Productivity Jumps, Unit Labor Costs Decelerate

- Preliminary 2Q Non-farm Productivity rose 1.8% versus estimates of a 2.0% gain and a .7% increase in 1Q.

- Preliminary 2Q Unit Labor Costs rose 2.1% versus estimates of a 1.8% gain and an upwardly revised 3.0% increase in 1Q.

BOTTOM LINE: US worker productivity gained less than forecast in the second quarter and labor costs rose, Bloomberg said. Unit labor costs, which comprise two-thirds of inflation, rose 2.9% in 2006, revised down from a prior estimate of 3.3%. The pick-up in 2Q productivity reflected the strong surge in economic growth to above trend rates from 1Q’s sluggish performance. I continue to believe productivity will trend at above average rates long-term, while unit labor cost increase remain subdued.

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Tuesday Watch

Late-Night Headlines
Bloomberg:
- US stocks rallied the most in four years, led by financial companies, on speculation the government will take steps to limit losses in mortgage lending.
- Shares of mortgage insurer Radian Group(RDN) rebounded from a 23% loss earlier in the day to post their first gain in more than three weeks on the prospects the US government will act to limit mortgage lending losses.
- The yen traded near its lowest in more than a week against the euro on speculation a rally in US stocks will give traders confidence to resume borrowing in Japan to finance investment overseas.
- Steve Wynn turned to Kazuo Okada when the gambling magnate needed cash to fund his namesake Las Vegas casino in 2000. Now, Okada could be the ace up Wynn’s sleeve in the Japanese businessman’s home market.
- Goldman Sachs’(GS) Global Alpha hedge fund fell almost 12% in the two weeks ended Aug. 3, bringing this year’s decline to 16% after losses in stocks and bonds.
- Addison Armstrong, director of market research at TFS Energy LLC, sees the subprime mortgage crisis as a risk to oil prices.
- British-led scientists have developed a new technology that might eventually enable motorists to use wheat, as well as corn, for biofuels.
- Shares of Trend Micro Inc. rose by their daily limit after the world’s biggest Internet security provider beat its profit forecast in the second quarter. Shares of the Tokyo-based company gained 14%.

MarketWatch.com:
- With the initial hoopla over the iPhone finally dying down, Apple Inc.(AAPL) will try to draw some attention back to its flagship Macintosh computer line this week, which has quietly been gaining share in the PC market.

USA Today:
- More good news for drivers came Monday as the wholesale price fell below $2 a gallon for the first time in more than four months.

Financial Times:
- Robert Nardelli will receive a $1 annual salary as CEO of Chrysler LLC.
- China ‘breaks promises’ on media.
- US and Iranian officials held talks in Baghdad on Monday as a security sub-committee set up two weeks ago met for the first time.

London-based Times:
- Hedge funds suffered their worst returns in at least four years at the end of last month after a storm of market shocks hit many investment strategies.

Reuters:
- Banks including JPMorgan Chase(JPM), Bank of America(BAC) and HSBC might be interested in buying Bear Stearns(BSC) at the right price, but there would be real obstacles to a deal happening anytime soon, analysts said.

China Business News:
- China’s consumer prices may have risen by more than 5% in July from a year earlier, citing a survey from domestic brokerages.

Late Buy/Sell Recommendations
Citigroup:
- We believe that back-to-school(B2S) 2007 sales will be moderately strong and expect the season to get off to a good start for Broadline retailers due to earlier shopping amongst consumers(24% of consumers have started shopping vs. 12% last year according to the CIR/ICSC survey) and cooler weather in August vs. last year. Additionally, we believe inventories are in good shape for the B2S season despite heavy clearance merchandise in July as a result of weaker sales in June. We believe that a stable employment market, personal income growth and strong consumer confidence should be enough to offset the other negative pressures on consumer spending for the B2S season.
- Upgraded (BKC) to Buy, target $28.
- Reiterated Buy on (NILE), target $88.

