Economic Week in Review

ECRI Weekly Leading Index 131.10 -.23%

Personal Income for July rose .1% versus estimates of a .5% rise and a .2% increase in June. Personal Spending for July rose .8% versus estimates of a .7% increase and an upwardly revised .2% decline in June. The PCE Core Index rose 1.5% year-over-year versus estimates of a 1.5% increase and a prior estimate of 1.5%. "With the upward revisions there really wasn't any significant slowing in spending over the last couple of months," said Michael Englund at Action Economics. "We are going to see some pretty solid spending numbers." Englund is forecasting a 3% to 3.5% annualized increase in spending this quarter, Bloomberg reported. Wages and supplements to salaries increased 5.3% at an annual rate in the second quarter, up from 5.2% in the first three months of the year, Bloomberg said. Incomes in July were restrained by a decline in government transfer receipts because of a reduction in the federal matching rate of Medicaid reimbursements. Those payments had been boosted by last year's tax cuts, Bloomberg reported.

The Chicago Purchasing Manager Index for August fell to 57.3 versus estimates of 60.0 and a reading of 64.7 in July. "After growing briskly earlier in the year, manufacturing activity has slowed recently but was still expanding solidly," said Steven Wood, chief economist at Insight Economics. The Chicago purchasers' employment index rose to 51.1 from 45.6 in July, Bloomberg reported. The group's index of prices paid for raw materials surged to 86.6 from 77.6 in July, Bloomberg said.

Consumer Confidence for August fell to 98.2 versus estimates of 103.5 and a reading of 105.7 in July. Consumer confidence in the U.S. economy fell from a 2-year high as job growth slowed and oil prices reached a record, Bloomberg said. "The August reading still is high," the Conference Board's Smith said. "Peoples' assessment of the job situation is August is still a lot better than it was in April or May," said Stephen Stanley, chief economist at RBS Greenwich Capital Markets. Moreover, the survey was completed Aug. 24, before the recent decline in oil prices, Bloomberg reported. Retail gasoline prices have averaged $1.92 a gallon this month, down from $1.95 in July, according to figures from the U.S. Energy Department.

Construction Spending for July rose .4% to a record annual rate of $997.2 billion versus estimates of .4% and 0.0% in June. The rise was the fifth in six months, Bloomberg said. More favorable weather conditions, increased transportation expenditures and lower mortgage rates contributed to the increase in July, Bloomberg reported. "Interest rates are low, inflation is relatively low, the economy is growing at a healthy clip and we've had highly accommodative fiscal and monetary policies for the past three years – all of which adds up to solid growth within the construction industry," said Michael Englund.

ISM Manufacturing for August fell to 59.0 versus estimates of 60.0 and a reading of 62.0 in July. ISM Prices Paid for August rose to 81.5 versus estimates of 79.0 and a reading of 77.0 in July. The manufacturing index has shown expansion, marked by readings higher than 50, since June 2003, Bloomberg said. "The factory sector is just cooling from super strong to solid," said James O'Sullivan, a senior economist at UBS Securities.

Total Vehicle Sales for August were 16.6 million versus estimates of 16.8 million and 17.3 million in July. Domestic Vehicle Sales for August were 13.5 million versus estimates of 13.6 million and 14.1 million in July. Fuel prices have prospective buyers "evaluating whether they should move down to a car or a smaller SUV and that takes time," Global Insight forecaster Rebecca Lindland said. Automakers increased the amount they spent on incentives last month to $4,203 from $4,027 in July and almost unchanged from August 2003, Bloomberg reported.

Factory Orders for July rose 1.3% versus estimates of a 1.1% gain and an upwardly revised 1.2% increase in June. The increase was the most in four months as orders increased from commercial aircraft, appliances and business equipment, Bloomberg said. Rising profits and demand are giving companies the cash to replace aging equipment. Moreover, unfilled orders accelerated in July, suggesting production will pick up and boost the economy in the next few months, Bloomberg reported. "The strong performance of orders, shipments and backlogs indicates that the industrial sector is moving forward and concerns about the economy's soft spot may have been overstated," said Lynn Reaser, chief economist at Banc of America Capital Management.

