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Monday Watch

Weekend Headlines
Bloomberg:
- Nicolas Sarkozy claimed a mandate for change after his election as French president, pledging to unify the country as he began promoting a program of tax cuts, tougher prison sentences and tighter immigration rules. “The people of France have chosen to break with their ideas, habits and behavior of the past,” Sarkozy said. “I will restore the value of work, authority, morals, respect, and merit. I’ll restore national pride and national identity,” he said.
- Dow Jones’(DJ) owners and directors were sued by a shareholder seeking to compel acceptance of a $5 billion buyout offer by News Corp.(NWS/A) Chairman Rupert Murdoch.
- The number of US children hospitalized by a form of diabetes almost tripled from 1997-2003, largely because of obesity, according to a study.
- US Treasury 10-year notes gained last week, pushing their yields lower than those of two-year notes for the first time in four weeks, amid signs inflation is moderating.
- The US dollar rose last week against the euro as private reports showing resilience in US manufacturing and services industries reduced concern over a slowdown in the world’s largest economy.
- Berkshire Hathaway(BRK/A) shareholders voted by a 53-to-1 margin against an investor proposal calling on the firm to divest its $3.3 billion stake in PetroChina because it’s controlled by a company that does business in Sudan.
- The subprime mortgage crisis won’t be “any huge anchor” to the economy, though lenders and borrowers will have “plenty of misery,” Berkshire Hathaway Chairman Warren Buffett said.
- ``Spider-Man 3,'' starring Tobey Maguire, set a three-day box-office record at U.S. and Canadian theaters, taking in $148 million for Sony Corp.(SNE)
- Street Sense came from next-to-last to win the 133^rd Kentucky Derby before the third-largest crowd in race history.
- Berkshire Hathaway’s Warren Buffett usually laments that his company has more cash than investment opportunities. Yesterday he envisioned an acquisition so big that he’d have to sell some stocks to free up funds.
- People’s Bank of China Governor Zhou Xiaochuan said there’s room to raise commercial banks’ reserve requirements further after seven increases in 11 months failed to slow lending and inflation.
- Billionaire investor George Soros plans to start a foreign-affairs research institute in Europe Soros, who spent $27.5 million trying to defeat President Bush in the 2004 election, said the US can’t deal with global affairs on its own. Garton Ash, a professor of European Studies at Oxford University who is helping Soros with the plans, said that the new institute would concern itself with global inequality and climate change, similar to the US Council on Foreign Relations.
- Lakshman Achuthan, managing director at Economic Cycle Research Institute(ECRI), says US economy “growing healthy.”(video)

Wall Street Journal:
- The SEC and NY state attorney general’s office are investigating trading in shares and options of Dow Jones(DJ) prior to a $5 billion bid by News Corp.(NWS/A).
- US lawmakers are considering implementing a new standard for energy-efficient lighting that may result in the elimination of the common incandescent light bulb in 10 years.
- James Ottaway Jr., whose family controls 6.2% of Dow Jones Class B supervoting shares, opposes News Corp.’s(NWS/A) $5 billion bid for the company.
- Berkshire Hathaway’s(BRK/A) billionaire investor Warren Buffett said most low-cost index funds will beat hedge funds or hedge funds of funds over any 10-year period.

NY Times:
- Microsoft Corp.(MSFT) is talking with Yahoo!(YHOO) about a possible joint venture that focuses on a partnership of advertising networks or Internet units, a personal briefed on the talks said. A “creative partnership” is a possibility rather than an acquisition by Microsoft, the person said. An outright acquisition may face opposition by Yahoo! executives, who want to focus on the Internet and don’t want to become part of Microsoft.
- The character of Gordon Gekko, the manipulative suspender-wearing financier played by Michael Douglas in the film “Wall Street,” will be revived in a new movie.
- Anti-war groups that have banded together to form a coalition are seeking to pressure Democrats in Congress. The Americans Against Escalation in Iraq coalition may splinter if the Democratic leadership doesn’t stick with a deadline for US troops to leave Iraq. MoveOn.org’s leaders this week sent a letter to Democratic leaders warning them not to pass a bill that fails to impose any measures to end the war.
- Goldman Sachs(GS) and General Electric(GE) are among the companies that have developed products and divisions to capitalize on demand for investments that promote social and environmental values.
- Several leading liberal law professors contributed to a US appeal court decision in March to strike down a gun control law on Second Amendment grounds for the first time in the nation’s history.

Byte and Switch:
- Google(GOOG), which plans to build a major data center in Oklahoma this week, appears to be eyeing a location in Council Bluffs, Iowa, for another of its growing array of technology sites.

Forbes.com:
- Think chief executives get fat paychecks? People who manage piles of money do much better.

Bespoke Investment Group:
- The Bear Market in Analyst Sentiment. It appears as though the close the S&P 500 gets to its old highs, the less likely analysts are to embrace this bull market.

AP:
- President Bush declared a major disaster exists in Kansas after a powerful tornado nearly destroyed the town of Greensburg two days ago, leaving nine people dead.

Reuters:
- Carl Icahn said he may seek to fire Motorola Inc.(MOT) CEO Zander if he fails to improve results at the mobile-phone maker this year.

