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Closing Bell

Weekly Economic News Diffusion Index (WENDI)

WENDI belted out a show-stopper this past week. The economic news diffused more positively than it has since WENDI started singing last spring. With 14 reports included (13 is average) positive contributions were made by the Semi Book-to-Bill, Construction Spending, both the ISM Manufacturing and ISM Non-Manufacturing Indices, Factory Orders, the Jobs data, and Productivity. On the negative side, Consumer Credit grew at its fastest pace in some time (though auto loans are the main culprit), and the Challenger Report on layoffs surprised, though this is a volatile report and contradicts a broad array of positive Jobs data (so we have to wait and see if its a statistical outlier.)

The Weekly WENDI score came in at 50%. The 4-Week Weighted Moving Average rose to 31%. And the Cumulative WENDI hit 18.5. All of these are the highest readings since WENDI was born in March. The economic stimuli in the system have broadly and definitively gained traction in the economic data.

The Recovery Baton has been successfully handed off from the Consumer to Businesses. Capital Spending is picking up (as we charted in our GDP study last week and as we see below in Non-Defense Capital Goods Ex-Aircrafts Orders) and now the Employment Data is beginning to reflect improvement as well.

For those of you with a Talmudist's inclination toward detail, following are the components of this week's WENDI score:

  1. Semiconductor Billings: September's 6.5% monthly rise was much stronger than expected. Y/Y September sales were up 17.5%. 3Q03 saw a 14% sequential rise. All 4 major regions of the globe are seeing improvement. Bullish (1).
  2. Vehicle Sales: Weakened in October to a 15.6M annualized pace, down from August's recent high of 18.9M. The drop is not surprising as it comes on the backside of the "incentive" wave. Long-term sales remain solid. Nuetral (0).
  3. Construction Spending: Strength in housing and a surprising rise in nonresidential building lifted aggregate spending by 1.3% in September, well above the consensus estimate of 0.4%. Furthermore, August was revised up from 0.2% to 0.7%. Bullish (1).
  4. Institute of Supply Management (ISM): The Manufacturing Index rose to 57, its highest reading since January '00. Especial strength was recorded in New Orders, Prices Paid, Production, and New Export Orders. Bullish (1).
  5. BT-M Chain Store Sales The weekly data showed a 0.5% rise W/W after 3 straight weeks that were either down or flat. Y/Y weekly growth tapered of 0.7% to 5.1%, which is still quite robust. The monthly October data showed a 3.2% Y/Y gain, slightly above the expected 2.5-3% range, but below September's 5.9% Y/Y growth. Wholesale Clubs were particularly strong alogn with Drug Stores. Department stores and Footwear stores suffered along with Apparel stores. Qualified Bullish (0.5)
  6. Challenger Report (on layoffs): Showed a striking rise in announced layoffs for October, with 172K announced layoffs vs. 77K in September. This was the highest reading sine Oct. '02. Bearish (-1)
  7. MBA Mortgage Applicaions Survey. Bounced 5.5% for Oct. 31. REFIs were up 0.3% while the Purchase Index rose 11.1%. The trend is downward as interest rates pick up a bit, but this week's Purchase Index was a positive surprise. Qualified Bullish (0.5)
  8. ABC News/Money Mag Consumer Comfort Index: Flat for November 2 at -18. Only 29% believe the state of the National Economy is positive. With 3Q03 GDP growing at a 7.2% rate that's pretty surprising and it's a double-edged sword. On the one hand negative sentiment ain't good. But on the other hand, if sentiment is lagging some real cyclical improvement, then there's a lot of room for this metric to catch up and act as a further catalyst to growth. Neutral (0).
  9. Factory Orders: Rose 0.5% in September. Nondefense Capital Goods Ex-Aircraft orders (our proxy for business spending) rose 4.7% with orders for Industrial Machinery (for the moribund manufacturing sector) rising 10%+. There is a solid growth trend here. Bullish (1).
  10. ISM Non-Manufacturing Index: Beat expectations again for October improving by 1.4% to 64.7%. The 2nd highest reading in the index's 6-year history. Broad-based strength, including the Employment component, which rose to a new local high at 52.9. Bullish (1).
  11. Jobless Claims: Initial Claims dropped to 348K for Nov. 1 from the prior week's upwardly revised (+5K as usual) 391K. Continuing Claims extended their downward movement to 3.51M, the lowest reading sine March. The Initial Claims' 4-week moving average dropped to 380K, its lowest level since March of '01! The trend has improved. Bullish (1).
  12. Productivity & Labor Costs: Nonfarm Business Sector Productivity rose at a seasonally adjusted annual rate of 8.1% in 3Q03. Ourput rose at an 8.8% rate. Hours worked rose at a 0.7% rate. Compensation per hour rose at a 3.1% rate. Real Compensation per hour rose at a 0.8% rate. Unit Labor Costs fell at a 4.6% rate. Productivity was up 4.7% Y/Y. Everything here supports the recovery thesis. Bullish (1).
  13. Employment Situation: Nonfarm Employment grew by 126K in October. Furthermore, September's and August's numbers were revised up sharply to +125K and +35K (from +56K and -41K) respectively. The Unemployment Rate dropped 0.1% to 6%. All these numbers were ahead of expectations. On cautionary note, it will probably take payroll growth of about +200K per month to start making serious inroads into the unemployment rate as it takes about 135K new jobs per month to keep unemployment flat (our population is growing). Still, this report is Bullish (1).
  14. Consumer Credit: Rose much more quickly than expected as a lot of the consumer's spending was added to debt. 80% of that increase was in Non-Revolving Credit (car loans and the like) and only 20% was Revolving Credit (credit cards). The fact that so much of the debt is on car loans is positive insofar as it represents extremely cheap credit. (much better for the debt service numbers than if that debt was on Visa & Mastercards) but we do have to be wary of how significantly recent auto sales have stolen their strength from future sales. Bearish (-1).


