Saturday, May 27, 2006

Market Week in Review

S&P 500 1,280.16 +1.04%*

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Click here for the Weekly Wrap by Briefing.com.

BOTTOM LINE: Overall, last week's market performance was modestly bullish. The advance/decline line rose, most sectors gained and volume was above-average on the week. Measures of investor anxiety were mostly lower. However, the AAII % Bulls fell to 33.4% and is approaching depressed levels, which is a big positive.

The average 30-year mortgage rate rose to 6.62% which is 141 basis points above all-time lows set in June 2003. I still believe housing is in the process of slowing to more healthy sustainable levels. Data this week gave more credence to the “soft landing” scenario. This will likely result in the slowing of consumer spending, and thus US GDP growth, back to around average rates over the coming months. US economic growth soared 5.3% during the first quarter.

The benchmark 10-year T-note yield fell 1 basis point on the week as economic data were mixed, inflation readings were around estimates, the US dollar rose and Fed members made mixed comments. I still believe inflation concerns have peaked for the year as investors begin to anticipate slower economic growth, unit labor costs remain subdued and the mania for commodities continues to reverse course.

Unleaded Gasoline futures rose this week and are now 26.6% below September 2005 highs even as refinery utilization remains below normal as a result of the hurricanes last year, a significant amount of Gulf of Mexico oil production remains shut-in and fears over future production disruptions persist. The EIA reported this week that gasoline supplies rose again as demand continued to wane. This is a result of conservation, substitution and demand destruction. The elevated level of gas prices related to shortage speculation and crude oil production disruption speculation should further dampen demand over the coming months, sending gas prices back to reasonable levels.

Natural gas inventories rose less than expectations this week, however supplies are 50% above the 5-year average, near an all-time record high for this time of year, even as some daily Gulf of Mexico production remains shut-in. Natural gas prices have plunged 61.7% since December 2005 highs. Notwithstanding this collapse, industrial demand for natural gas has shown few signs of increasing. US oil inventories are still approaching 9-year highs. Since December 2003, global oil demand is down .24%, while global supplies have increased 4.94%. 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. As the fear premium in oil dissipates back to more reasonable levels and supplies continue to rise, crude oil should head meaningfully lower over the intermediate-term.

Gold fell for the week as the US dollar rose, inflation fears subsided and speculators took profits. The US dollar rose and appears to have made at the very least a short-term bottom.

The Internet and Biotech sectors outperformed for the week. These sectors have likely seen their lows for the year and should continue to outperform the broad market through year-end. S&P 500 earnings growth for the 1st quarter was up 16.7% year-over-year, more than double the long-term average and substantially above expectations of 8-9% growth. This marks the 16th consecutive quarter of double-digit profit growth, the best streak since record-keeping began in 1936. The forward p/e on the S&P 500 has contracted relentlessly during this time period and now stands at a very reasonable 14.9.

The average US stock, as measured by the Value Line Geometric Index(VGY), is still up 4.5% so far this year, notwithstanding the recent correction. Moreover, the Russell 2000 Index is up 8.8% year-to-date. In my opinion, the current pullback has provided longer-term investors very attractive opportunities in many stocks that have been punished indiscriminately. However, the most overvalued economically sensitive and emerging market stocks should continue to underperform over the intermediate-term as the manias for those shares subside.

While the major averages have likely bottomed for the year, a test of recent lows could occur over the coming weeks as economic data disappoint. An ensuing Fed pause, lower commodity prices, decelerating inflation readings, lower long-term rates, increased consumer confidence and the realization that growth is only slowing should provide the catalysts for another substantial push higher in the major averages through year-end as p/e multiples begin to expand. I continue to believe the S&P 500 will return a total of around 15% for the year. The ECRI Weekly Leading Index fell again this week and is forecasting healthy, but decelerating, US economic activity.


*5-day % Change

Friday, May 26, 2006

Weekly Scoreboard*

Indices
S&P 500 1,280.16 +1.04%
DJIA 11,278.61 +1.21%
NASDAQ 2,210.37 +.75%
Russell 2000 729.55 +.97%
Wilshire 5000 12,895.75 +.94%
S&P Equity Long/Short Index 1,153.54 -2.94%
S&P Barra Growth 593.44 +1.06%
S&P Barra Value 684.83 +1.01%
Morgan Stanley Consumer 608.71 +1.03%
Morgan Stanley Cyclical 842.62 +.93%
Morgan Stanley Technology 510.49 +1.02%
Transports 4,675.64 +1.07%
Utilities 404.16 +1.87%
S&P 500 Cum A/D Line 7,172 +3.0%
Bloomberg Crude Oil % Bulls 30.4 unch.
Put/Call .74 -40.16%
NYSE Arms .65 -26.74%
Volatility(VIX) 14.29 -16.70%
ISE Sentiment 160.00 +14.29%
AAII % Bulls 33.04 -16.12%
AAII % Bears 45.54 +4.35%
US Dollar 85.22 +.44%
CRB 347.82 +2.71%
ECRI Weekly Leading Index 136.90 -.51%

