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BOTTOM LINE: Overall, last week's market performance was negative as US stocks posted losses even as economic data was mostly positive, energy prices fell and long-term rates were stable. The advance/decline line fell, most sectors declined and volume was heavy on the week. Measures of investor anxiety were higher. However, the AAII % Bulls rose to 44.7% and is now back to average levels. The average 30-year mortgage rate rose to 6.23% which is still only 102 basis points above all-time lows set in June 2003. The benchmark 10-year T-note yield increased 1 basis point on the week as mostly positive economic data and mixed inflation readings offset worries over Iran and a rising US dollar.
Unleaded Gasoline futures fell again and are now 42% below September highs even as refinery utilization remains below normal as a result of the hurricanes and fears over Iranian production disruptions persist. Natural gas inventories fell as expected this week. However, supplies are now 28.0% above the 5-year average, still approaching an all-time record high for this time of year, even as 17% of daily Gulf of Mexico production remains shut-in. Natural gas prices have plunged over 45% in 7 weeks. Gold was about unchanged on the week as geopolitical concerns and mixed inflation data were offset by a rising US dollar.
I still believe prices for many commodities are being driven by fear and record capital inflows into commodity funds, rather than fundamentals. I continue to expect global energy demand destruction, decelerating economic growth and a significant increase in supplies into 2006 to push oil prices substantially lower from current levels. Elevated prices related to Iran only make this outcome more likely. The latest weekly energy data show US oil demand is already down .8% over the last 4 weeks from the same period last year. The EIA is currently projecting US oil demand growth of 1.6% for all of 2006, which is highly unlikely given last year’s decline.
Small-caps outperformed, falling less than the broad market. The Russell 2000 is still up a very strong 7.7% for the year. In my opinion, US small-caps offer similar return potential to that of most emerging international markets with much less risk going forward. Technology shares underperformed this week as investors were disappointed with the forward earnings guidance by several sector leaders. S&P 500 earnings growth for the fourth quarter is still on pace to rise 13% year-over-year, almost double the long-term average. This would be the 15th consecutive quarter of double-digit profit growth, the best streak since record-keeping began in 1936. Moreover, companies have sufficiently lowered the bar as to allow for better-than-expected 1Q results. As of now, analysts are projecting 9.8% earnings growth for the first quarter, still very good by historic standards.
The ECRI Weekly Leading Index fell slightly from cycle highs and is forecasting continued healthy US economic activity. While volatility will likely increase going forward, I still expect the S&P 500 to return 15% this year, notwithstanding any temporary weakness related to issues with Iran. High single-digit earnings growth, average economic growth of around 3%, an end to Fed rate hikes, low long-term interest rates, lower energy prices, a healthy labor market, a more sustainable housing market, p/e multiple expansion, a stable US dollar, decelerating inflation, increased corporate spending, rising demand for US assets and a lifting of irrational pessimism should provide the catalysts for strong gains this year.
*5-day % Change
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