The Unemployment rate for August fell to 5.4% versus estimates of 5.5% and 5.5% in July. Average Hourly Earnings rose .3% in August versus estimates of a .2% increase and an upwardly revised .4% gain in July. The Change in Non-farm Payrolls for August was 144,000 versus estimates of 150,000 and an upwardly revised increase of 73K in July. The Change in Manufacturing Payrolls for August was 22,000 versus estimates of 15,000 and 6,000 in July. The unemployment rate is now at its lowest level since October 2001 and below the average of the 1970's, 1980's and 1990's, Bloomberg reported. "It's a very reassuring report – one that indicates the economy is doing better in the third quarter than it did in the second," said Lyle Gramley, a former Fed governor that is now an adviser at Schwab Soundview. The economy has now added 1.4 million jobs this year, Bloomberg reported. Business has "been very consistent with a recovering economy, and we don't see any sign that things are slowing down at all," said William Zollars, CEO of Yellow Roadway, the biggest U.S. trucking company. As well, CEOs are more optimistic about the economy than they have been for two years, anticipating greater sales and hiring through the rest of this year and into 2005, according to a recently released survey by the Business Roundtable. 89% of executives polled predicted sales would rise over the next six months and 40% expected payrolls to increase, Bloomberg said.

ISM Non-Manufacturing for August fell to 58.2 versus estimates of 62.0 and a reading of 64.8 in July. However, a measure of employment rose, while the gauge of price increases fell, Bloomberg reported. "I think you have to say from our numbers this month, the soft patch was still with us in August," Ralph Kauffman, chairman of the non-manufacturing committee at the institute said. "People are going back to work and they're buying office supplies," Ron Sargent, president and CEO of Staples said. "We're seeing good momentum in every single part of the business. We're pretty upbeat and bullish about the economy in the second half of the year."

Bottom Line: Overall, last week's economic data were mixed. The bounce-back in employment growth is a very good sign. Several million jobs were likely created during the economic bubble in the later part of the 90's by hyped-up companies with flawed or fraudulent business models. While current employment growth is mild by mania standards, it is nonetheless solid and created by profitable companies with sustainable business models using much less "creative" accounting. Moreover, the unemployment rate is low by historical measures, notwithstanding the media's attempts to paint a negative picture of the job market. As well, multiple surveys point to continuing improvement in the labor market throughout the year. This will boost incomes which will result in increased confidence and sustain spending. The recent plunge in natural gas prices(-31.3%) and declines in gasoline(-10.3%) and oil prices(-10.1%) should also boost confidence and increase spending. The PCE Core Index, Greenspan's favorite inflation gauge, remained unchanged from the prior month and should decelerate in the future with declining commodity prices. As well, long-term interest rates, the best gauge of inflationary fears, remain very low by historic standards. Construction spending bounced back sharply in July after record setting bad weather in June for most of the country. Hurricanes Charley and Frances will result in strong construction spending throughout the remainder of the year. While the ISM readings on manufacturing and services continue to show deceleration from record-setting levels, I view this as temporary and expect them to follow factory activity and re-accelerate in the fourth quarter. I continue to expect energy prices to fall through year-end as terrorism fears diminish and demand slows from Asia as a result of decelerating Chinese economic growth. Furthermore, I continue to expect a sharp acceleration in U.S. economic growth during the fourth quarter. Diminishing terrorism fears, an end to the extreme negativity surrounding the U.S. election, better weather, companies purchasing equipment before tax incentives expire at year-end, lower energy prices, rebuilding in Florida and lower interest rates should boost economic growth to around 5% during the fourth quarter. This will likely result in a very large number of corporate earnings surprises as companies beat recently lowered estimates.