Futures Spot Prices
Crude Oil 71.38 +3.11%
Unleaded Gasoline 213.00 +4.67%
Natural Gas 6.05 +1.17%
Heating Oil 198.65 +3.41%
Gold 652.70 -.56%
Base Metals 241.20 +8.39%
Copper 378.20 +9.10%
10-year US Treasury Yield 5.04 -.20%
Average 30-year Mortgage Rate 6.62% +.3%

Leading Sectors
Steel +3.43%
Internet +3.13%
Oil Service +3.12%
Biotech +2.97%
REITs +2.06%

Lagging Sectors
Hospitals -1.40%
Computer Hardware -2.04%
Restaurants -2.20%
Disk Drives -2.48%
Semis -4.67%

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

*5-Day % Change

Stocks Higher Heading Into Final Hour on Bargain Hunting and Short Covering

BOTTOM LINE: The Portfolio is higher heading into the final hour on gains in my Retail longs, Semi longs and Medical longs. I covered the remainder of my (IWM) and (QQQQ) shorts today, thus leaving the Portfolio 100% net long. The tone of the market is positive as the advance/decline line is higher, almost every sector is higher and volume is below average. The U.S. Dollar Index is rising .6% today. The dollar continues to trade as though at the very least a short-term bottom is in place. This is a positive for equities given the bears' arguments revolving around a collapsing dollar. I expect US stocks to trade mixed-to-higher into the close from current levels on lower long-term rates, a rising dollar, short-covering and bargain hunting.

Today's Headlines

Bloomberg:
- Crude oil may fall on signs that higher refinery output and near-record imports will meet gasoline demand during the US summer driving season, a Bloomberg News survey shows.
- Las Vegas Sands(LVS) beat three rival bids to build Singapore’s first casino-resort with an offer valued at more than $3.2 billion.
- US Capitol Police are investigating a report that gunshots were heard in the garage of the Rayburn House Office Building near the Capitol.
- Shares of Navistar Intl.(NAV) rose as much as 17% after MAN AG, Europe’s third-largest truckmaker, said it was interested in acquiring a stake in its US competitor while expanding across the Atlantic.
- The US dollar is rising against the euro and the yen after a government report reinforced expectations the Fed will lift interest rates next month.
- US Treasuries rose on signs the economy may cool and curb demand for risky assets.

Wall Street Journal:
- Keefe, Bruyette & Woods, which is planning an IPO, will sell about 25% of itself to raise as much as $150 million.
- International funds, which spread their investments across a broad geographical spectrum, may have put more of their money in emerging markets than investors might have expected. Last week, investors withdrew a record $1.9 billion from such funds. The poor performance of international funds is aggravating for investors who may have thought their investment risk to emerging markets was less than it actually is.

NY Times:
- Grief still afflicts many people directly affected by the Sept. 11 terrorist attacks more than four years ago, citing a study by the American Red Cross.

NY Post:
- Microsoft’s(MSFT) negotiations to buy Internet auction site EBay Inc.(EBAY) are waning as the two companies are weighing antitrust concerns.

Interfax:
- Russia will deliver anti-aircraft missiles to Iran as agreed, citing Defense Minister Ivanov.

Incomes Rise, Spending Strong, Inflation Muted

- Personal Income for April rose .5% versus estimates of a .7% gain and a .5% increase in March.
- Personal Spending for April rose .6% versus estimates of a .6% increase and a .5% gain in March.
- The PCE Core for April rose .2% versus estimates of a .2% gain and a .3% increase in March.
- Final Univ. of Mich. Consumer Confidence for May rose to 79.1 versus estimates of 79.0 and a prior estimate of 79.0.
BOTTOM LINE: Consumer spending in the US rose .6% in April, mainly reflecting an increase in prices that suggests inflation is taking a toll on Americans’ buying power, Bloomberg said. The Core PCE, the Fed's favorite inflation gauge, rose 2.1% from year-ago levels. Incomes rose 5.4% in April from the same month last year, almost twice the rate of most inflation measures. Economists expect consumer spending to slow to 2.5% this quarter. I continue to believe spending will slow to average rates through year-end, while incomes will remain relatively healthy and inflation measures decelerate from current levels.

Consumer confidence in the US fell to its lowest in seven months in May as near-record gas prices eroded purchasing power, Bloomberg said. The current conditions index fell to 96.1 from 109.2. The expectations index fell to 68.2 from 73.4 in April. The average price of regular gasoline was $2.88/gallon on May 22 versus $2.14/gallon in May 2005. I continue to believe consumer sentiment is irrationally low and will make cycle highs later this year as stocks rise sharply from current levels, interest rates fall modestly, inflation decelerates, gas prices fall, the job market remains relatively healthy and Iraq improves.

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