish, but I suspect that the economy will keep muddling along as it continues to adjust to this higher inflation and higher interest rate environment (stagflation?!). In the meantime, you might do good to examine closely for yourself the case against and for energy. One of my favorite authors on this topic, Chris Edmunds, wrote a timely piece called "Energy's Pullback Could Be Opportunity." The more folks are quick to hop on the bandwagon of calling a top (again) in oil and gas, the more bullish I get. Compare the sentiment in energy to the sentiment in housing where hope springs eternal and constant selling still has not convinced a significant number of people to call a top. I am currently licking my chops at this current pullback in energy stocks. Many of the stocks I follow in this sector are resting precariously on the edge of major support levels. If these also get broken, I expect another strong wave of selling to ensue. I would still consider this an excellent opportunity to get back into energy stocks for longer-term holdings, but I would have to study individual stories more carefully to determine what land mines might be out there. Stocks with high yields get first notice.

For stock enthusiasts and other chart-watchers, you would also do good to check out the action in the ETFs for international markets like EWZ, EZA, EWJ, EWC, and EWA. I remain bullish on all of them, especially the markets like Australia, Canada, and Brazil that are dependent on exports of energy and other critical commodities. I am licking my chops at these "cheaper" prices, and I am particularly keen on some individual names in Brazil. I am also keeping a close eye on steel. Steel is smack in the middle of the cross-currents whipping the markets around. Slower growth and higher rates mean that demand for steel is likely to take another fall. If steel producers are still able to pass on their higher energy and raw material costs to customers, they just might come back out of the current dip in good shape (of course we common consumers will be all the poorer for it). This is a BIG if though! RS remains the strongest of the stock charts in steel that I watch. Other interesting stocks are OS, STLD, and CMC. Note that unlike in energy stocks, I believe that any further deterioration in these charts will signal it is time to think going short again.

Retail stocks remain a mixed bag, and I still refuse to make wholesale bets against the American consumer. We sure know how to spend and seem to come up with new and creative ways to import more goods and finance even more of it. So, this remains a place where individual stories are more important that the overall retail outlook.

Finally, gold has been on an amazing tear. The bears are finally ready to step up and loudly declare their disapproval with the current economic outlook. I am kicking myself for having sold out of my own holdings before this recent run. I used to maintain a core holding and trade around it but a while back decided to just get out altogether. I am crossing my fingers for one more decent-sized dip to climb back on board that bearish train.

The market is truly on edge, and the Fed helped bring us here on purpose. October is a month that traditionally brings us to the brink of some sort of selling calamity in the market when times are getting testy. Earnings are coming up and folks sitting on any profits might be more inclined to play it safe and cash in now. Folks who are sitting on losses might decide to play it safe and get out while they can. The flip side of this drama is that these sell-offs often prove excellent entry points for going long - even if the ensuing rally ends up being short-lived.

The Fed better watch out - they might just get what they want!

Be careful out there!

(Note that I have not posted actual stock charts for a while due to a lack of time. I strongly encourage you to pull up your own stock charts for reviewing anything you decide to sell or buy).

DrDuru, 2005