Financial Times:
- Reuters Group Plc appeared ready to recommend an offer from Thomson Corp.
- BT Group(BT) is planning to announce a $4 billion share buyback when it releases full-year results last this month.
- Berkshire Hathaway(BRK/A) CEO Buffett may select his successor as investment chief by giving as many as four managers up to $5 billion each and see how they perform.
- Blackstone Group’s proposed $60 billion IPO could be affected by a US Congress initiative to make private equity firms and hedge funds pay more tax.

London-based Times:
- Reuters Group Plc may be valued at as much as $17.5 billion in a takeover by Thomson Corp.

Banque de France:
- Financial Stability Review: Special Issue on Hedge Funds

Automobilwoche:
- DaimlerChrysler AG(DCX) is close to reaching a deal to sell the Chrysler division to Magna Intl., Canada’s largest auto-parts maker.

Commercial Times:
- Mediatek Inc. has received orders from Garmin Ltd.(GRMN) to supply navigation chips. Mediatek also outbid SiRF Technology Holdings(SIRF) to become the GPS chip supplier for Holux Technology, with shipments to begin this quarter.

Economic Daily News:
- AU Optronics Corp.(AUO) may post a profit in May as demand from customers “looks healthy,” citing company President Chen Hsuan-bin. The “prosperity” in the display panel market will probably continue through the end of the year, citing Chen.

Agencia Estado:
- JBS SA, the Brazilian meat producer that owns the Friboi meat brand, plans to make an offer to buy Swift & Co., the third-largest US beef and pork producer.

Saudi Press Agency:
- Saudi Aramco, the world’s largest state-owned energy company, will implement a five-year business plan that aims to meeting rising energy demand in the kingdom and abroad.

Kargozaraan:
- About 500 Iranian shops have started stocking clothes that conform with Islamic “decency” in exchange for tax cuts.

Weekend Recommendations
Barron's:
- Made positive comments on (DAL), (CNK), (RGC), (CKEC), (MDR) and (WLP).

Citigroup:
- Even amidst a housing slowdown, the consumer balance sheet remains strong. The perseverance of the consumer drove corporate profits and stock market gains in 1Q07. The outlook for the equity markets is bullish as implied earnings growth has risen above beginning of year levels and worries over possible declines in corporate profit margins have depressed valuations. Between year-end 2002 and year-end 2006, consumer net worth rose by $16.8 trillion. Of that increase, less than one-fifth came from increases in net real estate value.
- Reiterated Buy on (ADI), target raised to $44. Within the last week, signs of order pipelining, select semiconductor lead time increases and rush orders signal an analog semi upcycle is now forming. Other top analog picks include (ISIL), (ONNN) and (FCS).

Night Trading
Asian indices are +.50% to +.75% on average.
S&P 500 indicated -.05%.
NASDAQ 100 indicated +.03%.

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Earnings of Note
Company/Estimate
- (ACMR)/-.01
- (AMT)/.06
- (ANH)/.00
- (NILE)/.17
- (CENT)/.30
- (FLML)/-.31
- (FLR)/.86
- (FST)/.53
- (GTRC)/.49
- (JCOM)/.32
- (MDR)/.75
- (MCK)/.78
- (PGN)/.50
- (WYNN)/.55

Upcoming Splits
- (CIG) 3-for-2

Economic Releases
3:00 pm EST
- Consumer Credit for March is estimated to rise to $4.0 billion versus $3.0 billion in February.

Other Potential Market Movers
- Raymond James Canadian Oil Sands Conference

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

Weekly Outlook

Click here for The Week Ahead by Reuters

Click here for Stocks in Focus for Monday by MarketWatch

There are a number of economic reports of note and some significant corporate earnings reports scheduled for release this week.

Economic reports for the week include:

Mon. - Consumer Credit

Tues. - Wholesale Inventories, weekly retail sales

Wed. - MBA Mortgage Applications, FOMC Rate Decision

Thur. - Trade Balance, Import Price Index, Initial Jobless Claims, month retail same-store-sales, Monthly Budget Statement

Fri. - Producer Price Index, Advance Retail Sales, Business Inventories

Some of the more noteworthy companies that release quarterly earnings this week are:

Mon. - American Tower(AMT), Central Garden(CENT), Flour Corp.(FLR), Forest Oil(FST), McDermott Intl.(MDR), McKesson(MCK), Wynn Resorts(WYNN)

Tues. - aQuantive(AQNT), Aquila Inc.(ILA), Atwood Oceanics(ATW), Brightpoint(CELL), Church & Dwight(CHD), Cisco Systems(CSCO), Conseco(CNO), CVS/Caremark(CVS), Duke Energy(DUK), Dynegy(DYN), El Paso(EP), Electronic Arts(ERTS), Energy Conversion Devices(ENER), Expedia(EXPE), Harrah’s(HET), Lazard(LAZ), Marsh & McLennan(MMC), Martin Marietta(MLM), Marvel Entertainment(MVL), Papa John’s(PZZA), priceline.com(PCLN), Revlon(REV), Sotheby’s(BID), Tenet Healthcare(THC), Tyco Intl.(TYC), VeraSun Energy(VSE), Walt Disney(DIS)

