Zugzwang
Chess has a word for the worst spot you can be in, zugzwang.
You have moves to play, but you must play one and every one costs you. In Copenhagen in 1923, Aron Nimzowitsch beat Friedrich Sämisch in what players call the Immortal Zugzwang Game. White had more than twenty legal moves, and every one of them lost.
Trading is the other game. Nobody forces us to move, and passing is always legal. A flat account is a position too.
The market quality score was below 50 in 19 of the last 20 sessions, and exactly 50 in the other one. Below 50 we don’t care about this market. The best move is hands in pockets, or short, and we go short only in special cases, so lately we protect the account. We did what the rules allow, which is almost nothing, a few tests in small size, and most of the time our activity was close to zero.
The Nasdaq has arrived at a level that matters, around 703 on the chart below. We touched it in June and July, early August, the third week of August, early September and mid September, and prices are back at midsummer levels. Most of the time it has held, at least for a bounce.
From here we see two roads. One is a dead cat bounce, a weak rebound inside a downtrend, probably up to the falling 10-day average. The other is a bear flag, a short pause after a drop that tends to end with a break lower and a probable test of the 200-day average, which the market hasn’t touched since April, when it gapped up through it and stayed above.
In chess a move is also called a tempo, and you spend them. We spent ours on the new TradeDeck Megatrends dashboard, which for now only we can see.
The old Megatrends had hand-picked baskets, industries, and gains and losses by time window. The new one still shows the top bulls and bears with percentages, and adds an engine built on the same principle as the Market Quality Score (homepage of the app). It reads more than 150 industries and baskets and gives each a phase, from starting up to stable to losing steam.
Think of a compass with no pile of indicators and moving averages. Each group also has a 52-week range, a sparkline and its members with their gains and losses, so you can see who leads.
The list view is the detailed one.
The map draws constellations, and the more groups sit on the right (weakening, exhausting, lagging), the less healthy the market. Today 123 of 152 are there, four in five. On the other side two groups are new, Regulated Gas and Travel Lodging, and three are emerging, Beverages, Food Confectioners and Specialty Retail.
Under the map are the 10 strongest and weakest, and a log of phase changes over the last 40 sessions. On 22 October Memory and Storage and Optical and Photonics slid from weakening to lagging, so the data center world is getting worse. On 20 October beverages, packaged food and confectioners climbed together from lagging to emerging, which looks to us like money heading somewhere specific. We haven’t measured that part.
(work in progress before realease!)
It goes public probably within a week, hopefully next week, the week after at the latest. It will look different from the old page, so don’t be alarmed. We’ll announce every function, then open a limited number of seats at a special launch price, to bring in more beta testers.
It suits visual people, and anyone newer to this who wants one tool.
Here’s a look at this week’s market health, with a breakdown of index and sector performance.
📈 Free Setup: Make It Count
AEO: American Eagle Outfitters Inc
What they do: A US apparel retailer
Why watch? American Eagle reported a 48.7% gross margin for the second quarter, almost ten points better than a year ago, and the stock still opened more than 16% lower. The market took the tariff refund out of the numbers straight away. What was left was one brand doing very well and another stuck with the wrong jeans.
Revenue was $1.4 billion, up 8%, and comparable sales rose 6%. Comparable sales only count stores and websites that have been open long enough to compare with last year, so new openings can’t inflate the figure. The margin headline includes a net $179 million of tariff refunds. That’s money the company paid in duties under the emergency tariff programme and is now getting back, and on its own it added about 1,300 basis points to gross margin. Without it, gross margin fell. Operating profit looks the same once you take the refund out. It came in at $211 million against $103 million last year, but $161 million of that was refunds, so selling clothes earned about $50 million. That’s less than half of last year, though it’s at the top of the $45 million to $50 million range management guided before the refunds came in. Earnings per share were $0.79.
The two brands are heading in opposite directions. Aerie and OFFLINE grew revenue 25% to $536 million, with comparable sales up 19%, and management says every category there is selling. American Eagle grew less than 1% to $806 million, with comps down 1%, a little better than the 2% fall in the first quarter. Women’s denim moved toward fits like low rise, and AE was left holding the older cuts. When you’re restocking what sells and still clearing what doesn’t, you end up marking things down, and markdowns cost margin. Seasonal stock is the biggest exposure, with shorts at the top of the list. Men’s is holding up, and online is doing better than stores.
There’s enough room on the balance sheet to clean this up: $148 million of cash and investments, $55 million of long-term debt, around $1.9 billion of lease obligations on the stores, and $783 million of total liquidity counting the revolving credit line. Inventory cost rose 14% on 9% more units. Some of that is stock for back-to-school and the holidays, and some is older fits that haven’t sold. Free cash flow was still negative, refunds included.
Full-year operating income guidance went up to $540 million to $550 million, from $390 million to $410 million. The old range left the refunds out and the new one includes them. Take out roughly $150 million of refund and the underlying number sits around the bottom of the old range, and management admitted on the call that “math would say we are trimming the back half guide a bit.” American Eagle is now expected to be roughly flat in the third quarter, down from up low single digits before, with some extra markdown budget set aside. For the quarter, the company expects comparable sales up mid to high single digits, Aerie and OFFLINE between the high teens and 20%, and operating income of $110 million to $115 million.
Technical Outlook: The stock is holding up better than the broader market. Over the past month apparel has been the best-performing industry by percentage gain, and it ranked seventh this week, so we’re paying attention to the group. AEO is stuck in a channel, and $18.40 is the level to watch. The last attempt to push through hit a heavy seller and failed. The 20-day EMA sits very close to price. That’s the support that matters, and it’s where a stop belongs if you’re starting a position.
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