Consumer Inflation Decelerates Further, Housing Starts Fall

- The Consumer Price Index for August fell -.1% versus estimates of unch. and a .1% increase in July.

- The CPI Ex Food & Energy for August rose .2% versus estimates of a .2% gain and a .2% increase in July.

- Housing Starts for August fell to 1331K versus estimates of 1350K and a downwardly revised 1367K in July.

- Building Permits for August fell to 1307K versus estimates of 1348K and an upwardly revised 1389K in July.

BOTTOM LINE: Consumer prices in the US unexpectedly fell in August for the first time this year, as Americans paid less for gasoline and housing costs were unchanged, Bloomberg said. Gasoline prices fell 4.9% during the month. Clothing prices fell .5% following a .4% gain in July. Medical prices rose .5% versus a .6% increase in July. Auto prices rose just .1%. The Consumer Price Index is now rising at a 2.0% rate year-over-year versus the long-term average of 3.1% and 4.3% in June of last year. I continue to believe inflation has peaked for this cycle and that the long-term trend of disinflation remains firmly in tact.

Builders in the US began work on the fewest homes in 12 years in August, which should help reduce bloated inventories, Bloomberg reported. Residential construction is now down 19% over the last 12 months. The decrease in starts was led by a 38% drop in the Northeast and an 18% decline in the West. Construction increased 11% in the South and 4.2% in the Midwest. I continue to believe home construction will remain muted over the intermediate-term as homebuilders work down inventories.

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Wednesday Watch

Late-Night Headlines
Bloomberg:
- Most ABX indexes jumped, suggesting the perceived risk of subprime-mortgage securities fell, after the Fed lowered its benchmark interest rate a half-percentage point to blunt the effect of a slowdown in housing.
- JPMorgan Chase(JPM) promoted Tom Lee to chief US equity strategist, filling the position vacated when Abhijit Chakrabortti joined rival Morgan Stanley(MS) last month.
- Russian and Chinese spying on the US is approaching Cold War levels, the top US intelligence official told a House committee.
- Typhoon Wipha slammed into the eastern coast of China with winds of 116 mph and headed toward Shanghai, the country’s financial capital, where 200,000 people were evacuated.

Wall Street Journal:
- Stocks Soar as Bernanke Tackles Credit Crunch With Half-Point Move.
- Sun Microsystems(JAVA) expects revenue in China to double within three years, citing executives.
- Countrywide Financial Corp.(CFC) plans to double the number of branches that offer certificates of deposit and money-market accounts, aiming to obtain more deposits to fund mortgage lending.

MarketWatch.com:
- The move by E-Trade Financial(ETFC) to unload its troubled wholesale mortgage business makes the online broker much more attractive as a prospective buyout candidate, according to several analysts.
- Kiss-ups and slackers are equally annoying at work: poll.

NY Times:
- Intel(INTC) gave the first public demonstration on Tuesday of a new generation of computer processors that significantly increase performance without consuming more power.

CNNMoney.com:
- Fed cut could buoy housing markets.

CNBC.com:
- Darden Restaurants(DRI) reported a 20% rise in quarterly net earnings, helped by higher prices and increased customer traffic at its Red Lobster and Olive Garden restaurants. Shares of Darden traded up 1.5% in post market trading after finishing the regular session up 3.5% at $43.84.

Forbes.com:
- Countrywide Financial Corp.(CFC) Chairman and CEO Angelo Mozilo delivered a bullish outlook Tuesday for his company as it grapples with the ongoing housing downturn.

USA Today.com:
- Mattel toys’ lead was 180 times the limit.
- Wal-Mart, whose health coverage for employees has been a target of critics, says it will offer improved options for workers next year that include $4 generic drugs and monthly premium costs of as low as $4.36 on some of its plans.
- Murdoch: Fox business channel aiming at Main Street. “CNBC is a financial channel for Wall Street,” Murdoch told an investor conference in NY sponsored by Goldman Sachs(GS). “We’re for Main Street.” “They dwell too much on failures or scandals,” Murdoch said. “We want to put a lot on innovations and successes, people who are making money.”

Financial Times:
- China Construction Bank, the nation’s second-largest lender, reduced its investment in the country’s “overheated” property market, citing Chairman Guo Shuqing.
- Dick Parsons, chairman and chief executive of Time Warner(TWX), said the company was taking a “hard look” at spinning off its cable division.
- Lehman Brothers(LEH) helped ease concern about the effect of the credit squeeze on bank earnings on Tuesday when it reported better-than-expected third-quarter results and signaled its belief that the worst of the market turmoil was over.

Reuters:
- Fed brightens bank picture, may help deal makers.
- Nasdaq Stock Market(NDAQ) is poised to launch an index made up of companies whose primary focus is the development of drugs, devices and diagnostics to treat neurological disorders, including Alzheimer’s disease, Parkinson’s disease and schizophrenia.
- News Corp.(NWS/A) chief Rupert Murdoch on Tuesday sketched out early plans for Dow Jones, saying he leaned toward making the online Wall Street Journal free but had not yet made a decision.