Wed. - Barnes Group(B), Frontier Oil(FTO), Legg Mason(LM), Microstrategy(MSTR), News Corp.(NWS/A), Onyx Pharmaceuticals(ONXX), Sina Corp.(SINA), Teekay Shipping(TK), TXU Corp.(TXU), Whole Foods Market(WFMI)

Thur. - American Intl. Group(AIG), California Pizza(CPKI), Consolidated Edison(CED), Federated Dept. Stores, Global Crossing(GLBC), International Rectifier(IRF), Lamar Advertising(LAMR), Mirant Corp.(MIR), Nvidia Corp.(NVDA), PG&E(PCG), Sara Lee(SLE), THQ Inc.(THQI), Timberland(TBL), Titanium Metals(TIE)

Fri. - Analog Devices(ADI), EchoStar Communications(DISH), Guess?(GES), JC Penney(JCP), Kohl’s(KSS), PEP Boys(PBY), RH Donnelley(RHD), Urban Outfitters(URBN)

Other events that have market-moving potential this week include:

Mon. - None of note

Tue. - Robert Baird Growth Stock Conference, Bear Stearns Global Transport Conference, UBS Global Generic/Specialty Pharma Conference, Goldman Consumer Products Symposium, Bank of America Basic/Industrials Conference, (TXN) analyst meeting

Wed. - Bear Stearns Global Transport Conference, Piper Jaffray Semi/Communications Conference, UBS Global Generic/Specialty Pharma Conference, Goldman Consumer Symposium, Bank of America Basic/Industrials Conference, Bank of England Policy Meeting, (NT) Investor Technology Day

Thur. - Merrill Lynch Global Industries Conference, CIBC Communications 1-on-1 Conference, Piper Jaffray Semi/Communications Conference, Bank of America Basic/Industrials Conference, Goldman Power/Utility Conference, Robert Baird Growth Stock Conference, Bank of England Policy Meeting, (IDTI) analyst meeting

Fri. - Deutsche Bank Hospitality/Gaming Conference

BOTTOM LINE: I expect US stocks to finish the week mixed as buyout speculation, constructive FOMC comments, better-than-expected earnings reports, lower energy prices, lower long-term interest rates and short-covering offsets profit-taking and weaker consumer spending data. My trading indicators are still giving bullish signals and the Portfolio is 100% net long heading into the week.

Market Week in Review

S&P 500 1,505.62 +.77%

Click here for What a Week by TheStreet.com.

BOTTOM LINE: Overall, last week's market performance was bullish as the DJIA hit another all-time high and the S&P 500 is off to its best start to a second quarter since 2004. The NYSE cumulative advance/decline line rose to an all-time high, most sectors gained and volume was above average on the week. Measures of investor anxiety finished the week modestly above average levels. However, the AAII percentage of bulls fell to 28.57% this week from 39.24% the prior week. This reading is now at depressed levels. The AAII percentage of bears soared to 54.29% this week from 37.97% the prior week. This reading is now at elevated levels. These pessimistic readings come as the DJIA is in the middle of its most prolific winning streak since 1955. The 10-week moving average of the percentage of bears is currently 38.82%, an above-average level. The 10-week moving average of the percentage of bears peaked at 43.0% at the major bear-market low during 2002. Moreover, the 50-week moving average of the percentage of bears is currently 37.9%, a very high level seen during only two other periods since tracking began in the 1980s. Those periods were October 1990-July 1991 and March-May 2003, both being near major market bottoms.

The extreme readings in the 50-week moving average of the percentage of bears, during those periods, peaked at 41.6% on January 31, 1991 and 38.1% on April 10, 2003. We are very close to eclipsing the peak in bearish sentiment during the 2000-2003 market meltdown, which is astonishing considering the macro backdrop now and then.

I continue to find that steadfastly high bearish sentiment in many quarters is mind-boggling, considering the 25.1% rise in the S&P 500 in just over ten months, the 104.3% gain for the S&P 500 since the 2002 major bear market lows, the NYSE cumulative advance/decline line hit a new record high last Wednesday, all market-caps and styles are participating, the market had one of the best August/September/October runs in U.S. history, the fact that the Dow made another all-time high Friday and that we are in the early stages of what is historically a very strong period for U.S. equities after a midterm election.

As well, despite recent gains, the forward P/E on the S&P 500 is a very reasonable 16.1, down from 16.2 at the beginning of the year, due to the historic run of double-digit profit growth increases and better-than-expected earnings and guidance this quarter. The S&P P/E multiple has contracted for three consecutive years. It has only contracted four consecutive years two times since 1905. Each point of multiple expansion is equivalent to a 6.6% gain in the S&P 500. I strongly believe we will finally see expansion this year. The many bears still remain stunningly complacent, in my opinion.

As I have said many times over the last few months, it seems every pullback is seen as a major top, and every move higher is just another shorting/selling opportunity. I see few signs of capitulation by the bears and their ranks remain historically crowded given recent gains. Even most bulls seem to want the market to decline to redeploy cash they raised in anticipation of a meaningful correction. I still sense very few investors believe the market has meaningful upside from current levels and are positioned accordingly.

