Market Week in Review

S&P 500 1,098.70 -.78% for the week.

U.S. stocks fell modestly last week as broad-based weakness in commodity and interest rate-sensitive shares outweighed relative strength in technology stocks. Rising energy prices and fears that the Fed is falling behind the curve with respect to inflation dominated trading throughout the week. Commodity-related stocks took another beating on comments by Alan Greenspan that a slowing Chinese economy would further pressure commodity prices. As well, a Bank of America downgrade of the oil service sector sent energy-related stocks reeling even as the price of crude hits its highest level since the Gulf War. The selling in the later part of the week seemed to climax on Friday as 3,185 stocks fell and 261 advanced on the NYSE. This 12-to-1 negative ratio was the broadest since Oct. 27, 1997. On this day, the S&P 500 ended an 11% slide and proceeded to rally almost 37% over the next 9 months.

There were also a number of positive developments throughout the week. Tyco, the world's largest marker of security systems, said second-quarter profit rose more than 600%. The company also raised its third-quarter and 04 forecasts. Royal Bank of Scotland agreed to buy Charter One Financial for $10.5 billion, sending the shares 22% higher, and said it will continue to hunt for U.S. acquisition targets. The Semiconductor Industry Association said it will soon hike industry growth forecasts to 20% for 04 and DRAMeXchange.com said prices for memory chips are rising for the first time in over a month. This resulted in a 3.05% gain for the SOX on the week, in a significant show of relative strength. This is important as this group had fallen 21.4% from its recent highs and led the entire market lower. Finally, block trades on the NASDAQ rose 24.3% from the prior week, implying that large institutions or "smart money" is moving back into technology shares.

Bottom Line: I believe fears of inflation, slowing earnings growth and a hard-landing by the Chinese economy are exaggerated. Most commodity prices are currently falling and the U.S. economy in not nearly as dependent on low oil prices as it once was. Crude Oil accounts for less than 5% of inflation. Almost 70% of inflation is derived from rising Unit Labor Costs, which are currently subdued. Furthermore, the U.S. dollar appears to be breaking up through its downtrend line that has held since February 02, which should further pressure commodity prices. Earnings acceleration has always peaked during the first few quarters of a recovery from recessions. Earnings are currently accelerating at the fastest pace on record. It is inevitable that growth will soon decelerate from these unsustainable levels. However, I find no empirical evidence of any correlation between decelerating earnings growth from very high levels and a significant decline in stock prices. Finally, investors seem to think that China has all of a sudden imploded, which is currently not the case. Any company that sells to China or benefits from Chinese economic strength has been ravaged over the last several weeks. I would recommend investors with a long-term horizon that are looking for a bit of international exposure begin to accumulate a basket of these shares at current levels. In my opinion, China is still in the early stages of a multi-year surge in economic growth that will yield huge benefits to companies that operate in the region.