Weekly Scoreboard*

Indices
S&P 500 1,113.63 +.53%
Dow 10,260.20 +.64%
NASDAQ 1,844.48 -.95%
Russell 2000 556.24 +.83%
S&P Equity Long/Short Index 962.11 +.69%
Put/Call 1.02 +36.0%
NYSE Arms 1.0 -1.96%
Volatility(VIX) 13.91 -5.44%
AAII % Bulls 41.51 -.05%
US Dollar 89.63 -.22%
CRB 273.50 +1.17%

Futures Spot Prices
Gold 402.50 -.76%
Crude Oil 43.99 +2.06%
Unleaded Gasoline 120.65 +3.12%
Natural Gas 4.67 -9.75%
Base Metals 105.57 -2.43%
10-year US Treasury Yield 4.29% +1.61%
Average 30-year Mortgage Rate 5.77% -.86%

Leading Sectors
Oil Service +4.57%
Energy +3.99%
Iron/Steel +3.22%

Lagging Sectors
Internet -1.97%
Software -2.07%
Semis -6.41%

*% Gain or loss for the week

Mid-day Update

S&P 500 1,115.90 -.22%
NASDAQ 1,846.21 -1.45%

Leading Sectors
Oil Service +1.72%
Telecom +.73%
Restaurants +.67%

Lagging Sectors
Disk Drives -1.81%
Networking -2.10%
Semis -4.87%

Other
Crude Oil 44.0 -.14%
Natural Gas 4.67 -1.93%
Gold 402.50 -1.35%
Base Metals 105.57 -1.29%
U.S. Dollar 89.65 +.74%
10-Yr. T-note Yield 4.28% +1.75%
VIX 14.02 -1.82%
Put/Call 1.05 +12.90%
NYSE Arms .80 +73.91%

Market Movers
INTC -7.4% after lowering 3Q revenue, gross margin forecasts and multiple downgrades.
EFII -22.4% after lowering 3Q and 4Q outlook.
LNG +15.3% after saying it Sabine Pass unit will sell liquefied natural gas regasification capacity of 1 billion cubic feet a day for 20 years beginning no later than April 1, 2009, to a unit of Total SA.
MICC +11.8% after saying its Paktel subsidiary reached an agreement with PTA, a Pakistani regulator, that lets Paktel switch on its wireless network for $11.1 million, less than the $39 million originally expected.
ESL -12.6% after missing 3Q estimates and lowering 04 outlook.
*Semis and Semi-equipment down across-the-board on INTC report.

Economic Data
Unemployment Rate for August fell to 5.4% versus estimates of 5.5% and 5.5% in July.
Average Hourly Earnings for August rose .3% versus estimates of a .2% rise and an upwardly revised .4% increase in July.
Change in Non-farm payrolls for August was 144K versus estimates of 150K and an upwardly revised 73K in July.
Change in Manufacturing payrolls for August was 22K versus estimates of 15K and a downwardly revised 6K in July.
Average Weekly Hours was 33.8 versus estimates of 33.7 and 33.8 in July.
ISM Non-Manufacturing for August was 58.2 versus estimates of 62.0 and 64.8 in July.

Recommendations
Goldman Sachs reiterated Outperform on INTC, target $29. Goldman reiterated Outperform on AMD, FDC, GILD, BIIB, MDT. Citi SmithBarney reiterated Buy on INTC, target $25.50. Citi reiterated Buy on GPS, target $25.00. Goldman reiterated Outperform on PAYX, CEN, NKE and ADP.

