Heroic comeback as car sales surprise, oil slips off highs

Kevin Pendley | Jul 01, 2008 4:54pm EDT | Comment

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Small-cap stocks staged an impressive recovery rally Tuesday afternoon, bouncing back from three-month lows and reversing a 15-handle collapse as vehicle sales came in better than feared, and crude oil prices slipped back off the intraday highs. The Russell 2000 (NYSE:IWM) closed up 1.93, or 0.28%, at 691.59.

Finding a silver lining in car sales from domestic icons General Motors Corp. (NYSE:GM) and Ford (NYSE:F) seems like a stretch when one considers GM sales were off 18.5% and Ford’s sales collapsed 28%, but GM did manage to retain its title as the car sales king when many were predicting that Toyota would steal the crown away for the first time in history. GM shares stormed back 10% at one point today before retreating in the final minutes of trading. GM stock has been falling off a cliff of late, reaching 54-year lows Monday. Even Ford managed to climb back briefly into the green before settling down after plunging to 17-year lows in the morning.

It’s worth noting that volume today was brisk in cash and derivatives markets, even though this was expected to be a slow march toward a holiday-shortened week. Apparently the dramatic slide into bear market territory for small caps brought some of the bulls out of slumber and clearly attracted some bears who either couldn’t hang on to losing trades anymore, or who couldn’t resist riding the wave lower.

Despite the impressive recovery bounce off the lows, some market watchers remain unconvinced that a major low is at hand. “I think the market is far, far away from the bottom still. We haven’t felt enough pain yet, inflation is understated and we could see the Russell slide another 20% over the next 18 months if we don’t get a turnaround in this economic news and on the inflation front,” Dominic Boyle, market strategist with Lind-Waldock said, in a telephone interview.

“You can’t force consumers to pay $4.50 for a gallon of gas and not think it won’t have a big impact on the market. What’s more, the Fed is pinned between a rock and a hard place. They can’t cut rates because of inflation and they can’t raise rates as aggressively as they would like because the economy is struggling,” Boyle said.

The second half of the year got off to an ominous start this morning as small-caps staged a dramatic downward spiral that saw the Russell join the Dow in official bear market territory. The designation for a bear market is classified as a 20% decline off the highs, and the Dow had already hit that point Monday, but small caps didn’t get there until this morning’s collapse. For those keeping track, the 20% line for the Russell is at 685.18, which means the afternoon bounce lifted the market back on a close above that point.

Although crude oil futures pulled back off the intraday highs, the energy market is still on an upside roll, which keeps equities on the defensive. Heightened tension between Iran and Israel has prompted the market to retain something of a supply risk premium as Iran has threatened to move on the Straight of Hormuz if attacked, and that waterway sees transport on some 40% of the world’s oil supplies. And it’s not like commodity inflation is a one-trick pony anymore. Corn prices recently set record highs, gold hit 10-week highs this morning, base metals have been on the rise, and today soybeans hit record highs. The Commodity Research Bureau Index of 19 commodity markets climbed to yet another record today as well.

On the morning decline in stocks, safe haven flow away from equities and into credit instruments played a big part in the move, but that push leveled off in the afternoon. Still, money flow issues remain a concern for the stock market. If equities don’t find a tradable bottom soon, then investors will continue to flee stocks in favor of bonds, cash and even physical markets.

If the market needs to find a series of bullish economic reports to stabilize, then perhaps this morning’s ISM Manufacturing Survey can start a trend of upside data surprises. The headline figure on the ISM report came out at 50.2, well above the forecast for a reading of 48.6. From a psychological standpoint, seeing the reading above the 50.0 contraction line was a welcome relief for the market. When the report first came out this morning, it sparked an eight-handle bounce in the Russell 2000, but the market later resumed the slide before finding traction late in the session. It should be noted that even the ISM report wasn’t without concern, after all, the prices paid index climbed to 91.5, the highest level since 1979.

“Manufacturing activity grew slightly in June following declines in the prior four months,” Steven Wood, chief economist with Insight Economics, said in an email. “The current level of the index is consistent with a stagnant manufacturing sector (kept afloat by booming exports) and a slowly growing overall economy. For the index to suggest a recession in the broad economy it would have to fall to around 44%. Despite shrinking activity, price pressures are stubbornly high, reflecting the global demand for energy and commodities.”

Broad market sectors on the rise today included consumer finance, education services, home furnishing retail, gas utilities, biotech, regional banks and general merchandise stores. On the downside, wireless telecoms, steel, aluminum, casinos and industrial REITS were all out of favor with buyers.

Individual small caps of note today included The Aristotle Corp. (Nasdaq:ARTL), which reversed course from setting fresh lows in the morning to a gain of 11%. Saga Communications (NYSE:SGA), rallied about 17%, recouping steep declines from the previous three sessions. Also, AZZ Inc. (NYSE:AZZ) rose about 11%, hitting fresh 52-week highs.

On the downside, Senomyx Inc. (Nasdaq:SNMX) tumbled 14%, sinking to 52-week lows. Dollar Thrifty Automotive Group (NYSE:DTG), collapsed nearly 40% on unusually brisk volume as the company issued a profit warning.

Looking at the chart picture today, the dynamic recovery rally off fresh move lows left a bullish hammer pattern in play on the Russell 2000, Dow and S&P 500 charts. These formations are often seen at important bottoms, and should be respected, especially if the market musters followthrough upside action the next couple of sessions. If the Russell slips back below 681, it would invalidate the hammer bottom and suggest a resumption of the downdraft. On the upside, resistance comes in Wednesday at 701 and 707. Looking ahead to Wednesday’s session, employment stats from ADP should come out around 8:15 a.m. ET, and could have a big impact on the morning trade ahead of Thursday’s monthly jobs report.