Stocks Sharply Lower into Final Hour Despite Financial Sector Strength on Rising Economic Pessimism

BOTTOM LINE: The Portfolio is lower into the final hour on losses in my Medical longs, Computer longs and Internet longs. I added IWM/QQQQ hedges and added to my (EEM) short this morning, thus leaving the Portfolio 75% net long. The overall tone of the market is negative today as the advance/decline line is lower, sector performance is mostly negative and volume is above average. Investor anxiety is above average. Today’s overall market action is bearish. It is very disappointing that we are giving back this much of the last two days’ gains given the relative strength in the financials. Large-cap growth leaders with any exposure to consumer spending are especially weak as investors continue to price in the worst case economic scenario. Meanwhile, the odds of a recession have actually declined over the last two days, according to Intrade.com. Bear complacency remains extraordinarily high given how much bad news is already factored into stock prices at current levels and the real potential for significant positive near-term catalysts. However, size buyers are scarce as investor confidence remains extraordinarily depressed. A significant confidence-boosting near-term catalyst needs to materialize soon to prevent the major averages from taking out recent lows. I expect US stocks to trade mixed into the close from current levels as short-covering, lower energy prices and diminishing credit angst offset more economic pessimism.

Trade Deficit Widens, Exports Hit Another Record, Import Prices Decelerate

- The Trade Deficit for November widened to -$63.1 billion versus estimates of -$59.5 billion and -$57.8 billion in October.

- The Import Price Index for December was unch. versus estimates of a .1% gain and an upwardly revised 3.3% gain in November.

BOTTOM LINE: The US trade deficit widened more than forecast in November as Americans spent a record amount on imported oil, overwhelming another record-setting month for US exports, Bloomberg said. Sales of automobiles, corn, refined petroleum products and industrial engines contributed to another surge in US exports. Imports rose 3%, reflecting record purchases of crude oil as the average price shot up to $79.65 a barrel, the highest ever. The rise in petroleum imports accounted for about two-thirds of the increase in the trade gap. Purchases of capital equipment by US companies and consumer imports also contributed to the increase. The US economy shouldn’t fall into recession as consumer spending softens without falling too much and exports keep surging to records, a Bloomberg News survey of economists this month showed. I expect the Trade Deficit to continue to trend lower over the intermediate-term as energy prices fall.

Prices of goods imported into the US were unchanged in December, as oil costs receded from a record high, Bloomberg reported. The price of imported petroleum and petroleum products dropped .6% after jumping 12.7% the prior month. Natural gas prices rose 2.8% in December, but were 2.7% lower from year ago levels. Costs for industrial materials, such as metals, fell .1%. I still think Import Prices increases have peaked for this cycle and that overall inflation will continue to decelerate over the intermediate-term.

Bear Radar

Style Underperformer:

Large-cap Growth (-1.14%)

Sector Underperformers:

Restaurants (-5.16%), Airlines (-2.81%) and Telecom (-2.66%)

Stocks Falling on Unusual Volume:

TIF, AXP, MCD, ININ, PLCE, ACGY, JNPR, PGNX, PBKS, CVGI, ARUN, CECO, INFY, LOGI, CTSH, NILE, BIGG, NILE, BGFV and TLEO

Bull Radar

Style Outperformer:

Large-cap Value (-.11%)

Sector Outperformers:

Disk Drives (+1.05%), I-Banks (+.72%) and Medical Equipment (+.55%)

Stocks Rising on Unusual Volume:

DYS, IHS, SNX, IMN, GGL, SPW, AGU, DBA, COIN, USNA, BVN, PZE, SNCR, EQIX, CHU, HL, TRA, MOS, PFCB, CPHD, WFMI, AKNS, DRYS, NUAN, CEPH and CNH

