Insights & Advice

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Much Adeu about Nothing

We opened the week at about the same level we closed on Friday give or take a point or two. That’s not to say it was a boring week, quite the contrary. The volatility was enormous. The markets moved up and down on light volume with the Dow gaining hundreds of points only to give it all back on the down days. If you were caught on the wrong side of a trade your losses were huge. It is not the kind of market where the little guy can make money and I expect August to be even worse.

As has been the case in every one of this year’s bounces, the financial sector led the broad markets higher in the face of truly horrible news. Two small banks out West went under last weekend while Merrill Lynch dumped more than $30 billion in mortgage-related assets at 22 cents on the dollar on Tuesday. It also announced it would raise $8.5 billion in a new stock offering diluting existing shareholders by about 38%. Schizophrenic investors greeted the news by first selling the shares down 12% and then buying them back the next day until the stock regained all of its losses.

Individual companies and sectors bounced around at the whim of professional traders and hedge funds while a steady stream of depressing economic numbers on unemployment, GDP growth and consumer sentiment kept every rally from building any steam. One of the fundamental reasons for all this volatility and aimless trading is the lack of volume. It is far easier to move a stock or ETF up or down in a trading vacuum. It is vacation season on Wall Street and in Europe when most of the big players seek the seashores or deep woods for several weeks.

The oil price gyrated to its own crazy dance flipping up and down $3-$5/bbl. a day while other commodities followed suit. I believe the consolidation of commodities will continue so it is still too early to invest fresh money into those sectors. My downside target for oil is between $105-$110/bbl. at that price I would begin to acquire more energy shares. The commodity sector overall, in my opinion, is experiencing a sharp but short pull back in a long-term uptrend. Agricultural commodities may have already bottomed but I expect nothing but sideway action in their prices until oil reaches my target.

One sector that has undergone a dramatic change over the past few weeks is healthcare. Prior to July, investors had been dumping companies large and small in pharmaceuticals, medical equipment, devices and biotech. Their fear was that regardless of which presidential candidate is elected an overhaul of the health care sector is a certainty. That could mean potentially nasty regulatory surprises for those companies.

Yet, as the sub-prime crisis deepens and more and more companies come under pressure, the fundamentals of health care companies, regardless of their uncertain future under healthcare reform, have grown more attractive. Their balance sheets have remained flush with cash and yet their stocks are selling at historically cheap prices. At the same time, profits are moving higher as consumers continue to spend on medical care and prescription drugs in increasing numbers. Over the last month, despite their reservations, an increasing number of investors have begun buying stocks in the sector which actually gained 4.1% as the S&P 500 index dropped 4.9%.

In the last two weeks, two biotech companies (Genentech and Imclone) have been snapped up by their larger brethren in the pharmaceutical world, another indication that some companies in the industry see value at these price levels. Many investors believe others in the sector are also ripe for plucking.

As for the markets overall, as I said last week, the S&P 500 (the benchmark I use) could move higher, possibly to1300-1325 from here. There may be no rhyme or reason for that or for why oil may move up while the market moves down or vice versa. Don’t try to puzzle it out either because nothing quite makes sense right now. So just write it off to the low-volume, dog days of summer. In the meantime don’t chase stocks, be patient and expect that volatility will continue.

Posted in A Few Dollars More, At the Market