Weekly Outlook

Click here for The Week Ahead by Reuters

There are some economic reports of note and several significant corporate earnings reports scheduled for release this week.

Economic reports for the week include:

Mon. - Existing Home Sales

Tues. - Consumer Confidence

Wed. - Durable Goods Orders, New Home Sales

Thur. - Final 2Q GDP, Final 2Q GDP Price Index, Final 2Q Personal Consumption, Final 2Q PCE, Initial Jobless Claims

Fri. - Personal Income, Personal Spending, PCE Core, Univ. of Mich. Consumer Confidence

Some of the more noteworthy companies that release quarterly earnings this week are:

Mon. - JLG Industries(JLG), Walgreen(WAG)

Tues. - Dress Barn(DBRN), HB Fuller(FUL), Jabil Circuit(JBL), Lennar Corp.(LEN), Paychex(PAYX), Red Hat(RHAT), Stride Rite(SRR), Worthington Industries(WOR)

Wed. - Actuant(ATU), McCormick & Co.(MKC)
Thur. - American Greeting(AM), Family Dollar(FDO), Texas Industries(TXI)

Fri. - Global Payments(GPN)

Other events that have market-moving potential this week include:

Mon. - UBS Global Life Sciences Conference

Tue. - Merrill Lynch Global Power & Gas Conference, UBS Global Life Sciences Conference, Thomas Weisel Consumer Conference, Prudential Electrical Equip. & Consumer Electrical Conference

Wed. - UBS Global Life Sciences Conference, Merrill Lynch Global Power & Gas Conference, Prudential Electrical Equip. & Consumer Electrical Conference

Thur. - Prudential Electrical Equip. & Consumer Electrical Conference, UBS Global Life Sciences Conference

Fri. - Prudential Electrical Equip. & Consumer Electrical Conference, St. Louis’ Fed President speaks of data dependence

BOTTOM LINE: I expect US stocks to finish the week modestly higher on lower energy prices, short-covering, bargain hunting, mostly positive economic reports and less pessimism. My trading indicators are still giving bullish signals and the Portfolio is 75% net long heading into the week.

Market Week in Review

S&P 500 1,314.78 -.39%*



Click here for the Weekly Wrap by Briefing.com.

BOTTOM LINE: Overall, last week's market performance was mildly bearish. The advance/decline line fell, sector performance was mixed and volume was above average on the week. Measures of investor anxiety were mixed. The AAII percentage of Bulls fell to 47.75% this week from 47.95% the prior week. This reading is still slightly above average levels. The AAII percentage of Bears fell to 34.23% this week from 38.36% the prior week. This reading is still above average levels. The 10-week moving average of the percent bears is currently 39.6%. The 10-week moving-average of percent Bears was 43.0% at the major bear market lows during 2002. The only other times it was higher than these levels, since record keeping began in 1987, were the significant market bottom during the 1990 recession/Gulf War and in October 1992. The steadfastly high bearish percentage, considering the DJIA is only 2.1% from an all-time high, is still providing a wall of worry. I continue to believe the “irrational pessimism” aimed towards most US stocks has never been this great in history given the positive macro backdrop.

The average 30-year mortgage rate fell another 3 basis points to 6.40%, which is 40 basis points below July highs. I still believe housing is in the process of slowing to more healthy sustainable levels. Mortgage rates have likely begun an intermediate-term move lower, which should help stabilize housing over the next few months. The Case-Shiller housing futures are still projecting a 5% decline in the average home price over the next 9 months. Considering the average house has appreciated over 50% during the last few years, this would be considered a “soft landing.” The overall negative effects of housing on the US economy are currently being exaggerated, in my opinion. Housing has been slowing substantially for 13 months and has been mostly offset by other very positive aspects of the economy.

The benchmark 10-year T-note yield plunged 20 basis points on the week on diminishing inflation concerns and economic growth worries. In my opinion, investors overreacted to the negative Philly Fed reading. Consumer spending is much more important to the health of the US economy. Spending is poised to remain strong on plunging energy prices, falling long-term rates, a rising stock market, healthy job market, decelerating inflation and more optimism. The CRB Commodities Index, the main source of inflation fears, has now declined 8.4% over the last 12 months and is down 17.7% from May highs, approaching bear market territory. I believe inflation fears have peaked for the year as economic growth moderates to around average levels, unit labor costs remain subdued and the mania for commodities continues to reverse course.

The EIA reported this week that gasoline supplies rose less than expectations even as refinery utilization rose. Unleaded Gasoline futures dropped substantially again and are now 49.3% below September 2005 highs even as refinery utilization remains below normal as a result of the hurricanes last year, some Gulf of Mexico oil production remains shut-in and fears over future production disruptions persist. Gasoline demand is estimated to rise .8% this year versus a 20-year average of 1.7% demand growth. According to TradeSports.com, the percent chance of a US and/or Israeli strike on Iran this year has fallen to 10% from 36% late last year. The elevated level of gas prices related to crude oil production disruption speculation is further dampening fuel demand, which is sending gas prices back to more reasonable levels.

