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In a repeat performance of the mid-July to mid-August swoon, another wave of selling began in earnest this week and this time it involved some sector rotation. While the previous wave was centered upon the financials, this week’s action was far more widespread and caught the tech sector in its web. Plainly, the stock markets are warning of further problems down the road as news continues to filter out that the subprime problems that were professed to be contained, are actually, running amok.

It was Morgan Stanley that got the ball rolling when it stated this week that its subprime exposure had been lowered by $3.7 billion due to the sharp deterioration in credit markets in September and October. The asset writedown left the company’s net subprime exposure at $6.0 billion assuming total losses on investments. Late in the week, an announcement from Wachovia that it was writing down $1.1 billion from its asset-backed debt was greeted almost with relief as its stock bounced back on heavy volume.

Other banking stocks had similar performances despite the heavy losses across the broader market and in fact, many financial institutions’ stocks bounced back from heavy losses on Friday, in what appears to be a bout of short covering. There was no fundamental change in the environment and indeed, it appears to be worsening daily, but after having been sold hard the past few sessions, traders were willing to cover and take profits going into the weekend and avoid uncertainty.

In an effort to add liquidity to a commercial paper market that has dried up astonishingly fast, Bank of America, Citigroup and JP Morgan have collaborated on a plan to structure a fund involving at least $75 billion to be used as an emergency pool of money from which short-term credit could be drawn as an alternative to commercial paper. The fund could be in operation by year-end but some analysts believe that the debt markets have tightened so much that any such fund is prone to failure.

In a page from the book of unintended consequences, the dollar continues to weaken as investors predict more lending rate cuts from the Fed in order to clean up the subprime disaster and accordingly, the greenback reached new lows versus currencies such as the euro and pound this week. The US dollar was pressured by belief that the Fed would be motivated to cut overnight interest rates in an effort to expand the money supply and inflate the economy. However Chinese comments midweek suggesting that China should divest portions of its US debt and buy debt of stronger currencies was also a major contributing factor to downward pressure on the dollar.

Technically Speaking

All indexes were sold heavily this week and exceptionally, it was the tech sector that was hardest hit. The ND-100, which until now had been the pillar of strength for equities due to the lack of financial issues, experienced the rudest shock by losing more than 8% in value this week. This performance contrasted sharply with the broader markets where losses were relatively lighter near the 4% level.

Volumes were extremely heavy matching those seen in the summer during the sell off and the strong bounce from the lows on Thursday led many to believe that a selling capitulation had occurred. An extension of the losses on Friday had analysts questioning that theory however and in particular, the failure of the Dow Jones Industrials index at its 200-day moving average is a bad omen for the short term. Even in August, the DJ-30 never closed below this mark and now the August low of 12500 stands as the key support level signifying the bulls’ strength.

In similar fashion, the S&P 500 is likely to test the August lows near 1375 but in this case, these lows correspond also to the March lows and failure here signals much deeper losses potentially.

The Nasdaq twins have fallen dramatically the past few sessions but still remain well above their respective 200-day moving averages. A test of these critical areas is likely however we can expect a bounce from the losses of the past week perhaps sooner as stochastics on all indexes have dropped into vastly oversold territory.

New Buy Recommendations (in order of preference):

None.

New Short Sales

None.

Stock Positions to Sell/Exit:

The increased volatility resulted in three more positions being liquidated on their respective stops this week and we recommend selling DISH as it would appear to have weakened considerably over the past couple of weeks and threatens to drop much further now. Though it may simply be a test of the Oct 22 low, we view it as a breakdown, which will not survive this test.

Portfolio Comments:

New stops have been added to the list while others have been modified. Those that have blanks are being carried unstopped for now. Please see our complete list of stops in the table below.

List of Current Stock Recommendations:

Action Ratings. The following is the legend for designating immediate action
for our stock recommendations. The first is B, meaning the stock is timely
to buy but the case for doing so right here is not overwhelming. Either the
stock may have gotten ahead of itself and may be vulnerable to a retracement or
else the stock has been performing disappointingly but may simply be
regrouping. B+ and B++ indicate stocks for which there is a technical case
to buy now, with plusses adding weight according to how many there are, up
to a maximum of two. Stocks rated H are ones to hold, awaiting confirmation
to buy more or to sell. SELL, of course, means what it says. It seldom pays
to override this designation. In the case of stocks held short, the rating is S where positions should be retained. S+ and S++ indicate stocks for which there is a technical case to add to the positions with plusses adding weight similar to long positions. The maximum number of plus signs is 2.

N.B. There are no longer restrictions on foreign stocks held in Canadian retirement savings accounts.

¹ Peabody Energy spun off its coal assets into Patriot Coal on Oct 31 at a ratio of 1 share of PCX for every 10 shares of BTU held.

New stops in BOLD

* Stop on a closing basis

** Buy if above entry price

*** Split-adjusted price