As well, there are many other indicators registering high levels of investor anxiety. The ISE Sentiment Index hit a depressed 94.0 on Tuesday. Moreover, the 10-week moving average of the ISE Sentiment Index is hovering just off a record low at 111.2. The CBOE total put/call ratio 10-week moving average is currently 1.0. It has been higher during only two other periods in the last 12 years. Moreover, NYSE short interest has soared 14.6% the last two months, the largest two-month jump on record, to a new all-time high. Nasdaq short interest has surged 13.8% over the last two months, also the largest two-month jump on record, and also to a new record high. Furthermore, public short interest continues to soar to record levels, and U.S. stock mutual funds have seen outflows for most of the last year, according to AMG Data Services. The percentage of U.S. mutual fund assets in domestic stocks is still the lowest since at least 1984, when record-keeping began.

There has been an historic explosion of hedge funds created with absolute return, low correlation or negative correlation U.S. stock strategies that directly benefit from the perception of a stagnant or declining U.S. stock market. Commodity funds, which typically have a low or negative correlation with stocks, have been created in record numbers. The managers of these funds are all over major media outlets helping to pump air into the current U.S. “negativity bubble.” A short-sighted day-trading pessimistic mentality has thoroughly permeated the investment landscape. Research boutiques with a negative bias have sprung up to cater to these many new funds. "Permabears" are more widely followed than ever, despite the market's triple-digit percentage gain from the major bear market lows during 2002-03. At this major market bottom, "permabulls" had been shunned and chastised for a couple of years. Wall Street analysts have made the fewest "buy" calls on stocks this year since Bloomberg began tracking in 1997. "Buy" calls have been trending lower for 10 months, despite the huge rally in stocks.

According to Ticker Sense, investment blogger sentiment remains subdued at 33.3% bears, 33.3% bulls. The UltraShort QQQQ ProShares (QID) continue to see soaring volume. There is still a very high wall of worry for stocks to climb substantially from current levels as the public and many professionals remain very skeptical of this strong bull market and continue to trade with "one foot out the door."

I continue to believe this is a direct result of the strong belief by the herd that the U.S. is in a long-term trading range or secular bear environment. There is still overwhelming evidence that overall investment sentiment regarding U.S. stocks has never been this poor in history, with the Dow at an all-time high. I still expect the herd to finally embrace the current bull market this year, which should result in another substantial move higher in the major averages as the S&P 500 breaks out to an all-time high to join the Dow and Russell 2000.

It's hard to believe after the bombardment of pessimism, depression comparisons and "crash" calls over the last two months that the average U.S. stock is still doing very well this year. The Value Line Geometric Index (VGY), the best gauge of the broad market, is 7.8% higher this year. Moreover, mid-caps stocks are sporting 10% gains already this year. Based on the action over the last two months, even more cash has piled up on the sidelines as money market funds recently hit record levels.

I continue to believe that a significant portion of this cash will be deployed into true "growth" companies as their outperformance vs. "value" stocks gains steam throughout the year. There is massive bull firepower on the sidelines at a time when the supply of stock is still shrinking. I still believe the coming bullish shift in long-term sentiment with respect to U.S. stocks will result in the "mother of all short-covering rallies."

The average 30-year mortgage rate was unchanged this week at 6.16%, which is 64 basis points below July 2006 highs. There is still mounting evidence that the worst of the housing downturn is over, despite recent worries over sub-prime lending, and that sales activity is stabilizing at relatively high levels. Even after the recent slide, existing home sales are still 4.5% above the peak during the late-90s stock market bubble. About 14% of total mortgage loans are sub-prime. Of those 14%, another 13.3% are delinquent. Thus, only about 2% of total mortgage loans outstanding are currently problematic. I do not believe sub-prime woes are nearly large enough or will become large enough to meaningfully impact the prime market and bring down the U.S. economy. The Fed’s Bernanke said recently that the prime market is still strong and that he sees no spillover from the sub-prime problems. As well, the Fed’s Poole said recently that, “there is no danger to the economy from sub-prime loan defaults.” There are just too many other positives that outweigh this negative. Treasury Secretary Paulson also said recently that all the signs he looks at lead him to conclude housing is near or at the bottom. Moreover, the Fed’s Hoenig, Lacker, Plosser, Fisher and Bies all made positive comments recently regarding the prospects for the US housing market. Finally, the ABX-HE-BBB-07-1 sub-prime Index, the source of much concern, has risen 9.3% from its March lows.

Mortgage applications rose .6% this week and continue to trend higher with the decline in mortgage rates and healthy job market. Moreover, purchase applications jumped 4% and are at the highest level since January. The NAHB Housing Market Index came in at 33 in March, up from 30 in September of last year. Within the NAHB Housing Index for March, the future sales component came in at 44, up from 37 in September. The Mortgage Bankers Association said recently that the US housing market will “fully regain its footing” by year-end. Moreover, the California Building Industry Association recently gave an upbeat forecast for housing, saying production would be near last year’s brisk levels. Finally, the House Price Index rose 1.1% in the fourth quarter of last year versus a 1.0% gain in the third quarter.

The Housing Sector Index(HGX) has risen 23.5% from July 2006 lows. The Case-Shiller housing futures have improved and are now projecting only a 2.1% decline in the average home price through August, up from projections of a 5.0% decline 9 months ago. Considering the median house has appreciated over 50% during the last few years with record high US home ownership, this would be considered a “soft landing.” I continue to believe the many U.S. stock market bears are exaggerating, in every media outlet possible, the overall impact of housing on the economy in hopes of scaring investors, consumers and the government into a panicked state, thus making the problems worse than would otherwise be the case. Housing activity and home equity extractions had been slowing substantially for 2 years and the negative effects were mostly offset by many other very positive aspects of the US economy.

