MP 5/28/08

Traders,

We got a solid pull back in oil and it looks like it is continuing to pull-back today – oil traders are expecting support around the 125 area. Airlines, shipping companies, and other oil dependant companies are got a boost yesterday and are seeing some pre-market upside prints as speculators look to take advantage of those sectors that have been hurt the most by high oil prices. Analyst are indicating that drop in gas consumption in the U.S. from the report the other day was the catalyst sending oil lower as demand drops. However, the driving season is upon us and energy traders are watching consumption as we head in to, what traditionally an increased driving season. As fast as they rushed in to buy oil – they are now running to get out.

The pull-back in oil also gave a good broad boost to the market in all sectors. The dollar additionally saw some strength. Additionally – rice and other grains saw a pull back as export curbs eased after the Cyclone which leveled 2000 sqr miles of farm land sent a recent spike to rice futures – that were already higher.

Expect more upside boost to the equity markets as commodities seem to ease after a significant run. However - the much needed ease in prices are not enough to reduce the overall economic pressure. Economist have indicated that oil needs to get back to 75 a barrel level, coupled with the Dollar strengthen back to the 1.30 to the Euro before we can see some ease to the U.S. consumer – both at the pumps and an increase in their buying power.

Continue to expect volatility in both commodities and equities.

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OPEC loses a member – but gains new members

Indonesia is expected to pull out of OPEC as their oil production has seen accelerated declines. Indonesia has inverted to the largest exporter of oil in Southeast Asia to becoming a net importer of oil. The Energy Minister, Yusgiantoro will sign a decree today to exit OPEC in a press conference. The nation has been a member since 1962 and has been concerned about their nations increase in oil consumption, while at the same time their production decreasing for some time. It has been rumored that they have been privately discussing the possibility of leaving OPEC the past 3 years.
Indonesia imports currently about a 3rd of its oil and the production has slumped almost 50% since the peak. Since the country has become an increasing importer of oil – the nation is now looking to the need to manage their remaining energy resources to address their own countries rapid development and reliance on oil. Fuel prices have increased 30% in Indonesia and the expectations since withdrawing from OPEC may help relieve increased prices.

OPEC account for more than 40% of the world’s oil supply – it is not expected that Indonesia withdrawal will affect OPEC’s ability to increase supply if needed. Indonesia output has been aprox. 1 million barrels a day since 2004. Angola became a member in Dec 2007 and Ecuador rejoined OPEC after a 15 year absence. However – their production levels are still low and remain volatile.

One of the negative impacts of Indonesia leaving OPEC (beyond the loss of oil) is that it was the only Asian member – giving OPEC better access and understanding to the Asian perspective. The loss of a Asian narrows OPEC’s geographical outlook.

The news has not impacted oil prices – which are on the decline this morning towards the 125 support area.

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Durable Goods unexpectedly ROSE !

The futures in the pre-market are getting a good jolt to the upside as Orders for U.S. durable goods rose in April by the most in 9 months. Economist expected the bookings to fall as the U.S. consumer continues to struggle and demands for local goods start to decline. However, demand from abroad on the back of the weak dollar has several sectors positioning themselves to ride out the U.S. economic slow-down by selling goods overseas.

However, if you exclude the demand for airplanes and autos (which declined) – the net balance of goods increased by 2.5%. The BRIC (Brazil, Russia, India, China) demand for U.S. machinery and electrical equipment is on the rise – as they countries look to purchase more U.S. goods based on a weak dollar. U.S. companies in these sectors may be able to ride out the domestic slowdown if the overseas’ purchase strength remains strong. However –this is predicated on both a weak dollar and the speculation that a global slowdown (recession) is not in the works.

The housing bubble – which has also affected Europe – may not of had as a significant of an impact in the BRIC – which may allow them to remain strong in their currency and expansion. If this holds true – expect several sectors who have positioned themselves to take advantage in the export market to be able to ride out the domestic slowdown.

