Stocks Finish Mixed as Lingering Credit Fears Offset Healthy Retail Sales

Indices
S&P 500 1,452.92 -.05%
DJIA 13,236.53 -.02%
NASDAQ 2,542.24 -.10%
Russell 2000 779.81 -1.14%
Wilshire 5000 14,590.18 -.07%
Russell 1000 Growth 586.06 +.17%
Russell 1000 Value 812.20 -.15%
Morgan Stanley Consumer 715.56 +.28%
Morgan Stanley Cyclical 1,025.10 +1.48%
Morgan Stanley Technology 623.73 +.42%
Transports 5,011.49 +1.0%
Utilities 493.50 +.44%
MSCI Emerging Markets 129.61 +.60%

Sentiment/Internals
Total Put/Call 1.0 -8.26%
NYSE Arms .85 +16.09%
Volatility(VIX) 26.57 -6.11%
ISE Sentiment 107.0 +.94%

Futures Spot Prices
Crude Oil 71.53 +.08%
Reformulated Gasoline 193.45 -1.04%
Natural Gas 6.83 +.10%
Heating Oil 196.75 -.19%
Gold 679.90 -.25%
Base Metals 242.0 +2.51%
Copper 342.20 +1.86%

Economy
10-year US Treasury Yield 4.76% -5 basis points
US Dollar 81.10 +.53%
CRB Index 311.57 +.21%

Leading Sectors
Wireless +1.78%
HMOs +1.43%
Computer Hardware +1.31%

Lagging Sectors
Alternative Energy -2.78%
Homebuilders -3.23%
Coal -3.42%

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Afternoon Recommendations
- None of note

Afternoon/Evening Headlines
Bloomberg:
- Aegon NV, the second-largest Dutch insurer, said it agreed to buy two life insurance units from Merrill Lynch(MER) for $1.3 billion in cash.
- Smokers are four times more likely to develop macular degeneration, the leading cause of blindness in the elderly, compared with people who never puffed a cigarette, Australian researchers said.
- Johnson & Johnson(JNJ) returned to the bond market after a four-year absence, raising $2.6 billion in its largest ever debt offering.
- Time Warner Cable Inc., the second-largest US cable company, plans to expand a service that lets viewers watch shows when they want as long as they sit through the commercials.
- Chinese toothpaste distributed to hotels worldwide by a US company has been recalled because it may contain a chemical used in antifreeze, adding to recent cases of unsafe food and drug imports.

Wall Street Journal:
- US retail gasoline fell another 6.7 cents/gallon to $2.77/gallon in the latest week, the lowest since April 9.

CNNMoney.com:
- Credit crunch: Blackstone smells opportunity. President Tony James says the private equity firm has an eye on debt that has been oversold in the market.

Times Online:
- Almost every big quantitative fund using a strategy similar to Goldman’s(GS) – known as equity market neutral (EMN) strategy – was suffering in its own way. The result has been a rout of one of the most popular types of quant fund. Hedge Fund Research’s EMN Index had lost 7.6% by last Thursday.

BOTTOM LINE: The Portfolio finished higher today on gains in my Computer longs, Biotech longs and Medical longs. I did not trade in the final hour, thus leaving the Portfolio 75% net long. The tone of the market was slightly negative today as the advance/decline line finished mildly lower, sector performance was mixed and volume was above average. Measures of investor anxiety were elevated into the close. Today's overall market action was neutral. Growth outperformed value again today, with growth stock leaders especially strong. Areas of weakness were once again homebuilders, financials and commodities. Oil continues to trade very poorly. The long natural gas/short oil trade I suggested a couple of weeks ago has worked very well so far. I still think oil has put in place a major double top and will begin an accelerated downward move within the month. I would take off the long natural gas hedge as that move commences. The Nikkei, which barely rose last night, is indicated down about 60 on the open in Japan. While today's performance was likely frustrating for the bulls and bears, given the news after the close on Friday, I think a mixed performance was pretty good. Every day that goes by without another dip lower and more uncertainty lifting puts more pressure on the many bearishly positioned investors, in my opinion. For some time I have argued that the extreme popularity of the market neutral hedge fund strategy has been a large contributing force to the current US negativity bubble, helping to send short interest into the stratosphere. There are always exceptions, but in general this strategy has performed very poorly on a risk-adjusted basis for years. Last week, I wondered whether market neutral funds had really been run in a net short manner during this bull market. Then on Thursday when the market fell almost 3%, market neutral funds still fell 1.8%, according to Dow Jones. They are now down -5.3% for the month and -3.5% for the year. They had only returned an annualized 2.8% over the last 3 years even before the recent carnage. I continue to believe this strategy has seen its peak in popularity and that a majority of the vast amount of capital that has been deployed into these funds since the bubble burst in 2000 will begin to find its way into more positively correlated US stock strategies.

