Bulls Snatch Victory From Jaws Of Defeat - But Will It Last?

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 |  Includes: AAPL, LNKD, ZNGA
by: Mercenary Trader

Last week, the bulls pulled another save out of their hat - turning what initially looked like a losing week into a respectable advance to a new 12-week high.

The broad market rebound came on the heels of three individual policymaker statements, all aimed at restoring confidence and reviving sentiment before the selling could pick up momentum.

The first statement came late Tuesday afternoon, as the Fed channeled information to their unofficial mouthpiece, WSJEditor Jon Hilsenrath, indicating that officials were becoming more willing to embark on more stimulus measures. The indication was that policymakers were now questioning whether to take action at the upcoming meeting July 31 and August 1, or to wait until the September meeting.

The subsequent article was published just hours after Apple Corp. (NASDAQ:AAPL) issued a disappointing earnings report. Immediately after Apple's report, the post-market S&P futures were sharply lower. But after the article came out, the broad market recovered and shrugged off Apple's poor numbers.

While the timing certainly appeared suspicious (a panic move by the Fed?), traders grasped onto the implied promise for more action, and pushed equity prices higher on Wednesday.

The second statement came on Thursday when Mario Draghi, the head of the European Central Bank (ECB), said that "the ECB is ready to do whatever it takes to preserve the euro." Of course the actual definition of "whatever it takes" was left out of the statement, but traders bought the news just the same.

The bullish reaction to this statement is somewhat laughable. European leaders have been trying to avoid catastrophe with words for more than two years now, with precious little in the way of actual solutions. But this week, another promise of action was enough to add fuel to the bullish fire started by the US Fed.

Friday morning, a third statement gave traders a final excuse to accelerate buy programs into the end of the week. This time it was Angela Merkel and French President Francois Hollande offering a joint statement promising to do anything to support the European region.

Once again, the statement lacked any actual course of action, but was enough to ignite another round of buying. Both the Dow Jones Industrial Average and the S&P 500 broke their previous swing highs, and the buying pressure was robust right through the closing bell.

While the announcements from policy makers do precious little to change the economic landscape (isn't this something like the 20th promise to "fix" the European debt crisis??), it doesn't make any sense to step in front of this train.

On Friday, we covered the last of our short positions and enter this week completely flat. From a macro perspective, there are still far too many dangers in both developed and emerging markets. And at the same time, equities with a higher risk profile (see the small-cap Russell 2000 and Nasdaq 100 indices) are lagging the blue-chip averages.

At this point, we simply can't justify embracing the bullish action. The rebound in sentiment is based on a shaky foundation that could collapse with a misstep from just about any European policymaker, from a disappointing Fed statement this week, or from a set of poor earnings announcements as we continue to move through the second quarter reporting season.

Speaking of earnings reports, there were three bellwether announcements last week that underscore the vulnerability of risk assets in this turbulent trading environment.

Apple Revenue Figures Disappoint

Tuesday afternoon, Apple Inc. released its second quarter earnings report - and the numbers weren't pretty.

The company blamed disappointing revenue on a timing issue. Specifically, consumers are delaying purchases for now in anticipation of the new iPhone 5 release. Of course, weak consumer spending fits with the profile we have already seen for global discretionary purchases, but we can give Apple the benefit of the doubt on the timing issue.

A more serious problem here is that the release of the iPhone 5 may end up being farther down the road than consumers (and investors) currently expect.

A report out of China indicates that Apple may be having difficulties securing supplies of high-end chips. If supply chain issues end up delaying a new product release, the third quarter could end up looking a lot like the second quarter - with more disappointment and more excuses from management.

Apple traded as much as 30 points lower following the announcement, but failed to take the broad market down with it (due to the corresponding Fed "leak"). Still, a disappointing announcement from this bellwether raises concern both for high-end global retailers and more specifically for consumer technology companies.

Apple is a unique company, with strong cash-flow and a stock that is not excessively overvalued. But the company relies on an ever-improving roster of new products to continue to drive sales and maintain high profitability levels.

Any disappointment with a major new product launch could add to the initial spike lower from earnings.

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Zynga - Who Needs a Sustainable Business Model?

The second major earnings bust was Zynga Inc. (NASDAQ:ZNGA). The maker of Farmville completely whiffed, coming in light on both revenue and earnings.

Analysts were expecting the company to post revenue of 343.1 million, and the company only reported $332.5 million. More importantly, earnings came in at 1 cent per share, versus expectations of a 6 cent profit.

The stock gapped lower, losing nearly 40% of its value overnight. Zynga is now trading at 30 cents on the dollar compared to its initial offering.

Looking forward, analysts are now expecting the company to generate 8 cents per share for the current year, and 12 cents for 2013. But these estimates are still in flux and there is a wide range of opinions (including one analyst posting an estimate of $0.00 for 2013).

Zynga's "greater fool" game (buying at an unjustifiable price in the hopes of selling to a greater fool for more) came to an end very quickly after its IPO transaction.

The failure of this social media darling should continue to have a ripple effect on the sector as investors have trouble justifying current prices for other social media stocks trading at exorbitant multiples with questionable growth trajectories.

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Facebook Growth Decelerates

The king of social media reported earnings Thursday after the close, and the picture wasn't pretty.

Revenue growth decelerated for the 5th consecutive quarter and employee stock compensation actually resulted in a reported loss for the quarter. Excluding special items, Facebook's profit came in at 12 cents per share.

Costs for the quarter were sharply higher than expectations, as Facebook ramped up spending on marketing and sales. The underlying message is that it is getting more and more expensive to "buy" revenue growth. Operating margins came in at 43%, a significant decline from the 53% reported last year.

As the stock hits a new low, IPO investors are facing a 37% decline from the offering price, and the stock is still pricing at a premium growth valuation.

Shortly after the Facebook IPO, we noted that the carnage had only begun. The social media bubble peaked with the IPO transaction, and "true believers" have been crushed as risk appetite dries up and both retail and institutional investors hit the exits.

This week, LinkedIn Corporation (NYSE:LNKD) reports earnings and we will be watching to see if the price action continues to confirm the deteriorating sentiment for the group.

Analysts are expecting earnings of $0.16 on revenues of $216 million. The stock is trading at an astounding 147 times expected earnings for 2012, and 83 times 2013 estimates. This leaves plenty of room for disappointment, but it is difficult to see how the company could offer any news that would boost the already inflated market cap for this high-flying social media stock.

So despite a coordinated effort by officials on both sides of the Atlantic, the market's broad advance is compromised by weak action in some very important individual equities.

As we mentioned last week, earnings numbers have been coming in ahead of expectations, but companies have been reporting light revenues. Guidance numbers have also been coming in below expectations as management teams realize that it is going to be difficult to achieve targets in a very tough economic environment.

Heading into the week, we're watching for bearish setups which will only be entered if the price action moves in our favor. We're unable to justify chasing the bullish action in the broad indices without at least a few days of consolidation, while short entries in names that have already broken and consolidated offer the best reward-to-risk scenarios.

Trade 'em well this week!

Disclosure: As active traders, authors may have positions long or short in any securities mentioned. Full disclaimer can be found here: http://mercenarytrader.com/legal/.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.