Home values are more important than stock prices to the average American, but the median home has barely declined in value after a historic run-up, while the S&P 500 has risen 25.1% in just over ten months and 104.3% since the Oct. 4, 2002 major bear market low. Americans’ median net worth is still at record high levels as a result, a fact that is generally unrecognized or minimized by the record number of stock market participants that feel it is in their financial and/or political interests to paint a bleak picture of America.

Moreover, energy prices are down significantly, overall consumer spending remains healthy, unemployment is low by historic standards, interest rates are low, inflation is below average rates and wages are rising at above-average rates. The economy has created 2 million jobs in just the last year. As well, the Monster Employment Index hit another record high in April. The 50-week moving average of initial jobless claims has been lower during only two other periods since the 70s. Finally, the unemployment rate is a historically low 4.5%, down from 5.1% in September 2005, notwithstanding fewer real estate-related jobs and significant auto production cutbacks. The unemployment rate’s current 12-month average is 4.6%. It has only been lower during two other periods since the mid-50s.

The Consumer Price Index for March rose 2.8% year-over-year, down from a 4.7% increase in September of 2005. This is below the 20-year average of 3.1%. Moreover, the CPI has only been lower during four other periods since the mid-1960s. Several other measures of inflation are still below long-term average rates. The Fed’s preferred inflation gauge, the PCE Core, rose 2.1% year-over-year in March versus the 20-year average of 2.5%. Furthermore, most measures of Americans’ income growth are now almost twice the rate of inflation. Americans’ Average Hourly Earnings rose 3.7% year-over-year in April, substantially above the 3.2% 20-year average. The 10-month moving-average of Americans’ Average Hourly Earnings is currently 4.04%. 1998 was the only year during the 90s expansion that it exceeded current levels.

The benchmark 10-year T-note yield fell 5 basis points for the week on diminishing inflation worries. According to Intrade.com, the chances of a US recession beginning this year have fallen to 13.5% from 35% in January. In my opinion, many investors’ lingering fears over an economic “hard landing” still seem misplaced. The housing slowdown and auto-production cutbacks impacted manufacturing greatly over the last nine months, but those drags on growth are starting to subside. Many gauges of manufacturing activity have improved meaningfully over the last month. Factory Orders have jumped over the last two months by the largest amount since the 70s. Moreover, for all of 2006, US GDP growth was an above-average 3.2%, notwithstanding the housing and manufacturing headwinds.

While the drag from housing is subsiding, housing activity will not add to economic growth in any meaningful way this year as homebuilders continue to reduce inventories and sales stabilize at lower, but still relatively high by historic standards, levels. As well, recent substantial manufacturing inventory de-stocking helped produce below-average growth in 1Q. I still expect a smaller GDP deflator, inventory rebuilding, rising auto production, increased business spending and a still healthy service sector to boost US economic growth back to around 3% before year-end.

Manufacturing accounts for roughly 12% of US economic growth, while consumer spending accounts for about 70% of growth. U.S. GDP growth came in at a sluggish 1.1% and 0.7% during the first two quarters of 1995. During May 1995, the ISM Manufacturing Index fell below 50, which signals a contraction in activity. It stayed below 50, reaching a low of 45.5, until August 1996. During that period, the S&P 500 soared 31% as its P/E multiple expanded from 16.0 to 17.2. This was well before the stock market bubble began to inflate. As well, manufacturing was more important to overall US economic growth at that time. Stocks can and will rise as P/E multiples expand, even with more average economic and earnings growth.

Weekly retail sales rose .1% last week vs. unchanged the prior week. These slight gains are still mainly the result of the timing of the recent Easter holiday. The job market remains healthy, housing has improved modestly, wage growth has accelerated, stocks are substantially higher and inflation has decelerated to below average rates. Finally, I expect consumer confidence to make new cycle highs later this year as gas prices fall, the job market remains healthy, stocks rise further, home sales stabilize at relatively high levels, inflation decelerates more and interest rates remain low. This should help sustain healthy consumer spending over the intermediate-term.

Just take a look at commodity charts, gauges of commodity sentiment and inflows into commodity-related funds over the last couple of years. Net assets invested in the Goldman Sachs Commodity Index rose to almost $70 billion in 2006 from $15 billion in 2003. There has been a historic mania for commodities by investment funds that has pushed prices significantly higher than where the fundamentals dictate. That mania is now in the stages of unwinding. The CRB Commodities Index, the main source of inflation fears has declined -11.0% over the last 12 months and -14.8% from May 2006 highs despite a historic flood of capital into commodity-related funds and numerous potential upside catalysts. Oil has declined $17/bbl from July highs. As well, this year oil plunged $12/bbl. over the first 18 days of trading at the beginning of the year. Last year, oil rose $2.05/bbl. on the first trading day of the year and $7.40/bbl. through the first three weeks of trading as commodity funds, flush with new capital, drove futures prices higher.

