Today's Headlines

Bloomberg:
- Merrill Lynch(MER), Goldman Sachs(GS) and Bear Stearns(BSC), three of the five biggest US securities firms, had their long-term credit ratings raised by S&P, which cited improvements in liquidity and risk management.
- US regulators need to examine the $1.3 trillion hedge-fund industry to make sure investors are protected and systemic risks they might pose are known, Treasury Secretary Henry Paulson said.
- General Motors(GM), losing sales to Toyota Motor(TM), will use some of the $9 billion in savings from cost cuts this year to make vehicles that match the Japanese automaker in technology and fuel efficiency.
- US Treasuries are rising after a US government report showed inflation subsided last quarter, fueling speculation the Fed’s next move will be to lower interest rates.
- Investors in hedge funds overseen by George Soros, Louis Bacon and Paul Jones would have made more money this year by buying shares of a stock-index mutual fund. Managers of so-called macro hedge funds have lagged behind market benchmarks such as the S&P 500 after being caught off guard by reversals in stock, bond and commodity prices. Macro funds have risen on average 1.8% this year through Oct. 24 versus a 12% return for the S&P 500, according to Hedge Fund Research.
- Naval forces from the US-led coalition have been sent to protect Saudi Arabia’s Ras Tanura oil terminal after the threat of a terrorist attack from the sea.
- Crude oil was little changed despite threats to facilities in the Middle East amid speculation that ample inventories could meet any supply disruption.

Wall Street Journal:
- US construction spending will fall 1% next year. The anticipated decline will mostly be due to a 5% decline in the building of single-family homes and a 3% fall in the construction of shopping malls and retail outlets.
- Ticketmaster, owned by (IACI), has obtained an exclusive contract to supply tickets to the Beijing Summer Olympics.

NY Times:
- China and North Korea, which exchange oil, coal and electricity and goods, have continued to trade with one another under UN sanctions imposed in response to North Korea’s nuclear test.
- US corporate executives say their companies’ auditors are charging too much money while refusing to provide enough service. The auditors have been able to do so because of changes brought about by the Sarbanes-Oxley Act.
- Democrats are united in criticizing President Bush over the situation in Iraq but divided over how to improve it.

Commercial Mortgage Alert:
- The group proposing to buy Harrah’s Entertainment(HET) received commitments from banks willing to provide $7 billion of mortgage debt to help finance the takeover.

Interfax:
- Alcoa(AL) will spend about $160 million to increase production at its plant in Samara, Russia.

Globe and Mail:
- Canada won’t give amnesty for illegal workers employed in the underground economy.

Growth Slows, Inflation Subsides, Consumption Strong, Confidence Rising

- Advance 3Q GDP rose 1.6% versus estimates of a 2.0% increase and a 2.6% gain in 2Q.
- Advance 3Q GDP Price Index rose 1.8% versus estimates of a 2.8% increase and a 3.3% gain in 2Q.
- Advance 3Q Personal Consumption rose 3.1% versus estimates of a 3.1% increase and a 2.6% gain in 2Q.
- Advance 3Q Core PCE rose 2.3% versus estimates of a 2.5% increase and a 2.7% gain in 2Q.
- Final Univ. of Mich. Consumer Confidence for October rose to 93.6 versus estimates of 92.7 and a prior reading of 92.3

BOTTOM LINE: The US economy grew less than economists forecast last quarter, Bloomberg reported. A 17.4% decline in residential housing construction was the main reason for the slower growth. Also hampering growth, companies added less to inventories during the quarter. There were several signs the slowdown may prove temporary. Consumer spending, which accounts for about 70% of the economy, increased 3.1% versus a 2.6% gain in the second quarter as rising incomes and lower energy prices helped offset the effects of the housing slowdown. The price of gas this month has averaged $2.25/gallon versus $3.00/gallon during July. Business spending on new equipment and software surged 6.4% during the quarter versus a 4.4% increase in the second quarter. The Core PCE Index, the Fed’s favorite inflation gauge, rose 2.3% during the quarter versus a 2.7% gain the prior quarter. The GDP Price Index rose 1.8% versus a 3.3% gain in the prior quarter. I expect US GDP Growth to bounce back to around 3% this quarter, while inflation continues to moderate.

