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Market Wrap

Fed Poised to Disappoint Bulls

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      08-08-2002           High     Low     Volume Advance/Decline
DJIA     8712.02 +255.90  8717.42  8430.33 1.89 bln   2191/ 987
NASDAQ   1316.52 + 35.60  1316.52  1263.31 1.48 bln   2038/1312
S&P 100   457.16 + 15.70   457.52   440.83   Totals   4229/2299
S&P 500   905.46 + 28.69   905.84   875.17 
RUS 2000  389.84 +  6.37   390.04   381.09 
DJ TRANS 2333.00 + 61.60  2334.81  2255.61   
VIX        39.80 -  3.27    43.85    39.71   
VXN        59.35 -  9.49    71.16    59.26 
Total Vol   3,609M
Total UpVol 2,767M
Total DnVol   797M
52wk Highs   69
52wk Lows   314
TRIN        0.68
PUT/CALL     .75

The markets are soaring as though Greenspan had been bribed. The expectations of a Tuesday rate cut are very high although the futures are showing less than a 50% chance. Investors are setting themselves up for a fall but bulls have been turned into mad cows by the possibility. This is a picture of irrational exuberance at its finest.

Chart of the Dow

Chart of the Nasdaq

The economic reports this morning were mixed. The PPI came in lower than expected at -0.2% based largely on the drop in price for new cars. Despite the drop in the headline numbers the prices for core goods, a leading indicator for inflation, rose +0.2% and was the sixth monthly increase. The increases have only been minimal. This should not be a reason for the Fed to hold off but it is also no reason to rush into a cut.

Jobless claims fell by -15,000 for the week and the four-week moving average fell to a 17-month low. This shows the job market might be improving slightly despite the weak economy. This is another reason the Fed will not need to rush to cut rates.

Retail Sales grew at a much weaker rate in July, +2.6%, than the +5.1% rise in June. Apparel stores -3.4% and department stores -3.3% contributed to the decline but shoe stores got hit for a -6.7% loss. Drug stores, discount stores and wholesale clubs showed increases. Furniture stores reported only moderate growth despite the hot home sales. Wal-Mart reported lower than expected sales for last week but raised its earnings guidance.

Following this train of thought BBY warned today that they would miss estimates of 30-32 cents with new expectations of 17-21 cents. They cited flat same-store sales in the past four weeks due to declines in consumer confidence. The company said there was a general softening across most of its product categories. Consumers are beginning to hoard cash as we approach September 11th. Several retailers have now reported results below plan, weaker same store sales and decreased customer traffic. Several restaurant chains also announced lower same-store sales on Thursday. Electronics, apparel, furniture and even fast food. There is a message here but it is not one that will make the Fed cut rates next week. This is not something another 25-point cut can cure.

In other news TMPW continued dropping after warning that they would be posting up to 1,000 of their own employees resumes as they cut staff drastically. They are not seeing any increase in jobs and don't expect employers to begin hiring anytime soon.

Helping power the markets today was news that the IMF had changed its mind and would loan $30 billion to Brazil and boost a loan to Uruguay. This took the heat off US banks in the short term and made that asset allocation play in Germany on Tuesday very profitable. It also represented a change in stance for the US government. Since the IMF loans are funded by major banks all over the world you wonder if Deutsche Bank knew it was in progress and had something to do with that massive program buy in Germany. Conspiracy theorists have been heard speculating that Alan Greenspan blessed it as a way to support the US markets without having to cut rates. Analysts think major US banks have about $30 billion in exposure to Brazil already and had the country gone under would have had serious implications for the US. According to European news sources the Fed made a decision on July 23-24th that "any and all measures" would be taken to keep the US stock markets from melting down before November elections. (That is exactly when bids began appearing under the market.) With insolvency rumors swirling around JPM and Citigroup the Fed decided to do whatever it took to protect the markets. The IMF move in Brazil is seen as one of those steps. With Brazil's debt at $500 billion almost every analyst claims there is no hope to avoid a default and the loan was only a Band-Aid. What you did not hear in most media was that they would only get $6 billion this year and the balance was tied to some very unpopular austerity measures by the new government that have never been agreed to in the past. Say "market and political Band-Aid" three times fast.

There is a continued press to expense stock options and hardly a day goes by without another company going on record that they will or will not expense them. MSFT, INTC and CSCO have gone on record against the process. It is no wonder when the results are analyzed. In a study released today it appears overall tech earnings could be reduced by -70% while old line manufacturing and materials companies would only suffer a -7% decline on average. Seventy percent would be a serious hit to tech stock valuations and you can see why the majors are against it.

Abbey Joseph Cohen, drawn back into the limelight by a +500 point gain in the last three days, appeared on CNBC to carefully extol the virtues of the undervalued stock market. In a carefully scripted "interview" she was allowed to call the bottom for the umpteenth time. I watch the futures during the interview to see if the contrarian impact would send them plummeting again. If an investigative reporter really wanted to do an expose they could show the scripted questions given to the interviewers ahead of time and show that it is a setup from start to finish. Can you tell I don't like her? All we need now is for Ralph Acompora to come out of his burrow and call a bottom to guarantee six more weeks of drops.

Did your hear that the WCOM fraud is up to $6 billion now? Those were some really busy accountants over the last three years and it appears they left no trick untried. Odds are very good that Bernie Ebbers is definitely in trouble. You can't be CEO for three years and not miss $6 billion in revenue and the CFO was supposed to be a good friend.

Back to the Fed. The market has all but priced in a 50 point cut and the chances of even 25 points are less than 50%. The Fed may have decided to support the markets at all costs but based on the past weeks move the market is not sick. We are nearly +1200 points off the lows again and selling has nearly evaporated. The economy, if you believe official numbers, is still growing at a very slow pace. By throwing a quarter point at the market next week they risk the "worse than it seems" view and risk more confidence problems. That is trivial to the real reason they probably will not cut. I believe they will want to save all their remaining cuts for the September 24th meeting. If there is a terrorist event on the anniversary they will want to move quickly and strongly to prevent a meltdown. If they spend a cut here when they don't need it then they could be short later. I personally don't think they will let the Fed funds rate go below 1.00% so that only leaves them 75 basis points to move. If they really wanted to make a statement at some point in the future a 75 point cut all at once would be that point. A quarter here, quarter there will not make any difference at this point in the economic cycle. Most of the problems we have cannot be corrected by additional cuts. My opinion is they will continue to say that there are "risks to the economy" but the "economy is expanding" and stand aside. Just my opinion.

However this sets investors up for a fall. The fundamentals of the market have not changed, just the sentiment. With the consumer beginning to hoard cash the August numbers are going to be grim. The 4Q will be grim as well because there are no rebate checks to be spent this season. Comparable numbers will be negative. August could still be a challenge because of the CEO/CFO certifications. A "no change" on Tuesday will be seen as "no help" to the current market and the sentiment is likely to change very quickly.

The markets closed at the highs of the day and right at the highs from last week. This is where they will fail if they are going to fail. The positive sentiment is strong but I think it is really a lack of sellers. The bears are scared of the Fed meeting and after being cut to ribbons several times recently are content to wait for the announcement. This means we could see another positive day on Friday. My ideal setup would be a large drop on profit taking at the open and then a rally back over current resistance at OEX 458. The Dow needs to break 8750 but after that we could be off to the races, at least until Tuesday.

Enter Very Passively, Exit Very Aggressively!

Jim Brown

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