Stocks Finish Higher on More Economic Optimism After FOMC Comments

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Stocks Building on Yesterday's Sharp Gains into Final Hour as Fed Leaves Rates Unch., Emphasizes Economic Strength

BOTTOM LINE: The Portfolio is higher into the final hour on gains in my Retail longs, Biotech longs and Internet longs. I have not traded today, thus leaving the Portfolio 100% net long. The overall tone of the market is slightly positive today as the advance/decline line is slightly higher, most sectors are higher and volume is heavy. My intraday gauge of investor angst is still elevated. The ISE Sentiment Index hit an all-time low of 39.0 this morning. It is extraordinary that this gauge of retail option trader sentiment this morning was showing more bearishness than during the major bear market lows during late 2002/early 2003. As well, the CBOE total put/call hit a very high 1.39 again this morning. The 10-day moving average remains near record levels. The VIX is down today but is still near levels last seen in 2003. Stocks are building on yesterday's strong gains. A Luminent Mortgage Capital (LUM) bankruptcy looks likely, and Goldman Sachs (GS) said that its Global Alpha fund is down 16% year-to-date, yet the financials are solidly higher. The financials ignoring new negative news is a significant positive for the broad market and a prime example of how much bad news is already factored into stock prices at current levels. The S&P 500 forward P/E is now 15.5, down from 16.1 at the beginning of the year despite earnings substantially beating estimates once again. Median S&P 500 earnings growth for second quarter is on pace to exceed first quarter's rate and come in at double-digit rates once again. As well, it is interesting to note the very positive comments recently from Harrah's Entertainment (HET) and Wynn Resorts (WYNN) regarding Las Vegas traffic trends. Urban Outfitters (URBN) said that second-quarter sales jumped 22%, with same-store-sales up 5%. Last night, after the close, Citigroup (C) had positive comments regarding the prospects for a better-than-expected back-to-school selling season. Finally, a Rasmussen poll today showed 70% of consumers think economic conditions are fair-to-excellent vs. 28% that view them as poor. This corresponds with the recent cycle high reached in the Conference Board's Confidence Index. These are just more data points that don't indicate the imminent collapse in consumer spending that is partially being factored into stocks at current levels. “Growth” stock leaders are especially strong again today, with many posting 1%-3% gains. I expect US stocks to trade modestly higher into the close from current levels on short-covering, more economic optimism and bargain hunting.

Stocks Slightly Higher into Final Hour as Fed Remains on Hold, Emphasizing Economic Strength

Bloomberg:
- The Federal Reserve kept the benchmark Fed Funds rate at 5.25%. The Fed said that the US expansion is supported by “solid” job growth and incomes, as well as strong global growth. They also said core inflation has improved modestly.
- Francois Trahan, Wall Street’s top-ranked strategist, is one of the most bullish as he sees the S&P 500 rising to 1,700.
- Apple Inc.(AAPL) CEO Steve Jobs introduced three sleeker versions of the iMarc desktop computer to win over back-to-school shoppers.
- Countrywide Financial(CFC) and CIT Group(CIT) said they’ll be able to ride out the mortgage industry’s credit crunch.
- Billionaire investor Warren Buffett will host a fund-raising event for Democratic presidential candidate Barack Obama in Nebraska this month.
- Lenovo Group Ltd. said it is in talks with an independent third party to buy Packard Bell BV.
- The risk of owning corporate bonds is falling on speculation the US government may seek to contain losses on subprime mortgage securities, according to traders of credit-default swaps.
- Brushfield Capital, a unit of ABN Amro Holding NV, raised $1.25 billion from investors for a collateralized debt obligation including US subprime mortgage securities.
- Paulson & Co., the NY-based hedge-fund manager whose assets more than doubled this year to $20 billion, is posting among the industry’s highest returns by wagering that declines in subprime mortgages are far from over.

Wall Street Journal:
- Eric Dinallo, NY’s top insurance regulator, is looking at reviving the defunct NY Insurance Exchange as a rival to Lloyd’s of London, citing Dinallo.
- US technology entrepreneurs have set up a Web site to evaluate venture capitalists.
- Mutual funds designed to produce returns whether the market goes up or down haven’t performed as billed in recent turmoil. So-called long-short funds, which are supposed to lose less in a stock-market slump, lost 5.3% in the month ended Aug. 3. “Market-neutral” funds lost 1.24%.

NY Times:
- US Democratic presidential candidates Hillary Clinton and Barack Obama have barely spoken to each other in months, though their paths sometimes cross several times a day.

NY Post:
- The NY Times(NYT) will stop charging for access to online content including columnists and archived stories.

Washington Post:
- The House ethics committee is suspending its investigation of Democratic Representative William Jefferson after the Justice Dept. indicated that a congressional inquiry could conflict with a criminal investigation.

USA Today:
- The US government’s decision to send additional troops to Iraq is “making the situation better,” according to a USA Today/Gallup Poll.

Financial Times:
- US advertising online is expected to overtake that in newspapers by 2011, citing a study by Veronis Suhler Stevenson.
- Russia’s bid to gain control of the seabed at the North Pole highlights the potential wealth of the area, which may contain a quarter of the world’s undiscovered oil and gas reserves according to Bernstein Research.

Vedomosti:
- Russian billionaire Oleg Deripaska bought about 5% of General Motors(GM) late last year.

Haaretz:
- Israeli Prime Minister Ehud Olmert is examining a new peace proposal in which Israel would transfer to a future Palestinian state areas equivalent to 100% of the land conquered in 1967.

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%.
NASDAQ 100 futures unch.

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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.