However – not ALL sectors, which would traditionally benefit, are seeing the same rebound as electronics and machinery. The auto sector has seen a slowdown in sales based on several factors – domestic slow down, higher commodity prices, higher oil prices, and yes a huge increase in competition. China and India have moved into the auto manufacturing sector and in China’s case they are moving at massive speed and gaining domestic sales in their country – stealing market share from competitors.

Additionally, the airline manufactures also seem to see more volatility than traditionally in their sector – between delays in the latest airlines and the increase of jet fuel – orders are coming in fits and starts – creating more volatility.

On a side note it will be interesting to see how GE fairs in auctioning off their appliance division – as the BRIC looks to consume more appliances as these nation expand. Could the durable numbers give more premium to the appliance auction?

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Futures in the pre-market

The futures had been slightly down over night and slowly rose to fair value. Then as oil started to pull back its second day we saw some more strength injected. Finally the surprise increase in durable goods orders (reflecting that some companies may be able to ride out a slow U.S. economy) has sent a solid upside jolt to the futures. Currently they are front running the cash by a couple of points. Expect the ARB traders to short futures into the opening and buy the cash basket to close the spread. If the spread remains at least 2-4 points at the opening expect a solid pop in the indices at the opening as traders buy the basket.

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Support / Resistance

We are seeing a solid upside move back to what had previously been support levels. The INDU may break the previous short-term support of 12600, and we might even see the NDX get above 2000. The volatile action in both the commodities market and equities market is not expected to decrease and the VIX is not indicative of the kind of action we are seeing. If the market closes on more strength expect to see the VIX pull back down to the mid-to-high teens.

INDU 12400 / 12800 (While 12600 was a short-term support and could be considered a short-term resistance – it is the 12800 level that would show strength back in this index. Between the 12400 – 12800 level is an area to expect volatility.)

NDX 1950 / 2000 (This index has the top 10 over-weights squarely in the driver’s seat. We will most likely break through 2000 again as AAPL and others rally higher. A close below 2000 after the kind of future pre-market action will show more of a knee jerk response to the durable orders numbers. Watch the close. I would start to take off LONG deltas at 2000 – but be careful getting short at that level.)

SPX 1380 / 1400 (We didn’t see the kind of strength the NDX had and like the INDU the move up, while nice, was not the kind of strength that was expected with that massive pull-back in oil. This is an area to not take action until we get to support or resistance.)

RUT 720 / 740 (We are right in the middle of the range – don’t take action and let this market confirm upside or downside at support or resistance before any action.)

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Conclusion

Volatility continues to penetrate every sector of the market as investors and traders look for safety. The commodity market has been where everyone has been running to as supply and demand has driven more speculation into these sectors. The massive move to commodities (while supply and demand is a major factor) could be argued was exacerbated by the Fed rate cuts, which sent the dollar lower.

The questions on many trader’s minds are, “Is that the bottom in the dollar?” and “Was that the top in commodities?” – taking a large step back – the 1,000 foot question should be what is the fundamental strength of the U.S. economic landscape? It is the consumers the drive the economy and they at the end of the day are trapped out. I have a feeling that the commodities market is going to see a pull-back (which has been happening), but the long-term trend is still higher. After listening to Rogers last week about the increase in expansion in the BRIC – which was confirmed by the Durable Goods orders this morning – than their need for MORE commodities and not less means the long term trend will remain higher.

That means finding the companies that are strong with higher commodity prices and avoiding those that are hurt by higher commodity prices. I can see that it may be easy to get sucked into buying airlines because their prices are low and that oil came off the last couple of days – but is that just a “knee jerk” reaction to oil prices? I know that the smart (billionaire) money is staying away from that (avoiding the daily noise and volatility).

It would be nice to get Pickens view on the recent pull-back on oil, but I think he would say the same thing he did when it pulled back from 70 to 50, “The trend in the long term is up!” - these guys avoid the “knee jerk” daily moves and are looking out 1, 3, 5, 10 years – not the daily volatility. I have a feeling they are right. That being said – I am not one to get long at those equity resistance levels – but rather flatten long delta positions.

Time will tell – but this market still does not know who is driving the train – and as Ross said this morning – the housing market has a lot more room to go down and while Oil has been stealing the show of late – he still believes the housing market is the “Scary Picture”.