Night Trading
Asian Indices are +.25% to +1.25% on average.
S&P 500 futures -.08%.
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Earnings of Note
Company/EPS Estimate
- (AES)/.21
- (MDRX)/.13
- (ATW)/1.00
- (CAR)/.28
- (BBG)/.18
- (SAM)/.58
- (CHD)/.59
- (CSCO)/.35
- (DF)/.30
- (DUK)/.20
- (EP)/.23
- (EMR)/.69
- (EXPD)/.30
- (FLR)/.94
- (FTO)/1.64
- (GTRC)/.39
- (HET)/.98
- (HEW)/.29
- (IFF)/.76
- (ISE)/.44
- (IPG)/.10
- (KG)/.46
- (MVSN)/.21
- (MMC)/.36
- (MLM)/2.00
- (MVL)/.38
- (MDR)/.93
- (TAP)/1.72
- (ONXX)/-.33
- (PZZA)/.35
- (PCG)/.66
- (PCLN)/.89
- (TSO)/3.14
- (TIE)/.40
- (TRID)/.25
- (TXU)/1.19
- (TYC)/.48
- (WMG)/-.08
- (WMS)/.28

Upcoming Splits
- (HCSG) 3-for-2

Economic Releases
8:30 am EST
- Preliminary 2Q Non-farm Productivity is estimated to rise 2.0% versus a 1.0% gain in 1Q.
- Preliminary 2Q Unit Labor Costs are estimated to rise 1.8% versus a 1.8% gain in 1Q.

2:15 pm EST
- The Fed is expected to leave the benchmark Fed Funds rate at 5.25%.

3:00 pm EST
- Consumer Credit for June is expected to fall to $5.8 billion versus $12.9 billion in May.

Other Potential Market Movers
- The weekly retail sales reports, RBC Technology Conference, CIBC Enterprise Software Conference, Canaccord Adams Global Growth Conference and Pacific Crest Tech Leadership Forum could also impact trading today.

BOTTOM LINE: Asian indices are higher, boosted by technology and financial stocks 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 Close at Session Highs on Heavy Volume on Plunging Energy Prices, Bargain-Hunting and Short-Covering

Indices
S&P 500 1,467.67 +2.42%
DJIA 13,468.78 +2.18%
NASDAQ 2,547.33 +1.44%
Russell 2000 766.39 +1.45%
Wilshire 5000 14,686.50 +2.07%
Russell 1000 Growth 589.71 +1.77%
Russell 1000 Value 821.64 +2.61%
Morgan Stanley Consumer 717.87 +2.41%
Morgan Stanley Cyclical 1,029.13 +1.25%
Morgan Stanley Technology 628.98 +1.81%
Transports 4,965.09 +1.87%
Utilities 493.32 +3.48%
MSCI Emerging Markets 130.43 -.43%

Sentiment/Internals
Total Put/Call 1.27 -11.19%
NYSE Arms .46 -87.04%
Volatility(VIX) 22.94 -8.82%
ISE Sentiment 92.0 -10.68%

Futures Spot Prices
Crude Oil 72.12 -4.45%
Reformulated Gasoline 193.40 -4.68%
Natural Gas 6.26 +2.96%
Heating Oil 194.96 -4.15%
Gold 683.10 -.16%
Base Metals 249.96 -2.17%
Copper 347.40 -.14%

Economy
10-year US Treasury Yield 4.74% +5 basis points
US Dollar 80.32 +.19%
CRB Index 312.29 -1.85%

Leading Sectors
Banks +5.36%
I-Banks +3.77%
Utilities +3.48%

Lagging Sectors
Steel -.08%
Airlines -1.65%
Gold -2.84%

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Afternoon Recommendations
Oppenheimer:
- Rated ARJ Buy, target $50.

BMO Capital:
- Rated (DELL), (HPQ) and (WDC) Outperform.