Mid-day News
U.S. stocks are lower mid-day on weakness in technology shares after a disappointing mid-quarter report by Intel. Disney postponed its expansion of video-on-demand service to explore agreements that could include the feature in set-top boxes, computers and other devices, the AP said. Charter Communications, the cable tv operator controlled by Microsoft co-founder Paul Allen, may offer subscribers free premium services as part of a proposed settlement for a lawsuit accusing it of misleading customers, the AP reported. More than 98% of the acute-care hospitals in the U.S. are reporting health-care data on the treatment of heart attacks, heart failure and pneumonia, Reuters reported. Kelly Services President Camden told CNBC that today's August jobs report shows the proportion of new jobs that are temporary fell to 10% of the total from 20% a few months ago, Bloomberg reported. Puma AG plans to buy a license from Ferrari SpA that will allow it to use its brand, Frankfurter Allgemeine Zeitung reported. Pfizer agreed to pay $430 million to resolve claims against a subsidiary that sold products containing asbestos in the early 1970's, Bloomberg reported. U.S. employers added 144,000 workers to payrolls in August, the most since May and the first acceleration in five months, suggesting the economy is emerging from a mid-year lull, Bloomberg reported. The unemployment rate fell again in August to 5.4%, Bloomberg said. Crude oil futures are falling on reduced concern that shipments from Russia and Iraq will be disrupted, Bloomberg reported. President Bush has a "bold agenda" for streamlining the 3,000-page tax code, with no initiative ruled out, U.S. Treasury Secretary Snow said. The U.S. will ask China to agree to a voluntary limit on textile and clothing exports in a bid to head of petitions and complaints from U.S. textile makers, Bloomberg reported. IBM said it introduced new data-storage machines to take small-business sales from EMC and Dell, Bloomberg said. Hurricane Frances may cost insurers less than computer modelers predicted yesterday after the storm weakened and was steering clear of Florida's densely populated southern coast, Risk Management Solutions said. Former President Clinton has had a heart attack and will have quadruple-bypass surgery, the New York Times reported. Russian troops are fighting terrorists holding hostages in the country's south, after storming a school where at least 1,000 people had been held since Wednesday. More than 100 of the captives died, including children, Bloomberg reported.

BOTTOM LINE: The Portfolio is down modestly mid-day as my falling technology longs are more than offsetting my rising security, education and Russian ADR longs. I have not traded today and the Portfolio is still 125% net long. The damage today is mostly concentrated in the semiconductor sector, with many consumer-related stocks rising. Breadth has improved off the morning lows and many commodities are falling in price once again. I expect U.S. stocks to move modestly higher into the close on bargain-hunting in the tech sector and short-covering in anticipation of a rise next week as many investors return from vacation and conclude that fundamentals will improve during the fourth quarter.

Friday Watch

Earnings of Note
Company/Estimate
None of note.

Splits
None of note.

Economic Data
Unemployment Rate for August estimated at 5.5% versus 5.5% in July.
Average Hourly Earnings for August estimated up .2% versus a .3% increase in July.
Change in Non-farm Payrolls estimated at 150K versus 32K in July.
Change in Manufacturing Payrolls estimated at 15K versus 10K in July.
Average Weekly Hours for August estimated at 33.7 versus 33.7 in July.
ISM Non-Manufacturing for August estimated at 62.0 versus 64.8 in July.

Recommendations
None of note.

Late-Night News
Asian indices are lower on declines in technology shares in the region after a disappointing report by Intel after the U.S. close. A poll of likely voters just released by Zogby International shows President Bush with a 46-44 lead over Senator Kerry. Kerry led Bush, 48-43 in the previous poll, Bloomberg said. A judge refused a request by Google and Overture search engines to dismiss a lawsuit by Geico insurance that challenges the companies' advertising sales practices, Cnet News reported. China forecast a sevenfold increase in the number of vehicles on the nation's streets to 140 million by 2010, the state-run Xinhua news agency said. China's economic growth may slow to between 7-8% this year as the government limits investment in industries including steel and cement, Vice Finance Minister Li Yong said. President Bush said he will "never relent" in the war against terror, and set new domestic goals including a simplified U.S. tax code and more federal aid to communities that have lost jobs, Bloomberg reported. A gun battle erupted at dawn around a school in southern Russia where terrorists are holding hostages, including women and children, AFP reported. The number of hostages is around 1500, rather than the 300 officially reported, an unidentified women released yesterday told Izvestiya daily. Hurricane Frances, which is expected to be the costliest storm to hit the U.S. in more than a decade, contined its approach toward Florida, forcing about 2.5 million people to flee their homes, Bloomberg said.

Late-Night Trading
Asian Indices are -1.0% to unch. on average.
S&P 500 indicated -.46%.
NASDAQ 100 indicated -1.07%

BOTTOM LINE: I expect U.S. equities to open lower in the morning on weakness in technology shares and worries over slowing job growth. However, I expect stocks to mount a rally later in the day on pro-business political rhetoric, diminishing domestic terrorism fears, stabilizing energy prices, falling interest rates and optimism over a reacceleration of economic growth during the fourth quarter. The Portfolio is 125% net long heading into tomorrow.

