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Complacency vs. Wishful ThinkingThe major equity averages turned in mixed performances for the first quarter, but only the Dow industrials and the semiconductors ended the quarter lower. During the quarter, several indices, such as the Dow Jones Industrial Average, the S&P 500, the Nasdaq, the Dow Jones Transportation Average and the Dow Jones Utilities Average, set new all-time highs. However, the increased volatility, which we've seen since I made my
|First-Quarter Scorecard |
|Market||Current Price||% Gain or Loss||2006 Close||2007 First Half High||Percent Off High||2007 First Half Low|
First, the Dow Jones Industrial Average slipped 0.9% in the first quarter of this year and fell 3.5% from its all-time high of 12,796 set on Feb. 20. The Dow is between my new quarterly pivot at 12,312 and my semiannual pivot at 12,492. With declining weekly momentum, a weekly close below 12,312 is more likely than a weekly close above 12,492. On the daily chart, you can see that the Dow is below its 50-day simple moving average at 12,454, which indicates risk to the 200-day simple moving average at 11,900.
|Dow Jones Industrial Average |
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|Philadelphia Stock Exchange Semiconductor Index |
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I don't show any supports from my model, so a weekly close below the 200-week simple moving average at 454.42 would be yet another bear track. The SOX is below semiannual and quarterly pivots at 475.26 and 482.15, with quarterly and monthly resistances at 509.26 and 514.09, respectively.
Stretched Equity ValuationsMany strategists have lowered earnings growth estimates from the high single digits to low single digits. Plus, several sectors, such as basic industries, capital goods, consumer services, energy and transportation, ended the first quarter more overvalued than they were at the end of 2006. Consumer durables, consumer nondurables, finance and public utilities are slightly less overvalued. Health care and technology are less undervalued. Basic industries are more overvalued on renewed speculation in precious metals and on M&A potential involving industrial metals. Energy is also more overvalued as geopolitical risks mount, such as the latest standoff between the U.K. and Iran; this sector has 29 of 93 strong buy ratings. The finance sector is less overvalued as it weakens on the fallout from real estate woes. The subprime mortgage mess is the tip of the iceberg, with balance-sheet issues growing at community and regional banks. According to recent FDIC data, banks are exposed to $565 billion in construction and development loans, which represent about 60% of the pipeline of commitments to the industry. Investors are flocking to the dividend and M&A prospects in public utilities. If the sector returns to fair value, it could take at least five years for dividends to offset share-price weakness.
|Valuations, Sector by Sector |
|Basic Industries||11.8% overvalued||17.5% overvalued|
|Capital Goods||4.0% overvalued||6.4% overvalued|
|Consumer Durables||16.9% overvalued||15.9% overvalued|
|Consumer Non-Durables||13.6% overvalued||11.6% overvalued|
|Consumer Services||5.7% overvalued||7.1% overvalued|
|Energy||0.2% overvalued||9.3% overvalued|
|Finance||10.1% overvalued||4.8% overvalued|
|Health Care||3.1% undervalued||1.4% undervalued|
|Public Utilities||17.5% overvalued||16.2% overvalued|
|Technology||3.2% undervalued||0.4% undervalued|
|Transportation||8.3% overvalued||10.4% overvalued|