Consumer Confidence in the US rose to the highest in 15 months in October as plunging gas prices, a strong job market and rising stock prices left more money in Americans’ pockets, Bloomberg reported. The current conditions component of the index, which reflects consumers attitude about their current financial situation and whether it’s a good time to buy big-ticket items, soared to 107.3 from 96.6 the prior month. Workers’ average hourly earnings rose 4% over the last 12 months, the largest gain in five years and unemployment is at a historically low 4.6%. I continue to believe consumer confidence will reach new cycle highs over the coming months as the job market remains healthy, housing stabilizes, interest rates remain low, inflation decelerates further, stocks continue to rise, irrational pessimism lifts and the mid-term election ends.

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Friday Watch

Late-Night Headlines
Bloomberg:
- Japan’s consumer price gains unexpectedly slowed in September, prompting speculation the central bank will refrain from raising interest rates until next year.
- The yen weakened to a record against the euro after a government report showed an unexpected slowing in the pace of consumer price gains, raising concern the nation hasn’t fully emerged from its seven-year battle with deflation.
- China Oilfield Services Ltd., a unit of the nation’s third-largest oil producer, drilled 13% more wells in the first nine months of this year as China intensifies its search for oil and gas.
- Islamist fighters in Somalia have sieged control of a trading town and are massing to the east of Baidoa, the seat of the interim government.
- Australia’s senior Muslim cleric’s assertion that women who dress immodestly invite sexual assault could do “lasting damage” to the country’s Islamic community, Prime Minister John Howard said. Egyptian-born Sheik Taj Din al-Hilali last month delivered a sermon in which he likened women who don’t wear the Islamic headscarf to “uncovered meat” that falls prey to alley cats.

Late Buy/Sell Recommendations
Citigroup:
- Reiterated Buy on (SFI), target $50.

Business Week:
- Solexa(SLXA), which makes DNA sequencing products, may rise as much as 50% on sales of its genome analysis system, citing Leerink Swann’s John Sullivan.
- Lazard Ltd.(LAZ), the investment bank that helped invent mergers and acquisitions as a specialty, has expanded in new areas in the face of competition, citing an interview with Chairman and CEO Wasserstein.

Night Trading
Asian Indices are -.50% to +.50% on average.
S&P 500 indicated -.14%.
NASDAQ 100 indicated -.04%.

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Earnings of Note
Company/EPS Estimate
- (ALEX)/.52
- (AT)/.64
- (BHI)/1.08
- (BC)/.46
- (CAH)/.76
- (CVX)/2.03
- (CEG)/1.28
- (EXC)/1.05
- (FO)/1.33
- (IR)/.86
- (ITT)/.76
- (NOV).96
- (TE)/.34

Upcoming Splits
- None of note

Economic Releases
8:30 am EST
- Advance 3Q GDP is estimated to rise 2.0% versus a 2.6% rise in 2Q.
- Advance 3Q GDP Price Index is estimated to rise 2.8% versus a 3.3% rise in 2Q.
- Advance 3Q Personal Consumption is estimated to rise 3.1% versus a 2.6% gain in 2Q.
- Advance 3Q Core PCE is estimates to rise 2.5% versus a 2.7% gain in 2Q.

9:45 am EST
- The Final Univ. of Mich. Consumer Confidence reading for October is estimated to rise to 92.7 versus a prior estimate of 92.3.

BOTTOM LINE: Asian indices are mostly lower, weighed down by financial shares in the region. I expect US equities to open modestly lower and to rally into the afternoon, finishing modestly higher. The Portfolio is 100% net long heading into the day.