Stocks Slightly Higher into Final Hour on Less Economic Pessimism

BOTTOM LINE: The Portfolio is higher into the final hour on gains in my Computer longs, Biotech longs and Medical longs. I have not traded today, thus leaving the Portfolio 75% net long. The overall tone of the market is neutral today as the advance/decline line is slightly lower, sector performance is mixed and volume is above average. My intraday gauge of investor angst is elevated again. Investor angst is still levels normally associated with meaningful market bottoms. I had thought that, given recent stock declines and hedge fund de-leveraging, we would see diminished short selling. However, last week saw a massive spike in short sales by the public and total short sales. As well, the specialist short sales/total short sales ratio continues to move lower as it has since near the major market bottom in 2002. SentimenTrader's All-Index, All-Product Stochastic remains near levels normally associated with a meaningful market bottom. The Rydex Nova/Ursa Ratio also recently hit levels not seen since the depths of the 2000-2002 bear market. This also corresponds with the recent pessimistic extreme readings in the 10-day total put/call ratio, 10-day ISE Sentiment Index and highest VIX since early 2003. Let's also not forget that insiders are buying at levels not seen since right before the 2002 bottom. Goldman Sachs (GS) said this morning that non-financial companies in the S&P 500 have $800 billion in cash, or 10% of their market cap, which is double the historical average. This is one of the many large positives that continue to be ignored in the current climate of fear. A U.S. recession is a foregone conclusion in many circles, even as little evidence suggests this, and it has mostly been priced into stocks at current levels, in my opinion. I suspect with so many investors positioned so bearishly that we have to see significant economic weakness very soon or a substantial market rally is in the cards from current levels. I expect US stocks to trade mixed-to-higher into the close from current levels on short-covering, less economic pessimism and bargain hunting.

Today's Headlines

Bloomberg:
- The European Central Bank may have “overreacted” last week when it poured money into the banking system to avert a crisis of confidence in the credit market, said Paul de Grauwe, an academic at Belgium’s University of Leuven.
- Yield premiums on AAA and AA rated securities backed by US subprime or second mortgages have widened enough to make the bonds attractive, analysts at JPMorgan said.
- Sears Holdings(SHLD) rose the most in more than a year after the biggest US dept.-store company said it plans to buy back $1.5 billion in stock.
- Goldman Sachs(GS) will invest about $2 billion to shore up its Global Equity Opportunities Fund after a 28% decline this month.

Wall Street Journal:
- Former Fed Chairman Greenspan has been hired by Deutsche Bank AG as a consultant for its corporate and investment banking unit, Deutsche Bank Securities.
- Pakistani voters would be eager to take a stand against violent radicals and militants if they were given a chance to vote with their conscience, said Benazir Bhutto, the country’s main opposition leader and a former prime minister.
- Karl Rove, President Bush’s longtime political adviser, is resigning as White House deputy chief of staff effective Aug. 31, and returning to Texas, marking a turning point for the Bush presidency.

NY Times:
- Two of the three leading US automakers are being run by industry outsiders as the traditional notion of “car guys” take a back seat to broader pragmatic knowledge.
- Pack Mentality Among Hedge Funds Fuels Market Volatility.

Business Week:
- After the Drop, It’s Time to Stock-Shop.

USA Today:
- High-profile attacks in Iraq dropped almost 50% to about 70 in July from a 12-month peak of about 130 in March because of higher troop levels, citing the US military command in Iraq.

Handelsblatt:
- Jean-Michel Six, chief European economist at S&P in London, expects interest rates in the 13 countries sharing the euro to peak at 4.25%.

Retail Sales Bounce Back, Inventories Still Low

- Advance Retail Sales for July rose .3% versus estimates of a .2% gain and an upwardly revised -.7% decline in June.

- Retail Sales Less Autos for July rose .4% versus estimates of a .4% increase and an upwardly revised -.2% decline in June.

- Business Inventories for June rose .4% versus estimates of a .4% gain and a .5% increase in May.