Afternoon/Evening Headlines
Bloomberg:
- Crude oil fell more than 4.5% in NY, the most in seven months, on worries over slowing demand with US supplies near a 10-year high.
- Sun Microsystems(SUNW) announced a new version of the Niagara processor used in its most-powerful server computers and said it will license the chip to other equipment makers as part of a plan to create a new line of business.
- Wynn Resorts(WYNN) reported second-quarter profit and revenue that exceeded analyst’ estimates after it opened a new casino in Macau, China, and drew more gamblers to Las Vegas. The shares jumped 10% in after-hours trading.
- The risk of borrowing debt of US financial companies including Bear Stearns(BSC) fell from the highest in more than five years today, as their stocks rallied and concerns eased about how much subprime mortgage securities will siphon off profits, according to credit-default swap traders.
- Ethanol in Chicago fell a fourth day amid concern of oversupply and as gasoline futures fell.
- China and other nations must meet US quality standards as imports of food, drugs and other products increases, healthy secretary Michael Leavitt said.
- SLM Corp.(SLM), or Sallie Mae, reaffirmed plans to be acquired by JC Flowers, Bank of America and JPMorgan Chase and said the deal would be completed in October.
- Microsoft(MSFT) won a reversal of a jury’s record $1.52 billion verdict in a landmark case over Alcatel-Lucent’s MP3 digital-music patents.
- Shares of Fannie Mae(FNM) and Freddie Mac(FRE), the two largest US home-loan companies, rose on speculation the companies’ regulator may lift a cap on the amount of home loan assets they can own, helping pour money into the mortgage market.

Wall Street Journal:
- Chevron Corp.(CVX) won the right to develop a natural-gas field in China.

Reuters:
- He’s made a fortune picking through the bones of failed steelmakers, textile mills and coal miners. Now billionaire investor Wilbur Ross is taking aim at another beleaguered industry: subprime mortgage lenders. He took his first step on Monday by providing $50 million in debtor-in-possession financing for American Home Mortgage, which filed for bankruptcy earlier in the day. It’s a tiny step, but Ross said there are many more to come.

BOTTOM LINE: The Portfolio finished higher today on gains in my Computer longs, Semi longs, Biotech longs, Medical longs and Commodity shorts. I added to my (PWR) long and to an existing short in the final hour, thus leaving the Portfolio 100% net long. The tone of the market was neutral today as the advance/decline line finished slightly lower, most sectors rose and volume was heavy. Measures of investor anxiety were elevated again into the close. Today's overall market action was very bullish. S&P said this afternoon that the market is overreacting to its Bear Stearns (BSC) outlook. It also said that BSC's liquidity remains "solid" and that the liquidity at the Big 5 brokers is sound. These comments helped spur another surge higher in the financials into the close, which in turn boosted the broad market substantially. Only time will tell if the recent market bottom will hold. It is interesting to note that every bottom since the major bear market lows in 2002 has been accompanied by the bears saying that a new bear market had begun and the bulls waiting on a "whoosh" decline that never came. I want to stress, as well, as I said earlier today, that it isn't the news that matters as much as knowing what is already priced into stock prices. The credit fear news will likely remain scary over the coming weeks, but I think that is more than factored into the broad market at current levels. Despite today's huge rally in the major averages, the CBOE total put/call finished at a very high 1.27. As well, the ISE Sentiment Index finished at a depressed 92.0. This significant skepticism regarding today's gains shown by retail options traders is a positive. I expect overseas markets to get a rather large boost tonight, which could result in further gains here tomorrow morning.

Stocks Soaring into Final Hour on Plunging Energy Prices, Bargain-Hunting and Short-Covering