US oil inventories have only been higher during one other period over the last 7 years. Since December 2003, global oil demand is only up .7%, while global supplies have increased 4.8%, according to the Energy Intelligence Group. Moreover, worldwide inventories are poised to begin increasing at an accelerated rate over the next year. I continue to believe oil is priced at extremely elevated levels on fear and record speculation by investment funds, not fundamentals. The Amaranth Advisors hedge fund blow-up is a prime example of the extent to which many investment funds have been speculating on ever higher commodity prices. I suspect a number of other funds will experience similar fates over the coming months, which will further pressure energy prices as these funds unwind their leveraged positions.

Oil has clearly broken its uptrend, notwithstanding that this is the seasonally strong period for the commodity. A major top in oil is likely already in place. However, a Gulf hurricane could lead to a bounce higher in price over the next few weeks accelerating demand destruction, resulting in a complete technical breakdown in crude. As the fear premium in oil dissipates back to more reasonable levels, global growth slows and supplies continue to rise, crude oil should head meaningfully lower from current levels over the intermediate-term.

Natural gas inventories rose more than expectations this week, sending prices for the commodity plunging further. Supplies are now 12.5% above the 5-year average, a record high level for this time of year, even as some daily Gulf of Mexico production remains shut-in. Natural gas prices have collapsed 70.7% since December 2005 highs. It is very likely US natural gas storage will become full during October, creating the distinct possibility of a “no-bid” situation for the physical commodity. Colorado State recently reduced its forecast from three to two major hurricanes for this season versus seven last year. The peak of hurricane season was September 10. Natural gas made new cycle lows again this week despite the fact that the commodity is in its seasonally strong period.

Gold rose slightly on the week on US dollar weakness. The US dollar fell on worries over slowing economic growth. I continue to believe there is very little chance of another Fed rate hike anytime soon. An eventual cut is more likely at this point as inflation continues to decelerate.

Technology stocks outperformed for the week on more buyout activity and strong earnings reports. Energy-related stocks underperformed substantially again as the mania for these shares continues to subside in the face of falling prices and declining inflation worries. S&P 500 profit growth for the second quarter came in a strong 16.3% versus a long-term historical average of 7%, according to Thomson Financial. This is the 16th straight quarter of double-digit profit growth, the best streak since recording keeping began in 1936. Moreover, another double-digit gain is likely in the third quarter. Despite a 76.5% total return for the S&P 500 since the October 2002 bottom, its forward p/e has contracted relentlessly and now stands at a very reasonable 15.1. The 20-year average p/e for the S&P 500 is 24.4. The S&P 500 is now up 6.8% and the Russell 2000 Index is up 7.6% year-to-date. The DJIA is only 2.1% away from its all-time high reached on January 14, 2000. I expect the Dow to breach this level convincingly during the fourth quarter.

Current stock prices are still providing longer-term investors very attractive opportunities in many equities that have been punished indiscriminately. In my entire investment career, I have never seen the best “growth” companies in the world priced as cheaply as they are now relative to the broad market. By contrast, “value” stocks are quite expensive in many cases. A recent CSFB report confirmed this view. The report concluded that on a price-to-cash flow basis growth stocks are now cheaper than value stocks for the first time since at least 1977. Almost the entire decline in the S&P 500’s p/e, since the bubble burst in 2000, is a function of growth stock multiple contraction. The p/e on value stocks is back near high levels. I still expect the most overvalued economically sensitive and emerging market stocks to continue underperforming over the intermediate-term as the manias for those shares subside and global growth slows to more average rates. I believe a chain reaction of events has begun that will result in a substantial increase in demand for US stocks.

In my opinion, the market is still factoring in way too much bad news at current levels. One of the characteristics of the current “negativity bubble” is that most potential positives are undermined, downplayed or completely ignored, while almost every potential negative is exaggerated and promptly priced in to stock prices. This “irrational pessimism” by investors is resulting in a dramatic decrease in the supply of stock as companies buy back shares, IPOs are pulled and secondary stock offerings are canceled.

Over the coming months, an end to the Fed rate hikes, lower commodity prices, seasonal strength, the November election, decelerating inflation readings, lower long-term rates, increased consumer/investor confidence, rising demand for US stocks and the realization that economic growth is only slowing to around average levels should provide the catalysts for another substantial push higher in the major averages through year-end as p/e multiples begin to expand. I expect the S&P 500 to return a total of at least 15% for the year. The ECRI Weekly Leading Index fell this week and is forecasting healthy US economic activity.