Economic News:
- Infosys Technologies Ltd. may compete with Microsoft Corp.(MSFT) in a $6.4 billion bid for Sage Group Plc. Intuit Inc.(INTU) and Goldman Sachs(GS) are also likely bidders for Sage. Sage is Britain’s biggest maker of accounting software.

Late Buy/Sell Recommendations
Citigroup:
- eBay’s(EBAY) core growth rate trends in the US improved materially this week, with core down 6.9% y/y QTD, an improvement versus down 8.1% y/y last week. Listings were up 3% w/w, as September promotion and seasonality continue to drive w/w growth acceleration. Maintain Buy rating.
- Reiterated Buy on (NLY), target raised to $19.
- Reiterated Buy on (INTC), target $31.

Night Trading
Asian Indices are +1.0% to +3.25% on average.
S&P 500 futures -.08%.
NASDAQ 100 futures -.04%.

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Earnings of Note
Company/EPS Estimate
- (AIR)/.39
- (KMX)/.29
- (CKR)/.21
- (CLC)/.49
- (CMTL)/.47
- (DBRN)/.42
- (GIS)/.80
- (MLHR)/.50
- (MS)/1.55

Upcoming Splits
- None of note.

Economic Releases
8:30 am EST
- The Consumer Price Index for August is estimated to rise 0.0% versus a .1% gain in July.
- The CPI Ex Food & Energy for August is estimated to rise .2% versus a .2% gain in July.
- Housing Starts for August are estimated to rise to 1350K versus 1381K in July.
- Building Permits for August are estimated to fall to 1348K versus 1373K in July.

10:30 am EST
- Bloomberg consensus estimates call for a weekly crude oil drawdown of 2,025,000 barrels versus a 7,011,000 barrel decline the prior week. Gasoline supplies are estimated to fall by 1,000,000 barrels versus a 666,000 barrel decline the prior week. Distillate supplies are expected to rise by 1,225,000 barrels versus a 1,793,000 barrel build the prior week. Finally, Refinery Utilization is expected to fall by .5% versus a 1.56% decline the prior week.

Other Potential Market Movers
- The weekly EIA energy inventory report, weekly MBA Mortgage Applications report, (NCX) analyst meeting, RBC Consumer Conference, Keybanc Capital Basic Materials & Packaging Conference, ThinkEquity Growth Conference, AG Edwards Emerging Growth Conference, Bank of America Investor Conference, Goldman Sachs Communacopia Conference and UBS Global Paper and Forest Products Conference could also impact trading today.

BOTTOM LINE: Asian indices are sharply higher, boosted by automaker and technology stocks in the region. I expect US equities to open mixed and to rally into the afternoon, finishing modestly higher. The Portfolio is 100% net long heading into the day.

Stocks Soar Most in 4 Years as Fed Unexpectedly Slashes Rates 50 Basis Points

Indices
S&P 500 1,519.78 +2.92%
DJIA 13,739.39 +2.51%
NASDAQ 2,651.66 +2.71%
Russell 2000 806.63 +3.97%
Wilshire 5000 15,239.90 +2.92%
Russell 1000 Growth 609.96 +2.70%
Russell 1000 Value 853.05 +3.08%
Morgan Stanley Consumer 734.34 +2.35%
Morgan Stanley Cyclical 1,049.51 +3.90%
Morgan Stanley Technology 651.96 +2.52%
Transports 4,932.86 +3.92%
Utilities 504.87 +2.01%
MSCI Emerging Markets 139.42 +2.67%

Sentiment/Internals
Total Put/Call 1.05 +1.94%
NYSE Arms .29 -74.36%
Volatility(VIX) 20.35 -23.15%
ISE Sentiment 118.0 +24.21%

Futures Spot Prices
Crude Oil 82.29 +2.1%
Reformulated Gasoline 207.76 +1.63%
Natural Gas 6.53 -1.73%
Heating Oil 226.02 +1.41%
Gold 732.50 +1.20%
Base Metals 233.63 -.38%
Copper 349.0 +2.06%

Economy
10-year US Treasury Yield 4.47% +1 basis point
US Dollar 79.18 -.67%
CRB Index 326.79 +.59%

Leading Sectors
Homebuilders +6.12%
Steel +6.06%
Retail +5.3%

Lagging Sectors
HMOs +1.64%
Hospitals +1.51%
Foods +.47%

Evening Review
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Afternoon Recommendations
Citigroup:
- Reiterated Buy on (VECO).

Afternoon/Evening Headlines
Bloomberg:
- US stocks rallied the most in four years, gold climbed to a 27-year high and two-year Treasury notes gained after the Fed cut its benchmark lending rate by half a percentage point to keep the economy from slowing.
- The Fed lowered its benchmark interest rate by a half point to 4.75%, the first cut in four years.
- Bill Gross, manager of the world’s biggest bond fund at PIMCO, said the Fed may cut interest rates another 2 percentage points.
- The SEC is examining hedge funds for signs of insider trading, demanding information about relationships between managers, employees, family members and public companies.
- Brokerage stocks had their biggest gain in more than a year after the Fed cut its benchmark lending rate to keep the real estate slump from dragging down the US economy and Lehman(LEH) reported a smaller-than-expected drop in profit.
- Hogs fell to a six-month low after China said it will spend $200 million to boost domestic production in a bid to curb high pork prices and food inflation.
- Crude oil climbed above $82/bbl. to a record in NY after the Fed reduced US interest rate more than economists expected.
- US options prices plunged the most since June 2006 on speculation the Fed’s first interest-rate cut since 2003 will calm share-price swings and prevent a recession.
- Best Buy(BBY), the largest consumer-electronics retailer, reported an unexpected rise in profit and increased its yearly earnings forecast on computer and international sales. The shares had their biggest gain in a year.

