Stocks Mildly Lower into Final Hour on Healthy Consolidation of Recent Gains

BOTTOM LINE: The Portfolio is slightly higher into the final hour on gains in my Internet longs, Semi longs and Biotech longs. I have not traded today, thus leaving the Portfolio 100% net long. The overall tone of the market is mildly negative today as the advance/decline line is lower, sector performance is mixed and volume is around average. Goldman Sachs (GS) blew away estimates by 40% and posted its second highest revenue in history. Bear Stearns (BSC) disappointed, but did say the "worst is likely behind us." The Goldman report is mind-boggling. Overall, so far, I would say that the broker reports are much better than feared and provide more evidence that, in the current U.S. negativity bubble, the worst case is almost always priced into stocks rather than the most likely scenario. The dollar-based three-month Libor rate is falling another 3 basis points and is now down 22 basis points in nine days, which is a big positive. The 10-year TIPS spread, which is a gauge of inflation expectations, is currently at 2.328%. This is down from 2.35% on Monday, before the Fed cut rates, and down from 2.5% as recently as June. Inflation expectations, as measured by this indicator, are well off the highs seen during March 2005 (at 2.78%) and May 2006 (at 2.74%). Gold hit its recent low on Aug. 16, the day the stock market hit its low as investor worries over credit market turmoil bringing down the global economy, specifically emerging markets, peaked. In my opinion, gold is much more correlated with perceptions of emerging market demand than inflation expectations. Every main gauge of inflation that I follow is below long-term average rates. I think the recent rise in the 10-year yield is more a function of investors taking out the recession that they were pricing in rather than a meaningful increase in inflation expectations. Based on market action during August, I am more convinced than ever that the secular trend of disinflation remains firmly in tact. I plan to add back to my long iShares Lehman 20+ Year Treasury Bond (TLT) position on any unexpected move in the 10-year yield back near 5%. One of the funniest things about the current excessively pessimistic backdrop is how quickly we move from worries over inflation to deflation back to inflation. I expect US stocks to trade mixed into the close from current levels as short-covering, bargain-hunting and less economic pessimism offsets higher oil prices and long-term rates.

Today's Headlines

Bloomberg:
- Former Fed chief Greenspan said the odds of the US economy slipping into recession have fallen and that home prices will probably fall less than 10%.
- Gold is rising again as the US dollar fell, economic worries subsided and investment funds increased speculation that inflation may accelerate.
- Crude oil is rising to a record in NY after the US said that production in the Gulf of Mexico was shut because of a storm threat. More than 360,000 barrels, or 28%, of daily oil production was idled, the US Minerals Management Service said.
- Fed Chairman Bernanke told lawmakers that the central bank is “actively working” to avoid a repeat of the subprime-mortgage rout.
- Goldman Sachs’(GS) Viniar Says Mortgage Market Is ‘Closer to the Bottom.’
- Warren Buffett’s Berkshire Hathaway sold PetroChina shares for a third time in three months after the stock gained sevenfold since the US billionaire first invested in China’s largest oil producer.
- Goldman Sachs(GS) reported the third-best profit in its 138-year history after betting against the mortgage bonds that roiled credit markets and left Bear Stearns(BSC) with its biggest earnings decline in more than a decade.

Wall Street Journal:
- US Democratic presidential candidate Hillary Clinton’s new health-care proposals echo her older plans in that they assume “Washington knows best,” said Mitt Romney.
- Clinton Campaign Vows To Check Contributions Solicited by Support.

NY Times:
- Decline in Retail Prices Offers Grace Note to Fed.

Arab News:
- A football match in Saudi Arabia was stopped after a 12-year-old girl was spotted attending the game. The girl was eventually asked to leave before the match resumed. Women are not allowed to attend football matches in Saudi Arabia.

Job Market Still Healthy, Leading Indicators Fall, Philly Fed Jumps

- Initial Jobless Claims fell to 311K versus estimates of 321K and 320K the prior week.

- Continuing Claims fell to 2544K versus estimates of 2575K and 2597K prior.

- Leading Indicators for August fell .6% versus estimates of a .4% decline and an upwardly revised .7% increase in July.

- Philly Fed for September rose to 10.9 versus estimates of 2.6 and 0.0 in August.

BOTTOM LINE: The number of US workers filing claims for jobless benefits unexpectedly fell last week, easing concern the labor market was softening, Bloomberg reported. The four-week moving-average of claims fell to 320,750 from 324,250 the prior week. The unemployment rate among those eligible for benefits, which tracks the US unemployment rate, fell to a low 1.9% from 2.0% the prior week. Claims have been resilient even after a jump in firings by mortgage lenders following the credit turmoil in August, according to economists. So far this year, jobless claims have averaged 318,000, just slightly higher than last year’s 313,000. I continue to believe the US job market will remain healthy over the intermediate-term without generating substantial unit labor cost increases.

