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July 25, 2006

Bulls Win Game of Chicken

After a strong fake higher in the first hour of trading, equities quieted down and spent most of the day in a holding pattern. It seemed as if the bulls and bears were playing a tough game of chicken, and at the end, the bears blinked first. The last hour or so of trading took indices to new highs for the current move, all about a half percent better for the session.

Calling the immediate direction of the market is very dicey at this juncture. On one hand, the markets failed to work off a short-term overbought reading with today's action. Also, every bounce since May has been aggressively sold, and it is impossible to say whether enough confidence has been rebuilt to keep this move going. On the other hand, the period for end-of-month window dressing, should it occur, is upon us. Add to that the fact that anticipation for a Fed hike has been significantly reduced (see below), and we may have the recipe for a celebratory rally.

A few earnings reports published since yesterday's close may have also favored the bull case today. SanDisk posted numbers that induced an after-hours frenzy for their shares. After trading as low as $37.55 in yesterday's session, SNDK shares fetched as much as $48 after hours! Despite the win, SanDisk still faces a world of ballooning capacity, which will likely crush prices far more than they anticipate. They also fail to account for a likely recession in their forecasts. I broke protocol and sold some shares in the after hours session. While I would discourage such behavior... after hours trading tends to favor the big boys over us little folk... a price of 47 and change was acceptable to me as a point to begin rebuilding my short position.

We also heard from two homeys in the last 24 hours: Building Materials Holding and Centex. Both issues saw healthy price gains despite lackluster numbers. Most likely, traders were looking for a point to enter these oversold shares, and the numbers weren't bad enough to keep them out. Centex even lowered its guidance once again, but probably not more than expected. It's not unfathomable that the homeys will provide another excellent short setup in the coming weeks.

Precious metals saw rather muted action today, but the miners put in a nice continuation of yesterday's upside reversal. As I mentioned yesterday, I have yet to get aggressive with metals plays. Perhaps this means I will eventually be building positions at higher prices, but as long as my entry is at a point where I perceive lower risk, that is okay. I've been reading many accounts of expectations that the Fed has made its last hike. Indeed, the futures market has lowered expectations of a hike on August 8 from 90% to about 40%. If the Fed pauses, we could see metals explode. On the other hand, if the Fed hikes against expectations, metals could get crushed. This latter scenario would set up an awe-inspiring opportunity to pick up gold and silver in gobs.

Disclosure: Short SNDK; Long SNDK Puts


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