Today was a down day for stocks. No, you don't have to read the first sentence twice. I know that all the averages were up, including a 1% pop for the Nasdaq Composite. But what happened today behind the scenes does not bode well for the current rally.
First, the sector that lead the October to January rally to its high, namely financials, sold off about a half percent today and is about 3% off highs set three days ago. The financial sector was depressed today by disappointing reports from WaMu and Wachovia. WaMu, in particular, included two troublesome notes about its earnings miss. First, they provisioned losses of $99 million related to credit card loans, up from $37 million the year before. At first glance the increase seems extraordinary, but remember that WaMu completed its $13.4 billion purchase of Providian in 2005. The incremental loss of $63 million amounts to less than a half percent of the acquired assets. This figure is well within industry expectations, but I think traders are realizing that WaMu could experience deeper trouble if (or as I believe "when") we enter a serious consumer recession later this year. This very belief compelled me to dump my WaMu shares soon after they announced the Providian deal, though I must admit I bailed out a bit early.
The second worrisome aspect of WaMu's report was lower-than-expected profits in the mortgage sector. Despite a roaring mortgage market last year, WaMu's quarterly profit in the sector fell from $384 million to $264 million. The company blamed the decline on the cost of interest-rate hedging activities. Long-time company followers surely remember a couple of bad misses several years ago when WaMu failed to hedge adequately. Now it seems they spent too much on hedging. Their management just can't seem to get it right. The concern over mortgage sector profits spilled over to other mortgage-heavy finance companies, including Countrywide Financial, which fell over 3 % today even more than WaMu.
Back to the main point if the financial sector lead this rally up, it may very well lead the market back down. I will be keeping a close eye on financial indices like the XLF, which appears to have put in a technical top.
The two champions of the rally that began in March 2003, Apple and Google, both took spills today, despite broader gains in tech. Apple fell 4% after a disappointing forecast for 2006, while Google fell nearly 2% on what appeared to be purely technical weakness. I will be evaluating both these stocks later this evening for possible sell signals in my trading model. In any case, continued weakness from these two bellwethers could indicate a shift in market psychology that leads to a broader sell-off.
Finally, a data point on housing was revealed today. December saw a greater-than-expected decline in housing starts. Of course traders must always ask the question, greater-than-expected by whom? The homeys did not seem to be roiled too much by the news. However, one of the biggest suppliers to home builders, Building Materials Holding, fell about 1.5%. BMHC has held up remarkably well in light of so much news that the market they serve will shrink dramatically in coming quarters. However, I believe reality is catching up to them. The shares have bounced off the bottom side of their moving average four times since November with each peak successively lower, and the MA is now declining. The company reports on February 7. Given the housing starts weakness, I suspect they will disappoint.
Disclosure: Short XLF, BMHC; Long WM, CFC Puts