BOTTOM LINE: US retail sales rose more than expected in July, a sign that consumer spending is accelerating into the important back-to-school selling season, Bloomberg reported. Moreover, excluding autos and gas station receipts, retail sales rose a healthy .6%. This data bear out the Fed’s forecast, reiterated last week, that the economy will grow at a “moderate” pace through year-end. Sales of electronics were especially strong, boosted by Apple’s(AAPL) iPhone release, rising 1%. Filling station sales fell .8% last month, as gas prices declined. Finally, furniture sales rose .5%. Wages in July rose 3.9%, well above recent inflation readings, which helped boost the Conference Board’s Consumer Confidence Index to a six-year high during July. I continue to believe retail sales will accelerate into the fall as energy prices continue to fall meaningfully, inflation decelerates further, wages continue to substantially outpace inflation, unemployment remains historically low, housing fears subside, stocks resume their major uptrend and confidence improves.

US businesses took advantage of slower sales in June to rebuild depleted inventories, suggesting orders and production will keep growing in coming months, Bloomberg said. Businesses had enough goods on hand to last 1.27 months at June’s sales pace, near the lowest in 12 months. I continue to believe inventory rebuilding will help boost US economic growth through year-end as companies gain confidence in the sustainability in the current expansion.

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Monday Watch

Weekend Headlines
Bloomberg:
- US stocks gained for the first time in four weeks on speculation the government will take steps to avert a lending crisis, helping the market overcome increasing home-loan and hedge fund losses.
- The “solidity” of BNP Paribas SA, Frances’s biggest bank, isn’t affected by the subprime crisis rippling through financial markets, Alain Papiasse, head of the bank’s asset management and services division, said in an interview published today in Le Parisien.
- Gold is going nowhere. Dollar-prcied bullion, a traditional haven for investors in times of turmoil, is lagging behind US Treasuries.
- Countrywide Financial Corp.(CFC) CEO Mozilo said the US Federal Reserve’s decision to pump more than $38 billion into the banking system may bolster confidence and help restart stalled credit markets.
- Treasuries posted their first weekly decline since early July after the Federal Reserve added $62 billion to the banking system to help avert a crisis of confidence in global credit markets.
- Hedge fund manager DE Shaw increased to 5.3% its stake in mortgage insurer Radian Group(RDN), according to a regulatory filing Friday.
- The yen’s seven-week rally is about to end.
- Pakistani and Afghan tribal leaders took a “positive” first step in the fight against terrorism by agreeing at their peace council to boost cooperation along the border, Pakistan’s President Pervez Musharraf said.
- The speculative grade bond credit default swap index fell 20.5% last week, on renewed optimism, after central banks boosted global liquidity.

Wall Street Journal:
- Northwest Airlines Corp.(NWA) is considering becoming a passive investor with one of four parties that may bid for Midwest Airlines.
- Crude-oil futures are feeling the tremors emanating from the credit markets and are weakening on fears that they could be the next casualty of the risk exodus.
- S&P 500 Looks On Cheap Side Amid Turmoil.

NY Times:
- The sharp stock market decline that began in late July is more likely to be a minor downturn in a continuing bull market than the beginning of a major bear market. That, at least, is the conclusion of an extensive analysis of corporate insiders’ trading behavior.
- Fund managers, who make what they consider conservative investments based on computerized calculations, are being blindsided by “model misbehavior,” Gretchen Morgenson wrote.
- A 75% drop in the overseas-based communications collected by US spy agencies because of tighter court restrictions spurred the quick passage of a new law giving President Bush more surveillance power.
- Novell Inc.(NOVL) owns the copyrights covering the Unix operating system, not SCO Group Inc., which may jeopardize that company’s lawsuits against Novell and International Business Machines(IBM).
- Democratic presidential candidates are detailing positions that might keep US troops in Iraq for years, while appealing to primary voters by pledging a quick end to the war and bringing the troops home.
- Cases of the sexually transmitted disease syphilis have risen among women in NYC as bisexual relationships increase, citing the Department of Health and Mental Hygiene.
- Cage-free egg demand is rising faster than production as corporations including Google Inc.(GOOG) add them to their cafeteria menu and Whole Foods Market(WFMI) sell them exclusively.

Barron’s:
- Shares of Bear Stearns(BSC), the second-largest underwriter of mortgage bonds, may sell at double their current price should the company consider merging with or being acquired by a larger company.
- Scott Barbee, managing director of the Aegis Value Fund, won the No. 1 spot in the 12^th annual Barron’s/Value Line list of the top 100 US mutual-fund managers.

MarketWatch.com:
- Big liquidation triggers hedge-fund turmoil. Some compare upheaval to LTCM collapse; market neutral funds are hit hard.
- Google, Cisco don’t collateralize loans. Commentary: Ignore analysts, look to debt-free tech sector for safe haven.

