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Market Wrap

Fed fears raise risk reward ratios to unacceptable levels.

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       5-04-2000           High     Low     Volume Advance Decline
DOW    10413.10 -  67.00 10523.10 10407.50   919,329k 1,614  1,278
Nasdaq 3,720.24 +  12.93  3762.47  3679.43 1,287,334k 2,199  1,770
S&P-100  756.81 -   4.37   764.37   754.29    Totals  3,813  3,048
S&P-500 1409.38 -   5.72  1420.99  1404.94            55.6%  44.4%
$RUT     501.91 +   6.35   502.63   495.52
$TRAN   2794.96 -   1.49  2806.93  2784.79
VIX       35.43 +   0.92    36.38    34.17
Put/Call Ratio       .58

Fed fears raise risk reward ratios to unacceptable levels.

Will he or won't he? Only Greenspan knows for sure and he is not talking. Actually he is talking but he is not saying anything and that worries investors. The fear of the Fed put the skids on the Dow again today as financial issues continue to look for shelter. There is no other news worth repeating. It is Fed, Fed, Fed interspersed with the love bug virus. Now if we could only send the Fed the virus....

The Dow actually did not have a bad day. Yes, it finished down -67 points but after yesterday's whopping loss the narrow trading range for today was like a breath of fresh air. 10400 appeared to hold today and could be a staging point for the next rebound if the non-farm payrolls are benign. The Nasdaq only posted a +13 point gain but after being down -192 at the low yesterday we will take anything we can get. Actually with the bottom at 3600 yesterday and roughly 3700 today we still have a strong series of higher lows building upward pressure as more and more long term investors decide that the worst is over.

The Love Bug Virus was about the only thing besides the Fed in the news today. This serious virus has reportedly infected hundreds of thousands of computers and it goes after the heart of Windows, the registry. The FBI has already started working on tracking down the authors of the virus. Some reports have it starting in the Philippines. The main thing you should learn from this is NEVER OPEN ANY ATTACHMENT FROM ANYBODY unless you confirm with them that it is ok. Most of the recent virus attacks have cloned themselves to your email system and send emails to your address list without your knowledge. That love letter you got today was sent from your friends computer but not by your friend. If you are sending an attached file to someone it is a good idea to include some text that says, "Bill, this attachment is okay to open, Fred." If you send files repeatedly to others you can setup a code word to tell them quickly that it is a real file. Something like "Matrix" in the subject line tells them that the attachment really came from you. You can tell how many people thought they were really in love by the number of virus emails you received today. The people whose lists I belong to must be very amorous because I received almost a dozen virus emails. Makes you wonder since all of the ones I got came from guys and most are married. Does this prove how gullible males really are?

Enough talk of the Love Bug virus when we have a real interest rate virus taking a toll on the markets. You have heard it all week but the toll on the markets is growing. The Fed dread is paralyzing investors into non-action. The volume in the market is drying up as buyers sit on the sidelines and wait. Today's economic report showed that worker productivity dropped to only half of the huge gains from last month. With productivity up only +2.4% the Fed loses one of the reasons to be incremental in their rate hikes. Productivity had been soaring and the Fed kept scratching their collective heads because higher wages was ok with higher productivity. Drop productivity and all of a sudden higher wages are more critical to the interest rate decision.

Greenspan is really in a quandary this month. The market is choosing up sides and even if he wanted to only raise +.25% the market analysts are forcing his hand. The Fed fund futures, which have been right 30 of the last 31 times are calling for a 66% chance of a +.50% hike. Not a sure thing but close. Volume on the futures has increased +40% since the ECI last week as investors hedge their investments against a runaway Fed. The futures show a 100% chance of a +25% rate hike at each of the next three meetings and reach the 7% level. If that is not enough there is also almost a 75% chance according to the futures that the Fed funds rate will be 7.5% next year. Yes, 7.5%. Anything in the 7% range is going to put serious pressure on the stock market.

So what happened to mister incremental? Greenspan has always been known as slow and steady. Using his analogy of the US economy as a super tanker and interest rate hikes as very small chances in rudder direction, even the smallest changes in the rudder will eventually change the course of the tanker but it could be miles before they are noticed. Interest rate changes take 6-9 months to be felt in the economy and the main fear is the last hike. The one that hikes too far and forces the Fed to react in the opposite direction with cuts. The Fed does not want to be constantly changing rates. They would rather just keep the speed constant and not ever be responsible for a recession. Greenspan spoke today and he said nothing about rate hikes. OOPS! The Fed always clearly indicates policy in advance of action. Did his no comment mean he was still undecided about how big an increase they might make? Or was his no comment a crafty way to give the market another Maalox moment as analysts scrambled to read into his comments something that was not there? Are we having fun yet?