Stocks Surge on Heavy Volume as Energy Prices Fall, Profits Remain Strong and Long-term Rates Fall

Indices
S&P 500 1,389.08 +.50%
DJIA 12,163.66 +.24%
NASDAQ 2,379.10 +.96%
Russell 2000 776.02 +1.16%
Wilshire 5000 13,907.14 +1.02%
S&P Barra Growth 644.28 +.48%
S&P Barra Value 742.70 +.51%
Morgan Stanley Consumer 672.42 +.35%
Morgan Stanley Cyclical 866.75 +.62%
Morgan Stanley Technology 554.82 +.66%
Transports 4,788.72 +.14%
Utilities 450.44 -.41%
Put/Call .78 -7.14%
NYSE Arms 1.14 +7.80%
Volatility(VIX) 10.56 -.94%
ISE Sentiment 166.0 +9.93%
US Dollar 85.89 -.57%
CRB 311.78 -.32%

Futures Spot Prices
Crude Oil 60.29 -1.81%
Unleaded Gasoline 156.70 -1.59%
Natural Gas 7.47 -2.85%
Heating Oil 169.85 -2.33%
Gold 599.90 +.02%
Base Metals 243.97 +.07%
Copper 339.50 -.15%
10-year US Treasury Yield 4.72% -.97%

Leading Sectors
Airlines +2.44%
HMOs +2.17%
Retail +1.90%

Lagging Sectors
Oil Tankers -.52%
Steel -.68%
Drugs -.93%

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Afternoon Recommendations
Bank of America:
- Rate (PEIX) Sell, target $12.50

Afternoon/Evening Headlines
Bloomberg:
- US stocks extended a weeklong rally, pushing the S&P 500 toward its best month since 2003 and sending the DJIA to another all-time high.
- Gasoline futures fell more than 2%, the biggest drop in three weeks, on speculation current inventories did not justify yesterday’s 3.6% rise.
- Crude oil fell over $1/bbl. on speculation that US inventories are adequate to meet demand in coming weeks.
- Microsoft(MSFT) said first quarter profit rose 11%, helped by higher revenue from server software.
- Shares of Home Inns & Hotels Management(HMIN), China’s second-largest budget hotel chain, surged 63% in their fist day of trading on the Nasdaq Stock Market today.

Nikkei English News:
- The NYSE proposed a financial and operational partnership with the Tokyo Stock Exchange.

BOTTOM LINE: The Portfolio finished higher today on gains in my Semi longs, Medical longs, Retail longs and Biotech 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, most sectors rose and volume was heavy. Measures of investor anxiety were mostly lower into the close. Today's overall market action was very bullish. I especially liked the slow grind higher throughout the day rather than a sharp compressed move. As well, the NYSE Arms was at above-average levels again throughout the day. Tomorrow's GDP report and inflation reading will likely result in another move lower in long rates. Natural gas gave up all of this morning's gains and is now down about 2.7%. The recent surge in prices was related more to another bout of record speculation by investment funds than fundamental improvements. Natural gas storage is at all-time high levels heading into the commodity's seasonally weak period which begins over the next couple of weeks. I suspect natural gas has made another meaningful top.

Nasdaq Surging on Heavy Volume as Corporate Profits Exceed Estimates, Energy Prices Fall and Long-term Rates Decline

BOTTOM LINE: The Portfolio is higher into the final hour on gains in my Semiconductor longs, Biotech longs, Retail longs and Computer longs. I have not traded today, thus leaving the Portfolio 100% net long. The tone of the market is very positive as the advance/decline line is substantially higher, most sectors are gaining and volume is heavy. Intuitive Surgical (ISRG) is rising 3.2% today ahead of its earnings report after the close, however the stock is still well off highs. I suspect the company will once again beat estimates and give conservative guidance. In the past, the always-conservative guidance has, at times, spooked investors. However, bullish sentiment is more subdued heading into this evening's report. The short interest ratio has increased from a low of 1.47 in February to 3.46 recently. The Open Interest Put/Call for ISRG is currently .93 vs. a low of .57 in March. Implied volatility has risen from 38% in September to 68% currently. HSBC recently initiated the stock with an overweight rating and put a $136 price target on the shares. I suspect that if the company is able to exceed estimates, which I expect, that investors will finally ignore the conservative guidance as the sentiment towards pure growth stocks continues to improve. I remain long the stock and still expect it to exceed its all-time high of $139.50 this quarter. I expect US stocks to trade modestly higher into the close from current levels on short-covering, strong profit reports, lower long-term rates, lower energy prices and investment manager performance anxiety.