Thursday Close

S&P 500 1,118.31 +1.12%
NASDAQ 1,873.43 +1.24%

Leading Sectors
Retail +2.74%
Disk Drives +2.46%
Airlines +2.31%

Lagging Sectors
Homebuilders +.23%
Hospitals +.12%
Oil Service -.04%

Other
Crude Oil 44.28 +.50%
Natural Gas 4.77 +.02%
Gold 408.20 +.05%
Base Metals 106.95 -1.14%
U.S. Dollar 88.93 -.08%
10-Yr. T-note Yield 4.21% +2.39%
VIX 14.28 -4.23%
Put/Call .93 -10.58%
NYSE Arms .46 -52.08%

After-hours Movers
INTC -7.63% after lowering 3Q revenue and gross margin forecasts.
*Semis and Semi-equipment down across the board on Intel report.

Recommendations
Goldman Sachs reiterated Outperform on CAL and PFE. Goldman reiterated Underperform on PSS. RAE Systems'(RAE) recent decline in its share price makes the stock an attractive buy, Business Week reported. Shares of Washington Mutual(WM) may jump 13% within 12 months as the company, whose mortgage business was cut by rising interest rates, reduces costs, Business Week reported. Chubb Corp.(CBB) shares are undervalued in spite of the risk to insurance stocks because of the hurricane season, Business Week reported.

After-hours News
U.S. stocks finished higher today as an afternoon decline in oil prices spurred investor optimism. After the close, Lehman Brothers Holdings offered to pay as much as $1.4 billion for Cazenove Group, the U.K.'s oldest independent broker, the Financial Times reported. For Allstate, Hartford Financial landfall of Hurricane Frances, billions of dollars in claims hang on a 50-mile shift in the storm's path, Bloomberg reported. President Bush tonight will call for changes in the nation's tax, health care, pension and job-training systems as he lays out a second-term agenda in which he pledges to make the country safer and help the economy, Bloomberg reported. Pfizer, the world's largest drug-maker said U.S. regulators requested more information before approving its pain and seizure drug Lyrica for three conditions and rejected the medicine for a fourth use, Bloomberg reported. Intel cut its forecasts for third-quarter revenue and profit margins as growth in personal computer sales slows, Bloomberg said. Pfizer said it sued 18 Internet sites for selling unapproved and illegal copies of its best-selling cholesterol drug Lipitor, Bloomberg reported. Chartered Semi Manufacturing, the world's third-largest provider of made-to-order semiconductors, stuck to its forecast for third-quarter earnings, Bloomberg reported. Low-carb diets as the one popularized by nutrition guru Robert Atkins lose their advantages over other diets within a year, a Lancet study said.

BOTTOM LINE: The Portfolio finished higher today on strength in my internet, healthcare and telecom equipment longs. I did not trade in the afternoon, thus leaving the Portfolio 125% net long. The tone of the market was pretty good today, but not great. Considering the gains, I would have liked to see better volume and stronger breadth. Intel's report is being received more negatively than I anticipated after-hours. However, forward-looking investors will likely buy shares on the lower open tomorrow and push the stock higher throughout the day. The employment report will likely be better than last month, but fail to meet expectations due to Hurricane Charley. Most investors will view President Bush's speech favorably. I will wait until tomorrow afternoon to decide whether or not to cut back market exposure.

Mid-day Update

S&P 500 1,107.75 +.16%
NASDAQ 1,854.74 +.23%

Leading Sectors
Retail +1.36%
Broadcasting +1.33%
Foods +.73%

Lagging Sectors
Restaurants -.55%
Semis -.59%
Homebuilders -.66%

Other
Crude Oil 45.0 +2.34%
Natural Gas 4.91 -1.01%
Gold 408.80 -.49%
Base Metals 106.95 -1.14%
U.S. Dollar 88.96 +.10%
10-Yr. T-note Yield 4.17% +1.45%
VIX 14.91 unch.
Put/Call 1.02 -1.92%
NYSE Arms .88 -8.33%

Market Movers
TASR +14.2% on short squeeze.
GPS +5.1% on better-than-expected same-store-sales for August.
CHS -6.2% after disappointing August sales and muted guidance.
PLCE +11.8% after strong August sales report.
AEOS +5.8% after strong August sales, boosting 3Q guidance and initiating dividend.
MLI +8.2% after saying it will pay a one-time dividend of $6.50 in cash and $8.50 in 6% bonds for each share.
STGS +5.4% after strong August sales report.
ROST +8.3% after better-than-expected August sales and positive guidance.
VTS -15.3% after saying it will delay reporting fourth-quarter earnings as it reviews whether depreciation of equipment was accounted for properly.
ARO -3.6% after August sales didn't meet optimistic expectations.