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Friday Watch

Late-Night Headlines
Bloomberg:
- Bank of America(BAC) is in talks to acquire Countrywide Financial Corp.(CFC), the biggest US mortgage lender, a person with knowledge of the discussions said.
- Clients of James Siomon’s Renaissance Technologies Corp. withdrew $4 billion from the firm’s largest hedge fund in the past four months after returns trailed peers.
- The number of individual investors who are bearish on US equities exceeds those who are bullish by the most since November 1990, a signal to some investors that stocks may be poised to rebound. The percentage of AAII respondents who are bearish has exceeded those who are bullish by more than 33 percentage points only three other times since 1990 – in October 1992, February 2003 and July 2006. In the 12 months that followed those periods, the S&P 500 rose 14%, 35% and 24%, respectively. Assets in US money-market funds increased by $61.3 billion during the week ended Jan. 8, the sixth-largest increase on record, to an all-time high of $3.15 trillion, according to iMoneyNet.
- PIMCO’s Bill Gross, manager of the world’s biggest bond fund, reduced some of the pool’s cash and bought investment-grade corporate debt last month, pushing holdings to the highest since September 2003.
- Intel Corp.(INTC) former CEO Andy Grove plans to give as much as $40 million from his estate to the Michael J. Fox Foundation, a group devoted to Parkinson’s disease research.
- The yen fell against all 16 of the most-active currencies on speculation central banks will ease a credit crunch, giving traders confidence to resume buying higher-yielding investments funded in Japan.

Wall Street Journal:
- Kenneth Lewis’s move to buy hobbled mortgage lender Countrywide Financial Corp.(CFC) is a bullish bet on Bank of America’s own future and that of the battered financial system.
- Republicans Back Tax, Spending Cuts in Debate.
- Fed Chief Opens the Door To ‘Substantive’ Rate Cuts.

MarketWatch.com:
- Older adults eager to volunteer have their pick of a growing number of innovative new options, with many nonprofits trying to meet volunteers halfway by giving them flexibility, new challenges and, in some cases, a nominal paycheck in exchange for their skilled work.

NY Times:
- A huge underwater oil field discovered late last year has the potential to transform South America’s largest country, Brazil, into a sizable exporter and win it a seat at the table of the world’s oil cartel.
- Merrill Lynch(MER) is expected to suffer $15 billion in losses stemming from soured mortgage investments.

BusinessWeek.com:
- Marcial: Inside Wall Street. This week, Gene Marcial looks at DryShips, Microchip Technology, and Chicago Bridge & Iron.
- S&P Picks and Pans: Delta, UPS, Intel, Citi, Merrill, Tata.

CNNMoney.com:
- Tata unveils world’s cheapest car.
- Here come the hot IPOs of ’08.

DigiTimes:
- AU Optronics Corp.(AUO), Taiwan’s largest liquid-crystal display maker, and four rivals will earn a combined record profit of $6.2 billion this year as tight supplies prevent prices from falling.

USA Today.com:
- Tech, toy giants join discussion over kids’ cyber-centered lives.
- The average 30-year mortgage rate plunged 20 basis points to 5.87% this week, the lowest level in more than two years.

Reuters:
- Delta wants merger talks with UAL, Northwest: report.
- Third Avenue Mgmt. has 10.9% stake in MBIA Inc.(MBI).

Financial Times:
- Americans bought more Toyota Prius hybrid petrol-electric hatchbacks in 2007 than Ford Explorer sports utility vehicles, the top selling SUV for more than a decade.

Commercial Times:
- Taiwan Semiconductor Manufacturing may report record quarterly sales in the second half of 2008 because of increased demand for chips used in handsets with more advanced features.

Late Buy/Sell Recommendations
Citigroup:
- Upgraded (NUAN) to Buy, target $23.
- No Visible Warning Flags. We hosted 10 software co’s at Citi’s San Francisco office on Thursday 1/10. Key takeaways include: co’s are not seeing any weakness though we think there is still risk + we face seasonal headwinds in 1H; on-demand sector (CRM) sounded most confident; large diversified businesses are also relatively defensive (ADBE ADSK); (BEAS) may yet get acquired.
- We favor Hologic(HOLX) as our top pick in the Emerging Medtech sector followed by Spectranetics(SPNC) and Varian Medical(VAR). We expect strong upcoming quarters from all three companies and are increasing our price targets for (HOLX) to $81 from $74 and on (VAR) to $62 from $51.
- Reiterated Buy on (DPZ), target $20.

Night Trading
Asian Indices are -1.25% to +.50% on average.
S&P 500 futures -.54%.
NASDAQ 100 futures -.50%.

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Economic Releases
8:30 am EST
- The Trade Deficit for November is estimated to widen to -$59.5 billion versus -$57.8 billion in October.
- The Import Prices Index for December is estimated to rise .1% versus a 2.7% rise in November.

2:00 pm EST
- The Monthly Budget Surplus for December is estimated to rise to $50.0 billion versus $42.0 billion in November.

Other Potential Market Movers
- The Needham Growth Conference could also impact trading today.

BOTTOM LINE: Asian indices are mostly lower, weighed down by mining and financial 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.