The remarkable rally that began in late November 2003 is beginning to show signs of fatigue as demonstrated by the index performance over the course of the past eight trading days. Last week, the majority of the major averages were under pressure before hitting 26-month highs on Monday, January 26th. The market’s fatigue has become more evident as the strong gains seen on Monday have evaporated amid negative earnings guidance from tech bellwether Novellus and a hint of higher interest rates from the Fed. For the week ending January 23rd, the Dow Jones Industrial Average lost 32 points (-0.3%) and finished at 10568.
The action has been even more impressive over at the NASDAQ. The week ending November 12, 2003 saw the NASDAQ close at 1894. Over the ensuing nine weeks, the average topped out at 2154 on January 26, a 260 point gain (+13.73%). However, the index has not been able to hold this level and is set to close below 2080 for Wednesday. For the week ending January 23rd, the NASDAQ was down for the first time in seven weeks as it lost 17 points to close at 2123.
THE COMPASS PORTFOLIOS
No changes to our models amid an increase in volatility, both upward and downward. Many of our indicators have improved to the point of demonstrating adequate institutional support for all equity segments, but also indicating that they are ahead of themselves at the current time. I encourage all clients to anticipate a normal period of weakness to give the institutions a chance to digest the significant moves for 2003 and early 2004. If this weakness occurs inside of normal ranges, we will be able to continue to hold positions; however, should the markets fail to hold, we stand ready to begin to reduce equity exposure accordingly.
The Federal Reserve’s Open Market Committee (FOMC), headed by Alan Greenspan met today (Wednesday) and while not changing interest rates outright, slightly altered its language. The phrase, “considerable period of time” as used to describe their timeframe for keeping interest rates at 45-year lows was altered to say that they rather could “be patient with rates.” This is significant, because it is likely to be taken by both the bond and stock markets to indicate that at some point in the not-too-distant future, the FOMC may be forced to raise rates, tightening money supply, credit, and making it more difficult for businesses to continue their current spending plans. Both the bond market and the stock markets have reacted negatively to this change, sending interest rates sharply higher, the stock market sharply lower and should eventually raise the specter of higher mortgage rates in a few days.
This is a development that should come as no surprise to the markets, as many economists have predicted higher rates an inevitability. However, with both markets priced to perfection, there is very little room for surprise, and no tolerance for a hint of bad news.
This scenario leaves open the possibility that both markets could respond negatively to a trend of higher interest rates, creating an even more challenging environment for investors in 2004.