*5-day % Change

Weekly Scoreboard*

Indices
S&P 500 1,314.78 -.39%
DJIA 11,508.10 -.46%
NASDAQ 2,218.93 -.74%
Russell 2000 718.63 -1.47%
Wilshire 5000 13,118.54 -.57%
S&P Barra Growth 610.59 -.59%
S&P Barra Value 702.10 -.18%
Morgan Stanley Consumer 647.99 -.43%
Morgan Stanley Cyclical 801.91 -1.70%
Morgan Stanley Technology 519.31 -.51%
Transports 4,327.43 -1.73%
Utilities 422.74 -.75%
MSCI Emerging Markets 94.76 -2.13%
S&P 500 Cum A/D Line 7,196 -5.0%
Bloomberg Oil % Bulls 27.91 +31.6%
CFTC Oil Large Speculative Longs 161,535 -9.0%
Put/Call .90 +11.11%
NYSE Arms 1.06 -8.62%
Volatility(VIX) 12.59 +7.06%
ISE Sentiment 130.0 +85.71%
AAII % Bulls 47.75 -.42%
AAII % Bears 34.23 -10.77%
US Dollar 85.16 -.95%
CRB 300.86 -2.02%
ECRI Weekly Leading Index 135.60 -.66%

Futures Spot Prices
Crude Oil 60.55 -5.66%
Unleaded Gasoline 147.12 -6.89%
Natural Gas 4.63 -7.64%
Heating Oil 164.72 -3.73%
Gold 595.20 +.34%
Base Metals 232.13 +4.22%
Copper 344.00 +.73%
10-year US Treasury Yield 4.59% -4.18%
Average 30-year Mortgage Rate 6.40% -.47%

Leading Sectors
Telecom +2.46%
Software +1.74%
Wireless +1.40%
Airlines +1.21%
Networking +.73%

Lagging Sectors
Oil Tankers -2.39%
Semis -3.09%
Coal -3.13%
HMOs -3.42%
Alternative Energy -5.52%

One-Week High-Volume Gainers
One-Week High-Volume Losers

*5-Day % Change

Stocks Lower into Final Hour on Growth Worries and Profit-taking

BOTTOM LINE: The Portfolio is slightly lower into the final hour on losses in my Semi longs and Computer longs. I have not traded today, thus leaving the Portfolio 100% net long. The tone of the market is negative as the advance/decline line is substantially lower, most sectors are falling and volume is light. The Amaranth hedge fund conference call just ended. It said that its multi-strategy funds are down 55% for the year and that it lost $560 million on Sept. 14 on the plunge in natural gas. Amaranth considered the energy market moves in September as highly remote. The hedge fund plans to remain in business but will no longer trade energy. I think many other funds will come to this same conclusion over the coming months, further pressuring most commodity prices. The CRB Index is approaching bear market territory, falling 18% from May highs. I also continue to believe the mania for emerging market stocks is in the initial stages of ending, as well. I expect US stocks to trade modestly higher into the close from current levels on short-covering, declining interest rates and bargain hunting.

Today's Headlines

Bloomberg:
- Natural gas is falling for the fourth day this week in NY on soaring supplies of the furnace ad power-plant fuel.
- Crude oil fell close to a six-month low on signs the standoff with Iran over its nuclear program may be nearing a resolution.
- President Bush and Pakistani President Musharraf said they are cooperating in the hunt for Osama bin Laden and dismissed reports about a rift in tactics.
- US Treasuries are rising again, extending the benchmark 10-year note’s biggest weekly gain in 17 months.
- Tribune(TRB), publisher of the LA Times and the Chicago Tribune, agreed to consider a sale of the company or some of its assets after the shares slumped.

Wall Street Journal:
- The UK Financial Services Authority will require hedge funds starting in November to disclose significant preferential deals made with investors.
- The SEC has been urged by lobby groups to do more to counter the threat of companies who trade in so-called naked short-selling by introducing new regulations.
- AT&T’s(T) $67 billion purchase of BellSouth(BLS) will be approved by the FCC.

NY Times:
- Wealthy Chinese parents are taking their children to golf lessons, expensive etiquette classes and music instruction to prepare them for elite status in the country.
- Viacom’s MTV Networks plans to buy Harmonix Music Systems, a creator of music-based video games, for $175 million, citing MTV President Christina Norman.

NY Post:
- Amazon.com(AMZN) and TiVo Inc.(TIVO) are in talks over an arrangement to download films to TiVo set-top boxes.

Financial Times:
- Man Group Plc CEO Stanley Fink said he would welcome regulation and registration for the hedge-fund industry that would put it on the same level as mutual funds.

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