BOTTOM LINE: The Portfolio is higher into the final hour on gains in my Computer longs, Biotech longs, Medical longs, Semi longs and commodity shorts. I covered some of my (EEM) short and all of my (IWM)/(QQQQ) hedges today, thus leaving the Portfolio 100% net long. The overall tone of the market is neutral today as the advance/decline line is slightly lower, most sectors are higher and volume is heavy. My intraday gauge of investor angst is still elevated. This weekend's financial headlines were almost universally gloom and doom. While scary credit market stories will continue to dominate headlines for another couple of months, I suspect that the worst of the equity market downturn is over and we are very close to or at the bottom for the year in the major averages. An imminent recession is being partially priced into stocks at current levels, even as this proposition remains an unlikely outcome, in my opinion. Having said that, I am keeping a close eye on emerging market economies as a significant deterioration in growth there would likely lead to another downleg in U.S. stocks. I do not expect that to occur this year, but I do believe the overowned and hyped emerging market stocks have likely already begun a multiyear period of underperformance relative to developed markets. As well, I continue to believe commodity and the most economically sensitive U.S. stocks will underperform over the intermediate term. Stocks that can grow at relatively high rates, notwithstanding slower global growth, will finally be awarded higher valuations for the first time in years. This new trend is likely just in its infancy. Oil is falling almost $4 per barrel, and gasoline futures are dropping to a 16-month low. It is very likely oil has put in place a major double-top, even if we get a Gulf hurricane over the coming weeks. I suspect funds that are historically long crude would use any temporary fear spike to unload long positions. If you trade futures and you are worried by the possibility of a hurricane heading into the Gulf causing a temporary spike in oil, natural gas looks like a good long hedge over the next few weeks. According to my analysis, natural gas is despised almost as much as oil is loved. I would exit the natural gas part of the trade on any break of its recent lows or closer to the peak in hurricane season as I still think it heads lower over the intermediate-term on declining industrial demand and record inventories. The VIX rose to the highest level since April 2003 this morning. Moreover, the 10-day put/call hit 1.31, right at the historic record set in March of this year. Finally, the ISE Sentiment index is a very depressed 68.0. I expect US stocks to trade mixed-to-higher into the close from current levels on short-covering, lower energy prices and bargain hunting.

Today's Headlines

Bloomberg:
- US stocks rebounded from three weeks of declines, led by financial companies, on prospects that earnings at banks and brokerages will buoy shares battered by credit-market losses.
- Crude oil is plunging almost $4/bbl. as funds cut their record long positions on worries over demand and diminishing hurricane-related worries.
- McDonald’s(MCD) will sell its Boston Market chain to buyout firm Sun Capital Partners to focus on hamburgers.
- Credit Suisse Group’s equity strategists, who have been bearish on US stocks since 2000, recommended investors increase holdings of shares as a refuge amid slowing global economic growth.
- Merrill Lynch(MER) was raised to “buy” from “neutral” at UBS AG, which said the stock was inexpensive after concern about losses in credit businesses drove down the price of the world’s biggest brokerage.
- Gasoline futures in NY are falling below $2 a gallon for the first time in more than three months as supplies may be adequate for the last few weeks of the summer.
- Gold and silver fell in NY on speculation the dollar’s decline will stall, reducing the appeal of the precious metals as alternative investments.

Wall Street Journal:
- Virgin America Ltd., a discount airline founded by UK billionaire Richard Branson, plans to attract US travelers with the latest in-flight technology when it starts flying on August 8.
- Amazon.com(AMZN) will offer a secure payment service for Internet purchases that may rival plans from EBay Inc.(EBAY) and Google Inc.(GOOG), citing company spokesman Jeff Barr.

NY Times:
- As much as 20% of cheap children’s jewelry in the US remains a lead poisoning hazard after a two-year effort to remove the tainted products, citing a report on US inspections.
- US state legislators have considered a record 1,404 immigration measures this year and passed 170, while the federal government hasn’t overhauled its policies, citing a study released today by the National Conference of State Legislatures, a non-Partisan group.
- The US National Science Foundation plans to award International Business Machines(IBM) a contract to construct the world’s fastest supercomputer, citing documents released on a US Web site.

USA Today:
- American Airlines(AMR), US Airways(LCC) and five other US air carriers reported record percentages of filled seats in July.

Financial Sense:
- Panic In The Street, Fear In The Air!

Iran Daily:
- Iran deported 222,760 “illegal immigrants” in the first three months of a crackdown aimed at Afghan refugees, citing the Labor Ministry.