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Since the AOL-Time Warner merger, this stock has seen nothing but stagnation and deterioration of price.  Investor confidence in AOL’s ability to execute has waned, and with good reason.  AOL’s management is the least effective in the online ISP/Search/Ad space.  Why would I say such a thing?  Because there is unimpeachable evidence that AOL-Time Warner is the weakest and most vulnerable to a total collapse.

Let’s examine their core income streams to better understand how the AOL division generates revenue.  Most of the revenue is generated from ads that Google delivers to AOL Search users and AOL’s failing dial-up ISP division.  Both of these fledgling operations are nothing less than unmitigated disasters.  On the search side, AOL has admitted that it can not muster the technological sophistication to run its own search engine or advertising, handing the reigns to Google so that AOL can concentrate on losing the rest of its dial-up business.

And losing, they are.  AOL’s dial-up business has faced a dramatic contraction in revenue growth as broadband becomes popular and dial-up prices dropped by over 50% in the last decade.  AOL hasn’t dropped their prices enough, their customer service is the worst in the industry, and many people can obtain DSL, cable or fiber and say goodbye to modems.   If they can’t go broadband, they can at least get a $5-10/month account at a faster and cheaper ISP.

AOL also suffers from another serious problem.  A talent vacuum.  This vacuum exists from the top down and has since the merger.  When’s the last time AOL did something new and original?

AOL has also lost its direction, its consumer appeal and ultimately they may face losing their remaining customer base as more appealing options are readily available.  They can’t attract new customers anymore.

Time Warner has been losing revenue in its entertainment division as movie and music sales dwindle.  Its cable company (TWC), which directly competes with AOL for broadband, has seen a slowdown in subscriber growth.

For all these reasons and more I believe TWX has the potential to retrace from this $13 level all the way back to $3-5 by mid 2009.  I suggest playing the short side as all major levels of multiyear support have been significantly broken down.  Single digits are likely as the next capitulation sell off gets under way.  I feel sorry for the folks that work at AOL-Time Warner, but there’s always ample opportunity to find another job while your company sinks!

I’m not going to blame the credit crisis on Chris Cox.  I’m not going to suggest that his inept management and incompetency regulating the equity markets caused a global rut or that his borderline illegal emergency orders exacerbated the underlying instability of a fragile market.  I’m not going to allege that he’s part of a cabal of crooked politicians that take their queues from the Wall Street Journal rather than executing their duties faithfully.

I won’t try to make him out to be some kind of puppet of the profiteers.  I won’t try to say that he’s in the pocket of big money.  I won’t allege that his motivations are suspicious at best and devious at worst.

I will say that Mr. Cox has single-handedly performed an excellent job of  staging the market for a collapse.  Abolishing the uptick rule July 6th, 2007?  Ingenius!  Way to ramp up the instability.  I’m sure VIX traders were delighted!  I’m sure short sellers were ecstatic.  Until, of course, you told them they weren’t allowed to short!  I wonder what happens when you tell one side of the trade to get lost?  Oh.  Right.  Wicked volatility.  Ah, what a nice roller coaster ride, Mr. Cox.  Care to find where I lost my lunch?

The oversold condition is correcting with a rally that lacks any conviction or merit.  Many sectors are still collapsing.  LIBOR rates are around 7%, Fed Funds have climbed to 5% and now we’re seeing credit markets start to completely lock up from the top down.  The Fed pumped nearly $700B in to the system, and it is still failing, showing that the bail out bill would do little to address the more than $5T in bad debt that’s buried in derivatives.

S&P 500 testing a key resistance level of 1150, which was our last tier of support yesterday before the market fell off a cliff.  The dollar is showing some unprecedented strength against the Euro, GBP, Yen and Franc.  Meanwhile, gold is correcting on the dollar strength.  Perhaps the dollar rally is predicated on the notion that the bill vote failure is deflationary.

Bond yields are rising across the curve as investors put some capital back to work in the equity markets.  Short term bonds are still yielding next to nothing as safety remains a high priority.

Energy markets bounce back after a vicious sell off, but oil has failed to successfully reclaim $100/barrel, while natural gas has found support at $7.

The bouyancy of equity markets entirely depends on continued injections of liquidity by central banks around the world.  Coordinated global rate cuts may be the next step as I mentioned yesterday.   Fed fund’s futures predict a 100% chance of a 25 basis point cut and a 25% chance of a 50 basis point cut for the October meeting, last I checked.

Conditions remain bleak and the path of least resistance remains to the downside.  Be very careful trading this market.  Normal market forces and logic have been surrendered as participants wait with baited breath for some kind of government intervention.

In Asia, equity markets are dropping 3-6% from the continued fear sparked by the credit crisis, a lack of any resolution and the increased pressure from cash strapped institutions liquidating any assets they can.  This downward pressure is probably going to continue in Europe and the US during the Tuesday trading session, despite futures being at the highs of the session now.  Usually bounces like this end by 11am.  Be careful trading!