This soap opera is getting more complicated with each newscast. Greenspan cannot simply rely on the self correcting, self discounting US markets when making this decision. The wild card this week is the Euro. Yes, the Euro, now trading at an all time low and dropping daily as the US dollar gets stronger. Higher interest rates create a stronger US dollar and that impacts the other world currencies. If the Fed wanted to raise +.50% to shock the economy they now have to also worry about the falling Euro. This now adds an element of global responsibility to the decision as well.

We have had hike after hike over the last few months and the market just shook it off and continued to roar. Why is this meeting causing so much concern? The answer is valuations and inflation. Inflation as reported in the CPI/PPI/ECI etc is slowly showing undeniable signs of growth. Between now and the May-16th FOMC meeting there is no lack of economic reports. The Non-farm payroll report on Friday could be the spark that starts the bonfire. With new jobs expected to be over +310,000 analysts worry that the unemployment rate could drop below the psychologically important 4% level. Hourly wages could increase by more than .4% and wage growth by more than 3.9% annually. It is a recipe for inflation disaster. Add the PPI report on the 12th and the CPI report on Tuesday of the Fed meeting and the Fed has every piece of information they need to make their move. The worry of course is that these three reports will all line up to confirm the inflation rumor and cause the Fed to react aggressively for the next several meetings and that would be a very bad sign. Robert Perry, the San Francisco Fed President, said today that the Fed needs to act aggressively, but cautiously. Nothing like talking out of both sides of your mouth. This type of rhetoric is causing confusion in the market and when there is confusion money moves to the sidelines. Higher interest rates impact high PE stocks and many old time investors point to the S&P-500 with an average PE of 24.7 as historically over valued. The bulls however point to popular stocks like EBAY with a PE of 1,369 and claim the S&P is undervalued. It is like the chocolate or vanilla question. The answer is not material as long as you are happy with the one you order. This market has slowed on the historical impact of interest rates but in reality I think interest rates are not as applicable to Nasdaq stocks as they once were. Barton Biggs of course reserves the right to be wrong forever on market direction. The noted bear actually said today that he could see a relief rally of two to three weeks after the Fed decision but stocks would come back down. So if he has been wrong for years and he is calling for a relief rally, does that mean the market will crash?

Fed worries have put a lid on volume with the NYSE only trading slightly over 900 mln shares and the Nasdaq only 1.2 bln. Simply a buyers strike of major proportions. The NYSE advance declines was actually positive as were the Nasdaq advances as well. This tells me there are no sellers either. It looks to me like we could be setting up for a relief rally. I hate to agree with Barton but there are signs in the charts. The Nasdaq has four higher lows and held firm today when it could have easily sold off in fear. I believe that if the non-farm payrolls comes in at anything less than complete blowout then the Nasdaq will rebound to the 4000 level again. Hopefully putting in another higher low before the Fed meeting. We have a week before the PPI and a week in this market is an eternity. I think the market has already priced in a +.50% hike and only a +.25% hike will be viewed almost like an easing. The Fed has not raised more than .25% in five years and with the Euro lurking in the background the rate hike is still a toss up in my mind. I am more concerned about the weak fund inflows this week than the Fed. Of course the weak cash flows could be simply Fed dread at The retail level. The VIX is screaming buy at 36 but before you dip in to that margin money again remember it was over 40 on the big dip last month and that is the highest it has been since Oct-1998.

My parting thought, greed is alive and well. With the market beaten down so hard over the last month the odds of a strong rally after the Fed meeting and into the July earnings period are very strong. When odds are in favor of a rally aggressive investors will start moving into position in advance of the event. This is setting us up for buying on a benign jobs report and support building next week for a post Fed rally. Should you buy yet? Let your conscience be your guide. I am still flat with only one small position. I almost succumbed to the buying impulse today at the close but decided to be safe not sorry. I wish the jobs report would come in at 600,000 jobs and give us one more tweezer bottom at the open. Instead since I am flat we will probably get a less than expected number and the market will gap open +200 points and never look back. Murphy is alive and well! I will be target shooting at the open on any negative news because I believe the downside is limited. It is my personal opinion but I do vote with my own money.

Trade smart and don't buy too soon.

Jim Brown

Current long positions include: RAMP

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