The NASDAQ No Longer Chugs Along

By Dr. Duru written for One-Twenty

August 2, 2006

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I have slowly but surely been doing a review of my analyses and proclamations this year. Given the troubles in techland, it is about time I take another look at the NASDAQ.

At the beginning of this year, I took a look at the NASDAQ and was surprised to find that the technology-laden index was rising in a choppy, but persistent, up-trend. At that time, I predicted that we were headed to 2500 for 2007 and added that you should only buy weakness. The NASDAQ proceeded to continue chopping its way to a new 52-week high of 2375 (5% shy of my target for 2007) providing numerous opportunities to buy on weakness. But you would have only made money if you also sold on strength. Now, the NASDAQ is 13% off those highs and it is right back to flirting with the magnetic 2100 level that has served as the "nucleus" of its current trading channel and quasi-resistance/support ever since the NASDAQ faded from that level in the post 9/11 rally in 2001. (Interestingly enough, GOOG has formed its own channel with $400 serving as the nucleus. I continue to be amazed at how correct I was to claim that the $400 would be more important than we could know.... It peaked several months before the NASDAQ did...will it now follow the NASDAQ out of its channel?)

The long-term (9-day) chart below shows that the big question is whether the NASDAQ has now broken down marking just the beginning of more pain to come or whether we are simply marking time as the NASDAQ forms a new (upward) channel. (For those of you more technically inclined, I encourage you to look at OBV and stochastics. The OBV barely remains in an up-trend and the stochastics suggest that some kind of extended rally is right around the corner).

The decline in the NASDAQ has hidden some disturbingly brutal declines in big-cap tech stocks. But the decline can also be understood in the context of weakening cyclical stocks. Housing peaked in 2005 and has been crushed this year. Companies in the S&P 500 apparently reported, in the aggregate, their 16th quarter in a row of double-digit profit growth. Never mind for now that only the executives of these companies have reaped the big rewards from these heady gains (selling stock options and the like). Instead, recall that the Fed has been trying to slow economic growth as a way to tame inflation. These profit numbers show that the Fed still has work to do. In fact, I am amazed that folks are crying out for the Fed to stop hiking rates. Given the methods of the Fed, it can only continue...otherwise it would have to "hope" that all the rate hikes to date will finally take hold sometime soon. If the Fed does indeed continue to hike rates, then I have to assume that the NASDAQ will head ever lower. Certainly, the bull market in general has been looking fatigued, but we could still see several more rallies before any kind of real bear market gets underway.

One final word on techland. As the NASDAQ was hitting its lows for May, I pointed to the options back-dating scandal as a major overhang for tech. Prior to that, I even tried to review a few companies hit by the scandal for potential buying opportunities as "despair plays." I gave a definitive no-go on all. Of course, the Nazz rallied for the next week, but even such contrary behavior could not fight gravity for long. We have hit two more monthly lows since then (one in June and one in July). On the other hand, some of the companies pounded by options scandals have been snapped up by bigger companies. For example, HP took out Mercury Interactive, RSAS was snatched up by EMC, and most recently, SNDK made a bid for FLSH. Suddenly, the options scandal HAS become the bargain-hunter's clearance rack of the season! This alone should give optimists hope that the NASDAQ may yet have some life here in the short-term...

As you should know by now, the Fed holds the purse strings and the keys of investor sentiment right now. Any predictions about the market are subject to major revisions based on what the Fed does and how the market chooses to react to it. For now, I am looking for at least one more relief rally before the real trouble and drama hits somewhere between late August and October...

In the meantime be careful out there!

DrDuru, 2006