Cyclicals Are Not Rebounding. Look For A Tenuous Earnings Rally Monday and Tuesday

April 20, 2012
Author: Peter Stolcers, Founder of OneOption
Author
Pete

Yesterday morning, the market tried to rally after a decent bond auction in Spain. Weaker than expected domestic economic releases weighed on stocks and the SPY finished below support at $138.

Towards the end of the day, buyers started to nibble and the market finished well off of its lows. This morning, solid earnings releases are fueling a nice rebound. The major focus next week will be cyclical stocks. Union Pacific, Nucor and DuPont declined after they posted results yesterday.

Cyclical stocks have lagged during this rally and the price action is very telling. Investors don’t believe this economic recovery is sustainable and they are not sponsoring these stocks. This needs to change next week and I will be watching PH, ETN, MMM, UTX, BA, CAT, CLF, DOW and UPS. If I see positive reactions, the market could still have some upside. Tech, finance and retail will not carry this market to new highs.

The soft US economic releases this week could dampen spirits for cyclical stocks. Empire Manufacturing, the Philly Fed, housing starts, initial claims and LEI all missed expectations. Next week, durable goods, initial claims and Q1 GDP will be released. Jobs will be the primary focus. Initial claims were expected to drop 20,000 yesterday and they only dropped 2,000. The dismal Unemployment Report from two weeks ago is still weighing on the market. Q1 GDP is expected to come in at a meager 2.2%.

The FOMC will release its statement next Wednesday. Given the recent economic releases, I would expect their tone to be rather dovish. I still don’t believe we will see QE3 and that could be problematic as traders look for that rhetoric.

Spain and Italy will hold small auctions next week. These should go fairly well. The IMF secured $100 billion in new funds this week and that will put pressure on the US and China to contribute. The ECB will also release a statement and it should be dovish.

Economic conditions in China have been improving. Analysts are expecting them to reduce bank reserve requirements and that news would certainly help cyclical stocks.

I am not impressed with the price action during the first two weeks of earnings season. Stocks typically run higher as the strongest companies post results. The market has barely been able to climb back above support at SPY $138 at it seems willing to move lower at the first sign of trouble.

European credit concerns should be benign for the next few weeks. Earnings will push the market higher as long as economic releases (US and China) are stable. If cyclical stocks reluctantly move higher, the rally will stall before it reaches the highs from two weeks ago. They need to stage a convincing rally for the market to challenge resistance.

The last two years the market has declined towards the end of Q1 earnings season. Traders are cautious and they are prepared to “sell in May and go away”.

Options expire today and the action will be choppy. We have fallen into a tight range and I am not expecting much movement until the last hour. Look for a tenuous rally Monday and Tuesday.

I am neutral to slightly bullish and I am selling out of the money put credit spreads. I am looking for day trading opportunities and I am limiting my overnight risk.
I have been quiet today. It is expiration and the range has been very tight. When I day trade I look for an early move and continuation.

The action will heat up after the FOMC next week.
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