I suspect, given the average commodity hedge fund fell around double-digits last year as the CRB Index dropped 7.4%, that many energy-related funds saw outflows at year-end. Recent reports have also indicated that institutional investors are switching from commodity funds that trade energy futures to hedge funds that buy energy-related equities. The commodity mania has also pumped air into the current US “negativity bubble.” Talk of runaway inflation, drought, world wars, global warming, a US dollar collapse, recession/depression and global pandemics, to name a few, has been fueled by the mania for commodities. In my opinion, that is why it is so easy for most to believe that US housing was in a bubble, but then act shocked when commodities plunge. I continue to believe inflation fears have peaked for this cycle as global economic growth slows to average levels, unit labor costs remain subdued and the mania for commodities continues to reverse course.

The EIA reported this week that gasoline supplies fell less than expectations even as refineries remain very slow to come back online after recent “outages.” Refinery utilization is 88.3%, very close to levels seen after the historical hurricanes in 2005 destroyed energy infrastructure in the Gulf of Mexico. However, gasoline futures fell for the week and have plunged 23.8% from September 2005 highs even as some Gulf of Mexico oil production remains shut-in and fears over future production disruptions persist. The gasoline crack spread hit an all-time record high this week, surpassing the levels seen during Hurricane Katrina’s aftermath and last year's euphoric top in oil prices. It will be interesting to see if members of Congress threaten investigations as they did the last time gasoline crack spreads were near current levels. Crack spreads peaked last August right before oil fell $28/bbl. in less than six months. It is also interesting to note that commercial hedgers, the “smart money”, continue to maintain their net short oil position into this historic spike in crack spreads, which is highly unusual. Temporary refinery “outages” are helping to prop up the entire energy complex. However, the very elevated level of current gas prices will only further dampen global fuel demand, sending gas prices substantially lower over the intermediate-term.

Recently, the EIA lowered second and third quarter global demand growth for oil by 400,000 barrels per day. The 10-week moving-average of US oil inventories is also still approaching 8-year highs, as well. Oil consumption in the 30 OECD countries fell last year for the first time in over two decades, while global economic growth boomed 5.3%. Global demand destruction is pervasive. Over the last three years, global oil demand is only up 3.1%, despite the strongest global growth in almost three decades, while global supplies have increased 4.0%, according to the Energy Intelligence Group. The EIA recently forecast that bio-fuels should rise to the equivalent of more than five million barrels of crude oil production a day within four years. Recently, Energy Secretary Bodman said the US will likely remove tariffs to boost bio-fuel imports, which should reduce fears over a potential corn shortage. Corn has already dropped 10.3% from February highs and has likely put in a major top.

As well, OPEC said recently that global crude oil supply would exceed demand by 100 million barrels this quarter. Worldwide oil inventories are poised to begin increasing at an accelerated rate over the next year. There is a very fine line in the crude oil market between perceptions of "significantly supply constrained" and "massive oversupply." One of the main reasons I believe OPEC has been slow to actually meet their pledged cuts has been the fear of losing market share to non-OPEC countries. Moreover, OPEC actually needs lower prices to prevent any further long-term demand destruction. I continue to believe oil is priced at elevated levels on record speculation by investment funds, not the fundamentals.

The Amaranth Advisors hedge fund blow-up last year was a prime example of the extent to which many investment funds have been speculating on ever higher energy prices through futures contracts, thus driving the price of the underlying commodity to absurd levels for consumers and businesses. This is considered “paper demand”, which is not real demand for the underlying commodity. Amaranth, a multi-strategy hedge fund, lost about $6.5 billion of its $9.5 billion under management in less than two months speculating mostly on higher natural gas prices. I continue to believe a number of other funds will experience similar fates over the coming months after managers “pressed their bets” in hopes of making up for recent poor performance, which will further pressure energy prices as these funds unwind their leveraged long positions to meet rising investor redemptions. Moreover, the same rampant speculation that has driven the commodity mania will work against energy as downside speculation increases and drives down prices even further than the fundamentals would otherwise dictate.

Cambridge Energy Research, one of the most respected energy research firms in the world, put out a report late last year that drills gaping holes in the belief by most investors of imminent "peak oil" production. Cambridge said that its analysis indicates that the remaining global oil base is actually 3.74 trillion barrels, three times greater than "peak oil" theory proponents say and that the "peak oil" theory is based on faulty analysis. I suspect the substantial contango that still exists in energy futures, which encourages hoarding, will begin to reverse over the coming months as more investors come to the realization that the "peak oil" theory is hugely flawed, global storage tanks fill and Chinese/US demand slows further.

Global crude oil storage capacity utilization is running around 98%. OPEC production cuts have resulted in a complete technical breakdown in crude futures. Oil closed below its 50-day and 200-day moving averages this week. Spare production capacity, which had been one of the main sources of angst among the many oil bulls, rises with each OPEC cut. As well, demand destruction which is already pervasive globally will only intensify over the coming years as many more alternative energy projects come to the fore. Moreover, many Americans feel as though they are helping fund terrorism or hurting the environment every time they fill up their gas tanks. I do not believe we will ever again see the demand for gas-guzzling vehicles that we saw in recent years, even if gas prices plunge further from current levels, as I expect. If OPEC actually implements all their announced production cuts, with oil still at very high levels and weakening global growth, it will only further deepen resentment towards the cartel and result in even greater long-term demand destruction.