The index of leading US economic indicators fell in August by the most in six months reflecting lower confidence and a rise in jobless claims, Bloomberg reported. A .22 percentage point subtraction came from the Univ. of Mich. consumer sentiment index and a .19 percentage point subtraction came from the uptick in jobless claims. Money supply adjusted for inflation added .33 percentage points to the indicator. I expect leading indicators to bounce back next month on lower jobless claims, better sentiment and higher stock prices.

Manufacturing in the Philly region accelerated more than forecast this month as orders and sales improved, Bloomberg said. As well, new orders came in at 15.1 vs. 7.1 in August. The prices paid component rose to 23.1 from 15.4, but this is still well off May 2006 highs of 54.0. The future outlook component of the index fell to 35.7, down slightly from 36.2 in August. I continue to believe manufacturing will help boost economic growth over the intermediate-term as companies gain confidence in the sustainability of the current expansion and rebuild depleted inventories.

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Thursday Watch

Late-Night Headlines
Bloomberg:
- US Treasury Secretary Henry Paulson will tell Congress tomorrow that Fannie Mae(FNM) and Freddie Mac(FRE) should be allowed to temporarily buy home loans above $417,000 if Congress creates a tougher regulator for the two largest US mortgage finance companies.
- Overnight yields on US asset-backed commercial paper fell to the lowest in more than a year after the Fed cut benchmark interest rates by 50 basis points to stem a credit crunch.
- Japan’s manufacturers became optimistic this quarter, a government report showed, indicating they’re confident the economy will rebound from a contraction.
- Israel was awarded “developed” status by FTSE Group, helping its stock market attract more of the estimated $2.5 trillion in funds that track the index provider’s global benchmarks.
- Macquarie Bank Ltd. is planning the first sale of mortgage-backed bonds in Australia in two months, tapping a market shut down by the US subprime mortgage rout.

Wall Street Journal:
- ABC’s AOL Pact Marks Web’s Growing TV Allure.

MarketWatch.com:
- Korea’s status as emerging market seen changing. Move by FTSE expected; rival MSCI sticking with developing country tag.
- Bear(BSC) may have slipped in prime brokerage: analyst. Morgan Stanley’s(MS) record prime brokerage result raises questions, Mayo says.
- With its impressive Tuesday rally, the stock market has risen to within shouting distance of the all-time high set in mid-July. And yet the editor of the average market timing investment newsletter is not nearly as optimistic today as then. That, in a nutshell, is why contrarians expect the stock market to continue to have an upside bias.

NY Times:
- NBC to Offer Downloads of Its Shows.

Financial Times:
- China’s government will freeze prices it controls in a bid to stem inflation, now at its highest rate in more than a decade.
- CIT Group(CIT), a leading US commercial finance company, said on Wednesday it would sell its subprime loan portfolio to Freddie Mac(FRE) in a move to quit the home-lending business, triggering a sharp rally in its shares.

Reuters:
- Chinese banks to invest in US, UK stocks via QDII.

Late Buy/Sell Recommendations
Citigroup:
- August appears to have been a strong month for Google(GOOG). Google “core” queries were up 1.68% M/M(as defined by comScore, this metric excludes properties like YouTube, etc.), and Google was the only major player to post M/M growth. Google’s share increased 130 bps M/M to 56.5%, tying its record high in May. Yahoo!’s(YHOO) queries declined 1.5% M/M, while its share dropped 20 bps M/M to 23.3%. Microsoft(MSFT) share dropped to 11.3%, down 100 bps M/M following an 8.9% M/M decline in queries. We believe much of the decline is due to lower Club Live usage but currently lack empirical support for this hypothesis.

Night Trading
Asian Indices are unch. to +.75% on average.
S&P 500 futures -.27%.
NASDAQ 100 futures -.28%.

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Earnings of Note
Company/EPS Estimate
- (COMS)/.02
- (AM)/-.05
- (BSC)/1.79
- (CCL)/1.62
- (CC)/-.12
- (CAG)/.29
- (FDX)/1.55
- (GS)/4.34
- (NKE)/.87
- (ORCL)/.21
- (SCHL)/-.47
- (SCS)/.24
- (TEK)/.39

Upcoming Splits
- None of note.

Economic Releases
8:30 am EST
- Initial Jobless Claims for last week are estimated to rise to 321K versus 319K the prior week.
- Continuing Claims are estimated to fall to 2575K versus 2585K prior.