Advertising Age:
- Google Inc.(GOOG) hired Andy Berndt, co-president of Ogilvy & Mather’s NY office, to head a new unit that will work with marketers, ad agencies and entertainment companies, citing executives.

AP:
- The National Weather Service will narrow areas covered by storm warnings, thanks to a technology that promises to more accurately predict which places are in danger.

BOTTOM LINE: The Portfolio finished higher today on gains in my Retail longs, Biotech longs, Semi longs, Internet longs and Medical longs. I did not trade in the final hour, thus leaving the Portfolio 100% net long. The tone of the market was very positive today as the advance/decline line finished substantially higher, every sector rose and volume was above average. Measures of investor anxiety were slightly above-average into the close, despite today’s gains. Today's overall market action was very bullish. Many stocks and sectors rose substantially more than the major averages. Moreover, the best predictor of long-term inflation, the 10-year yield, is only 1 basis point higher, to 4.48%, on the Fed's move, and the yen is at session lows vs. the U.S. dollar. Fed fund futures now imply an 86% chance of another 25-basis-point cut in October. The 10-year swap rate fell 8.1% today, to 62.63 basis points, over Treasuries. This is the lowest reading since July 5 and a large positive. November home price futures ticked up to $212,800 from $212,200 today. Nikkei futures are now indicating an up 500 open in Japan tonight. The S&P 500 busted free from its 50-day moving-average today and is only 1.8% from its record high reached in July. Many growth stock managers I know are up 30%-40% year-to-date, at their performance highs for the year. Once again, it didn't pay to panic when the usual suspects were screaming about bear markets, crashes and depressions right at the bottom. It is always important to remember that there has never before in U.S. history been so many investors that actually need the market and economy to implode for their style to make sense, and this was never more evident than during the latest correction in this major bull run. It is also one of the main reason sthat stocks likely have much further upside from current levels.

Stocks Soaring into Final Hour on Unexpected 50 Basis Point Fed Rate Cut

BOTTOM LINE: The Portfolio is higher into the final hour on gains in my Biotech longs, Medical longs, Semi longs, Networking longs and Retail longs. I covered my (IWM)/(QQQQ) hedge today, thus leaving the Portfolio 100% net long. The overall tone of the market is very positive today as the advance/decline line is substantially higher, almost every sector is gaining and volume is above average. While Lehman's(LEH) pretax earnings may have been seen as a disappointment by some, they were far from the unmitigated disaster that the stock had been pricing in as it moved relentlessly lower during July and August. As well, Lehman said its liquidity position is stronger than ever and the worst of the credit correction was behind them. The CEO of Hovnanian (HOV) also made some positive comments today. He said that credit availability was "not an issue at this time" and "traffic has been holding up quite nicely." The UK’s Northern Rock also said this morning that it has seen a significant fall-off in withdrawals. European bourses are up 1.5%-2%. Best Buy(BBY) beat estimates and raised its outlook today. This is also a large positive as the imminent consumer collapse argument continues to be supported by little evidence. As well, weekly retail sales rose 2.5% this week vs. a 2.8% gain the prior week. This is still near average rates and up from 1.4% in early July. The retail sector is one of today's best performers, rising 5.0%. There are also several other positives today. The yen is weakening against the U.S. dollar. The three-month Libor rate is falling another basis point and has declined 14 basis points in seven days. The speculative grade credit default swap index is down 3.6% over the last five days. The JPMorgan Emerging Market Bond Index is up 1.0% over the last five days, and the Bear Stearns (BSC) high-yield index is 0.61% higher over the same period. The CBOE total put/call 50-day moving average is 1.09, the highest in history. The VIX was still near early 2003 levels at 25.0 this morning. The 50-day moving average of the ISE Sentiment Index is 118, near its historic low at 110. Moreover, short interest has gone parabolic this year and is just off records. Public short-selling is at record levels, and large equity index futures traders are positioned very bearishly. The Fed has unexpectedly cut the fed funds rate and discount rate by 50 basis points. This has resulted in a gap higher, leaving many large investors likely very underexposed and feeling trapped. The S&P 500 is breaking free from its 50-day. The Nikkei is indicating an up 460 open in Japan. The 10-year yield, the best long-term predictor of inflation, is only 2 basis points higher so far. Fed funds futures are now placing a 72% chance of another 25 basis point cut in October. I expect US stocks to trade mixed-to-higher into the close from current levels on short-covering, performance anxiety, bargain-hunting and less economic pessimism.