Earnings

Forward Operating Earnings projections for the SPX continue to rise, as do Trailing Operating Earnings.

The Analysts' Consensus of Forward 12-Month (FTM) Operating EPS (blue line) are now at $60.35. They have grown at a 16% annualized rate over the past 3 months. The PE on the blue line is 17.45

We've introduced a time weighting methodology to Trailing 12-Month (TTM) Operating EPS (yellow line) that has goosed that line up this week to $52.72. The look-back period for TTM EPS is now the past 52 weeks and not the prior 4 quarterly reports. This should serve to smooth the yellow line and reduce its inaccuracy as each quarter approaches its conclusion.

In the current case as of 11/7/03 we are 38/92 through 4Q03. The Consensus EPS Estimate for 4Q03 is $14.67. So we take 38/92*14.67=$5.98 and add that to 1-38/92=54/92 of 4Q02's results to get appropriate time weighting on the fractional quarters of the prior 52 weeks. (Then of course we add those two time-weighted fractions to the 3 intact quarters during the prior 52 weeks to get our sum.)

With the SPX at 1053 the PE on TTM Operating Earnings is 19.97.

The fly in the ointment for the market may be the declining 2nd derivative (rate of change of the rate of change) of the FTM EPS estimates.

The 3-month annualized rate of change in FTM EPS Estimates (blue line) has declined from 20% to 16% in the past 3 weeks primarily because a year ago estimates began to rise (not because current FTM estimates are falling). As you can see in the chart, though, once the blue line peaks and rolls over the market often encounters resistance to continuing higher.

Let's see if the blue line flattens out at a high level (bullish) or if it heads sharply down from here (bearish).


A Look Down The Market's Throat

We've added one index to the dozen we look at every week. (OK, now we have a Baker's Dozen.) This is called the New York Beta Index (NHB). It's a basket of high beta stocks, and will help us to get a read on the underlying dynamics of the market. Generally when this index is showing positive relative strength the market as a whole performs well. And when NHB's relative strength is flat or down, the market as a whole suffers, as you can see here over the past 300 trading days.

In the lower pane we divide the SPX price by the NHB price to get Relative Strength. The yellow zones show where NHB's Relative Strength is not improving. Those yellow zones coincide with flat to down SPX performance. Where there are no yellow highlights we see that the Relative Strength line is moving up sharply and that he SPX is performing well.

We'll continue to monitor how the high beta stocks are doing. So far they continue to outperform and that bodes bullish for the market. It's worth noting, however, that NHB's relative strength is at unprecedented levels above its 50-dma. So, we may be looking for a cooling-off period.

As for our Baker's Dozen, this week we see a preponderance of "ascending wedges." These wedges are often reversal patterns defined by higher lows and higher highs, but the higher highs suffer a loss of momentum such that the line of rising tops is shallower than the line of rising bottoms.

Note that the SP-500, the DJ-30, the OEX, and the NYSE Cum Vol Line all remain within their wedges. However the Dow Transports (DJ-20), the S&P MidCap 400 (MID--X), the Russell 2000 (RUT--X) have all broken above the upper limits of those wedges. Meanwhile the NYSE Adv/Decl Line is in a much more parallel-looking zone, which is bullish.

So, on these 8 charts we have a 50/50 split between essentially bullish and potentially bearish configurations.

In the following 5 charts we have two intact wedges and three that have broken to the upside.

Only the COMP and NDX remain suppressed below their respective lines of decelerating tops. The SOX is leading the way and is pretty wildly overbought.

So, what does all this amount to? A very mixed picture. Of our Baker's Dozen 7 look to be set for bullish continuation, having cracked their bearish wedges to the upside, and 6 are still vulnerable to resolving their wedges to the downside.


Bottom Line:

SHORT-TERM: Last Sunday we took a neutral stance on the market between SPX 1041 and 1054. The index flirted with breaking out to the upside but closed the week at 1053.2. This week we remain neutral between SPX 1060 and 1048 (S3 above). If S3 holds then a break over 1060 should take us to our Top Finder target (big red X above) with a high in about 7 trading days. That would likely be up near R1, our long-time target of 1070. Currently the Top Finder is projecting 1075 but the actual price target varies more than the timing of the projected high. If S3 breaks to the downside then S4 (now 1040) could be support but more likely we'd head for S2 (now at 1023) with a possible dip as low as 1015.

MID-TERM: If the bearish short-term scenario plays out then we will expect further downside testing through November as the market consolidates its gains. If we head for the Top Finder target then we will expect consolidation in the 1060-1080 range.

LONG-TERM: Bullish through the end of the year, expecting at least 1070 on the SPX with a possible run at 1187 (either late this year or early in '04) as positive earnings and WENDI trends continue apace.


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Best regards and good trading!

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