I continue to believe oil made a major top last year during the period of historic euphoria surrounding the commodity with prices above $70/bbl. and calls for $100/bbl. oil commonplace. Even during the peak of anxiety in the recent Iranian/UK hostage stand-off, oil only rose about $6/bbl., despite renewed calls from numerous traders, analysts and pundits for $100+/bbl. oil. Falling demand growth for oil in emerging market economies, an explosion in alternatives, rising global spare production capacity, increasing global refining capacity, the complete debunking of the hugely flawed "peak oil" theory, a firmer U.S. dollar, less demand for gas guzzling vehicles, accelerating non-OPEC production, a reversal of the "contango" in the futures market, a smaller risk premium and essentially full global storage should provide the catalysts for oil to fall to $35 per barrel to $40 per barrel later this year. I fully expect oil to test $20 per barrel to $25 per barrel within the next three years.

Natural gas inventories rose more than expectations this week. However, prices for the commodity rose as historic investment fund speculation persists even with supplies now 19.2% above the 5-year average and near all-time high levels for this time of year. Furthermore, the EIA recently projected global liquefied natural gas production to soar this year, with the US poised to see a 34.5% surge in imports and another 38.5% increase in 2008. Natural gas prices have collapsed 50.1% since December 2005 highs. Notwithstanding this severe decline, natural gas anywhere near current prices is still ridiculous with absolute inventories poised to hit new records this year. The long-term average price of natural gas is $4.63 with inventories much lower than current levels.

Gold rose on the week despite the decline in oil prices, diminishing inflation worries and a stronger US dollar. Perceptions of emerging market demand for the metal seem to be the greatest determinant of prices. Copper rose on diminished worries over global demand and short-covering. Copper is still 8.0% lower from the euphoric highs set last year. I suspect the recent bounce in copper has almost run its course. Natural gas, oil, gold and copper all look both fundamentally and technically weak longer-term. The US dollar rose for the week as traders covered shorts bets and US economic worries diminished.

I continue to believe there is very little chance of another Fed rate hike anytime soon. An eventual rate cut is more likely this year as inflation continues to decelerate substantially. An eventual Fed rate cut should actually boost the dollar as currency speculators anticipate faster US economic activity relative to other developed economies. Moreover, the US budget deficit is now 1.4% of GDP, well below the 40-year average of 2.3% of GDP. As well, the trade deficit has been shrinking over the last six months. I expect foreign investors’ demand for US securities to remain strong. Telecom stocks outperformed substantially for the week on positive earnings reports. REIT stocks underperformed on earnings worries and profit taking.

Current US stock prices are still providing longer-term investors very attractive opportunities, in my opinion. In my entire investment career, I have never seen the best “growth” companies in the world priced as cheaply as they are now relative to the broad market. By contrast, “value” stocks are quite expensive in many cases. A CSFB report late last year confirmed this view. The report concluded that on a price-to-cash flow basis growth stocks are cheaper than value stocks for the first time since at least 1977. The entire decline in the S&P 500’s p/e, since the bubble burst in 2000, is attributable to growth stock multiple contraction. Many “value” investors point to the still “low” price/earnings ratios of commodity stocks, notwithstanding their historic price runs over the last few years. However, commodity equities always appear the “cheapest” right before significant price declines. I still expect the most overvalued economically sensitive and emerging market stocks to underperform over the intermediate-term as the manias for those shares subside as global growth slows to more average rates.

The emerging markets’ mania, which has mainly been the by-product of the commodity mania, is likely nearing an end, as well. The Financial Times reported today that China's pollution problem is rapidly worsening on their soaring investments in energy-intensive industries. According to the FT, China now accounts for almost half of the world's flat glass and cement production, more than one-a third of steel output and 28% of global aluminum production.

In my opinion, China is building for the sake of building, such as the world's largest mall, to promote the appearance of even more exceptional growth than would otherwise be the case. This is giving a false sense of demand for most of the world's commodities. This is the main reason why I believe long-term interest rates remain exceptionally low. I continue to believe when the manias for emerging markets and commodities end, the mild bout of inflation we have experienced will turn into a mild bout of deflation. The iShares Lehman 20+ Year Treasury Bond (TLT) remains a core long position for me.

I am keeping a close eye on the Vietnam Stock Index(VNINDEX), which has dwarfed the Nasdaq’s meteoric rise in the late 90s, rocketing 286% higher over the last 24 months. It is 26.4% higher this year, however the index has dropped 19% over the last seven weeks. The bursting of this bubble in Vietnam, may well signal the end of the mania for emerging market stocks. I continue to believe a chain reaction of events has already begun that will result in a substantial increase in demand for US equities.

S&P 500 profits had risen at double-digit rates for 18 consecutive quarters, the best streak since recording keeping began in 1936. So far this quarter, with 80% of S&P 500 companies reporting, earnings are rising at an 8.5% rate versus estimates of a 3.5% increase before reporting began. Notwithstanding a 104.3% total return(which is equivalent to a 16.9% average annual return) for the S&P 500 since the October 2002 bottom, its forward p/e has contracted relentlessly and now stands at a very reasonable 16.1. The 20-year average p/e for the S&P 500 is 23.0.