10:00 am EST
-.Leading Indicators for August are estimated to fall .4% versus a .4% gain in July.

12:00 pm EST
- The Philly Fed for September is estimated to rise to 2.6 versus 0.0 in August.

Other Potential Market Movers
- The Fed’s Bernanke speaking on the mortgage market, weekly EIA natural gas inventory report, (WW) analyst meeting, (NDAQ) analyst day, (CMS) analyst meeting, (BRCD) analyst meeting, RBC Consumer Conference, DA Davidson Engineering & Construction Conference, ThinkEquity Growth Conference, Merrill Lynch Global REITs Conference and Maxim Growth Conference could also impact trading today.

BOTTOM LINE: Asian indices are higher, boosted by commodity and real estate stocks in the region. I expect US equities to open modestly lower and to rally into the afternoon, finishing mixed. The Portfolio is 100% net long heading into the day.

Stocks Build on Yesterday's Sharp Gains on Improving Credit Markets and Lower Inflation

Indices
S&P 500 1,529.03 +.61%
DJIA 13,815.56 +.55%
NASDAQ 2,666.48 +.56%
Russell 2000 817.40 +1.34%
Wilshire 5000 15,335.25 +.65%
Russell 1000 Growth 613.30 +.55%
Russell 1000 Value 858.55 +.64%
Morgan Stanley Consumer 741.15 +.93%
Morgan Stanley Cyclical 1,056.79 +.69%
Morgan Stanley Technology 653.29 +.20%
Transports 4,905.56 -.55%
Utilities 511.50 +1.31%
MSCI Emerging Markets 142.99 +2.50%

Sentiment/Internals
Total Put/Call .96 -8.57%
NYSE Arms .87 +197.87%
Volatility(VIX) 20.03 -1.57%
ISE Sentiment 155.0 +31.36%

Futures Spot Prices
Crude Oil 81.84 +.40%
Reformulated Gasoline 209.51 +1.69%
Natural Gas 6.14 -6.52%
Heating Oil 224.10 -.06%
Gold 729.10 +.75%
Base Metals 244.04 +4.46%
Copper 357.0 +3.54%

Economy
10-year US Treasury Yield 4.53% +6 basis points
US Dollar 79.32 +.14%
CRB Index 329.57 +.85%

Leading Sectors
REITs +1.70%
Oil Service +1.63%
Telecom +1.36%

Lagging Sectors
Gaming -.50%
Road & Rail -1.45%
Coal -1.77%

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Afternoon Recommendations
RBC:
- Rated (DIS) Outperform, target $39.

Afternoon/Evening Headlines
Bloomberg:
- US stocks extended their biggest rally in four years, buoyed by speculation Federal Reserve interest-rate cuts will help contain the housing slump and spur profit growth.
- Monolithic Power(MPWR), a leading fables manufacturer of high-performance analog and mixed-signal semiconductors, today announced increased revenue expectations for the third quarter of 2007 on strong demand for notebook computers and flat-panel TVs. The stock is jumping 9.4% in after-hours trading.
- US SEC Chairman Christopher Cox said the agency may expand its scrutiny of hedge funds for insider trading by asking more firms about their relationships with public companies.

NY Times:
- Dan Rather, whose career at CBS News ground to an inglorious end 15 months ago over his role in an unsubstantiated report questioning President Bush’s Vietnam-era National Guard service, filed a $70 million lawsuit this afternoon against the network, its corporate parent and three of his former superiors.

BOTTOM LINE: The Portfolio finished higher today on gains in my Biotech longs, Internet longs and Medical longs. I did not trade in the final hour, thus leaving the Portfolio 100% net long. The tone of the market was very positive today as the advance/decline line finished substantially higher, almost every sector rose and volume was above average. Measures of investor anxiety were slightly above-average into the close, despite today’s gains. Today's overall market action was bullish. Small-caps outperformed substantially today. I have dozens of stocks on my monitor pages with 2%-4% gains. Google (GOOG) is really starting to gain steam. I still expect the stock to easily exceed $600 by year-end. It remains my largest equity long position. Apple (AAPL) sold off into the close on option backdating rumors. Piper Jaffray said that there wasn't anything to these rumors and reiterated its buy on the shares. I am sure the bears will pull out all the stops to try and prevent this stock from breaking out. I still expect the shares to hit $180 before year-end, and it remains my second-largest long position. I sense many investors are hoping for something to come out of the clear blue to take stocks lower. Tomorrow's Bear Stearns (BSC), Circuit City (CC) and FedEx (FDX) reports could result in some early weakness in the major averages. I still think any near-term weakness will remain muted and short-term in nature as I suspect far too many bulls are still underinvested and bears are too short given the news over the last two days.