AP:
- Gas prices drop nearly 11 cents in last 2 weeks.

Reuters:
- China on Sunday delivered a vote of confidence in the US dollar, saying dollar assets form an important part of its foreign exchange reserves and the US currency plays a prominent role in the global monetary system.

TheStreet.com:
- “If investors have cash on the sidelines, they should not wait too long to put it to use,” says Jeremy Siegel, Wharton business school professor at the University of Pennsylvania and well-known markets commentary.

CBS News.com:
- Credit Crisis? Not Really. National Review Online: Sub-Prime Mortgage Market Woes Are Greatly Exaggerated.

Washington Post:
- From an early age, people are trained to act quickly when they hear sounds of emergency: fire alarms, police sirens, even car horns. So while it might be difficult for investors who hear alarm bells on Wall Street, often the wisest reaction is to stand still.

LA Times:
- Conditions at California’s lowest-performing schools have improved in the past three years, following the settlement of a class-action lawsuit, citing a study.

Hollywood Reporter:
- NBC Universal may buy Oxygen Media, the closely held owner of the Oxygen cable television network, for as much as $3 billion.

Forbes.com:
- Consumer Spending Will Not Collapse in Face of Housing Correction.

Oil & Gas Journal:
- US oil drilling activity hit a 21-year high last week, according to Baker Hughes.

Financial Times:
- The much-heralded financial rocket scientists responsible for the explosion in complex mathematical trading strategies are bracing themselves for fresh pain after what one team of analysts called “the perfect storm” last week.
- Wall street is braced this week for the most anticipated technology IPO in years as VMware, a fast-growing software company, prepares to float 10% of its shares on the stock market.
- General Motors(GM) may allow buyers of its Chevy Volt electric car to rent the vehicle’s battery as a way of pricing the vehicle at a comparable level to a traditional, petrol-driven family saloon.
- Central banks are expected to continue intervening in the money markets on Monday in an effort to unblock the financial system after last week’s turmoil.

Daily Telegraph:
- Hedge fund panic was behind global stock markets collapse.

AFP:
- Iraq and Iran signed an agreement to build two oil pipelines from the southern Iraqi port of Basra to the southwest Iranian port of Abadan, citing the state-run Iran news agency.

Sunday Times:
- Nasdaq Stock Market(NDAQ) may sell part of its stake in London Stock Exchange Group Plc to fund a higher offer for Swedish exchange operator OMX AB.
- Bank of England policy maker Andrew Sentence suggested that interest rates may need to remain high for a while as global economic growth underpins inflation, citing an interview.

Weekend Recommendations
Barron's:
- Made positive comments on (BSC), (GLW) and (ZRAN).
- Made negative comments on (CMG).

Citigroup:
- We are upgrading (AVT) and (ARW) to Buy from Hold. We see EMS inventory turning to catalyst from a headwind, recent acquisitions progressing well, and each company in no need of credit markets for additional acquisitions as they have sufficient cash and cash flow. With more favorable EMS inventory levels, we have increased conviction EPS for distributors could be set for upside.
- Reiterated Buy on (INTU), target $35.
- While we cannot hope to predict the outcomes of the current credit market volatility, we emphasize that semiconductor fundamentals are strong. Consistent with the view from out strategist and economist, we expect technology to be a leader from this current market weakness, and we expect semiconductors to play a vital role in this. We continue to favor (INTC), (MU), (TXN), (SPSN) and (IDTI).

Night Trading
Asian indices are -.25% to +.75% on average.
S&P 500 futures +.75%.
NASDAQ 100 futures +.67%.

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Earnings of Note
Company/Estimate
- (BX)/.34
- (BOBE)/.36
- (CNK)/.09
- (DV)/.25
- (DTE)/.47
- (NTES)/.29
- (SYY)/.46

Upcoming Splits
- (SHEN) 3-for-1

Economic Releases
8:30 am EST
- Advance Retail Sales for July are estimated to rise .2% versus a -.9% decline in June.
- Retail Sales Less Autos for July are estimated to rise .4% versus a -.4% decline in June.

10:00 am EST
- Business Inventories for June are estimated to rise .4% versus a .5% increase in May.

Other Potential Market Movers
- The Keefe Bruyette & Woods Bank Conference could also impact trading today.

BOTTOM LINE: Asian indices are higher, boosted by financial and technology shares in the region. I expect US stocks to open modestly lower and to rally into the afternoon, finishing modestly higher. The Portfolio is 75% net long heading into the week.