In my opinion, the US stock market continues to factor in way too much bad news at current levels. One of the characteristics of the current US “negativity bubble” is that most potential positives are undermined, downplayed or completely ignored, while almost every potential negative is exaggerated, trumpeted, obsessed over and promptly priced in to stock prices. “Irrational pessimism” by investors has resulted in a dramatic decrease in the supply of stock. Booming merger and acquisition activity is also greatly constricting supply. Many commodity funds, which have received a historic flood of capital inflows over the last few years are now seeing redemptions as the CRB Index continues to languish. Some of this capital will likely find its way back to US stocks. As well, money market funds are brimming with record amounts of cash. There is massive bull firepower available on the sidelines for US equities at a time when the supply of stock has contracted.

A recent Citigroup report said that the total value of U.S. shares dropped last year, despite rising stock prices, by the most in 22 years. Last year, supply contracted, but demand for U.S. equities was muted. While overall USUS stock mutual funds have seen modestly increasing cash inflows of late. This should make the many bears very nervous, as keeping the public excessively pessimistic on U.S. stocks has been one of their main weapons. I still suspect accelerating demand for U.S. stocks, combined with shrinking supply, will make for a lethally bullish combination this year. public sentiment is still depressed given the macro backdrop, I am seeing some signs that irrational pessimism is lifting a bit.

Considering the overwhelming majority of investment funds failed to meet the S&P 500's 15.8% return last year, I suspect most portfolio managers have a very low threshold of pain this year for falling substantially behind their benchmark once again. Investment manager performance anxiety is likely quite elevated already this year. The fact that last year the US economy withstood one of the sharpest downturns in the housing market in history and economic growth never dipped below 2% and averaged 3.2% illustrates the underlying strength of the economy as a whole. While significant inventory de-stocking has led to a mid-cycle slowdown, I expect inventory rebuilding to begin adding to economic growth this quarter.

I continue to believe the historically extreme readings in many gauges of investor angst over the last two months indicated the US market was cleansing itself of “weak hands” at an extraordinarily rapid rate. Buyout/merger speculation, a stronger US dollar, lower commodity prices, election cycle strength, decelerating inflation readings, a pick-up in consumer spending, lower long-term rates, increased consumer/investor confidence, short-covering, investment manager performance anxiety, rising demand for US stocks and the realization that economic growth is poised to rise around average rates should provide the catalysts for another substantial push higher in the major averages this year as p/e multiples expand significantly. I still expect the S&P 500 to return a total of about 17% for the year. "Growth" stocks will likely lead the broad market higher, with the Russell 1000 Growth iShares(IWF) rising a total of 25%. Finally, the ECRI Weekly Leading Index rose slightly this week to another new cycle high and is forecasting healthy US economic activity. The 10-week moving average of the ECRI Weekly Leading Index is also at a new cycle high.

*5-day % Change

Weekly Scoreboard*

Indices
S&P 500 1,505.62 +.77%
DJIA 12,264.62 +1.09%
NASDAQ 2,572.15 +.58%
Russell 2000 832.88 +.38%
Wilshire 5000 15,160.25 +.72%
Russell 1000 Growth 594.48 +.65%
Russell 1000 Value 865.38 +.90%
Morgan Stanley Consumer 742.12 +.64%
Morgan Stanley Cyclical 1,040.59 +2.67%
Morgan Stanley Technology 608.18 +1.27%
Transports 5,171.09 +.95%
Utilities 526.24 +.35%
MSCI Emerging Markets 124.81 +1.72%

Sentiment/Internals
NYSE Cumulative A/D Line 76,597 +.54%
Bloomberg New Highs-Lows Index +536 -7.1%
Bloomberg Crude Oil % Bulls 35.0 -17.4%
CFTC Oil Large Speculative Longs 195,239 -2.1%
Total Put/Call .81 -19.0%
NYSE Arms .97 -21.1%
Volatility(VIX) 12.91 +3.85%
ISE Sentiment 142.0 +4.41%
AAII % Bulls 28.57 -27.19%
AAII % Bears 54.29 +42.98%

Futures Spot Prices
Crude Oil 61.85 -6.65%
Reformulated Gasoline 221.45 -1.69%
Natural Gas 7.88 +1.13%
Heating Oil 182.98 -4.22%
Gold 690.70 +1.04%
Base Metals 281.66 +4.9%
Copper 375.15 +6.1%

Economy
10-year US Treasury Yield 4.64% -5 basis points
4-Wk MA of Jobless Claims 328,800 -1.4%
Average 30-year Mortgage Rate 6.16% unch.
Weekly Mortgage Applications 657.20 +.60%
Weekly Retail Sales +.10%
Nationwide Gas $3.01/gallon +.11/gallon
US Heating Demand Next 7 Days 34.0% below normal
ECRI Weekly Leading Economic Index 142.40 +.92%
US Dollar Index 81.73 +.26%
CRB Index 311.24 -.94%

Leading Sectors
Telecom +3.22%
Defense +2.93%
I-Banks +2.67%
Airlines +2.52%
Internet +1.78%

Lagging Sectors
Hospitals -.79%
Homebuilders -.82%
Retail -1.42%
Gaming -1.83%
REITs -2.49%

One-Week High-Volume Gainers

One-Week High-Volume Losers

*5-Day Change