Economic Data
Final 2Q Non-farm Productivity rose 2.5% versus estimates of a 2.7% gain and a prior estimate of 2.9%.
Final 2Q Unit Labor Costs rose 1.8% versus estimates of a 2.0% rise and a prior estimate of 1.9%.
Initial Jobless Claims for last week were 362K versus estimates of 340K and 343K the prior week.
Continuing Claims were 2882K versus estimates of 2880K and a downwardly revised 2887K prior.
Factory Orders for July rose 1.3% versus estimates of a 1.1% increase and an upwardly revised 1.2% gain in June.

Recommendations
Goldman Sachs reiterated Underperform on DPH, VTS and GM. Goldman reiterated Outperform on BSX, WMT, BBY, WAG and CAL. Citi SmithBarney reiterated Buy on CSGS, target $18.50. Legg Mason raised MCBI to Buy, target $18. Thomas Weisel reiterated Outperform on AUXL, target $12. AEOS raised to Sector Outperform at CIBC, target $46. MRO raised to Outperform at Morgan Stanley. SLB raised to Outperform at CSFB, target $76. NE raised to Outperform at CSFB, target $53. FST raised to Outperform at CSFB, target $38. AHC raised to Outperform at CSFB, target $93. WYNN raised to Buy at Bank of America, target $48. PAS cut to Underweight at JP Morgan. MOGN raised to Outperform at Bear Stearns.

Mid-day News
U.S. stocks are modestly higher mid-day on a better-than-expected economic report and declining domestic terrorism fears. Online job postings, as measured by the Monster Employment Index, showed a healthy gain in August, reversing the modest month-to-month decline seen in July, Bloomberg reported. Retired Army General Tommy Franks, who was commander in chief of the U.S. Central Command during the invasions of Iraq and Afghanistan, endorsed President Bush for re-election, the Washington Post reported. France implemented its ban on the Islamic headscarf and other "conspicuous" signs of religious belief in state schools for the first time today as classes resumed for the academic year, Agence France-Presse reported. Bank of America CEO said the company will move one of its four main units to Boston, the Boston Globe reported. News Corp.'s Fox News Channel drew a bigger audience than any of the U.S. broadcast networks for the first time ever during Tuesday's coverage of the Republican Convention, the LA Times reported. California's Richmond City Council voted to proceed with plans to sell Point Molate to a casino developer, a move that enraged opponents including ChevronTexaco, the San Francisco Chronicle said. Hurricane Frances struck the southeast Bahamas today and moved closer to Florida as hundreds of thousands of residents along the state's coast prepared to evacuate their homes, Bloomberg said. Terrorists holding more than 300 hostages at a school in southern Russia released some women and children soon after talks to end the crisis resumed, the North Ossetian government said. Crude oil is rising for a second day on reports of a pipeline fire in Iraq and after Russia's largest oil exporter, OAO Yukos Oil, said it may cut output, Bloomberg reported. Nortel said it won't have financial statements for last year and the first half of 2004 ready until the end of October, a month later than planned, Bloomberg said. U.S. factory orders beat economists' expectations, rising in July by the most in four months, reflecting increased demand for commercial aircraft, appliances and business equipment, Bloomberg reported.

BOTTOM LINE: The Portfolio is unchanged mid-day as gains in my healthcare, internet and alternative energy longs are being offset by declines in my retail and RFID-related longs. I have not traded today and the Portfolio is still 125% net long. I expect U.S. stocks to rise modestly into the close in anticipation of pro-business political rhetoric, subsiding terrorism fears and short-covering.