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ANOTHER AFTERNOON STOCK RALLY

The economic reports were positive this morning, but stocks still opened lower due to the drag of high energy prices and poor profit announcements coming from a slew of corporations. U.S. factory orders beat expectations of a 0.5% gain when the Commerce Department announced the increase for June at 0.7% and a revision of the May orders higher by a tenth to a gain of 0.4%. The ISM Non-Manufacturing Index rose from 59.9 in June to 64.8 reported for last month, beating the consensus estimate of 61.5 and topping the forecast range of 57.9 to 64.7. The report depicts a rebounding service sector which accounts for roughly 85% of the economy with 12 out of 17 industries showing increased business activity. A brief survey of the early morning headlines will show why stocks began the day in negative territory.

The top story from CBS MarketWatch pretty well sums up the negative impact of high oil prices with, “U.S. Stocks in Broad Decline as Crude Concerns Persist.” Oil stories continue to litter the newswires with information about Saudi production capacity, Yukos and Lukoil developments in Russia, problems in Venezuela, labor disputes in Nigeria and pipeline disruptions in Iraq. The oil issues are really no surprise, but some of the profit announcements clearly took their toll.

The following headlines from Reuters were probably the driving force of the early declines:

IAC Shares Plunge After it Cuts Forecast
Tommy Hilfiger Posts Loss
Smithfield Warns on Earnings, Shares Dive
Dean Foods Profit Falls on Milk Costs
Titan Earnings Hurt by Government Investigation
Reliant Posts Wider Second-Quarter Loss

In early trading, two stocks fell for every one moving higher led by a massive decline of 25% on very high volume from Ciena Corporation after they announced fiscal third quarter sales of $75 million following Street estimates of $95 million. Wall Street certainly punishes when the numbers fall short of expectations! Not to worry though, because the afternoon rally is here! The Dow Jones Industrial Average made a sudden U-turn just after the lunch-hour (they started a bit earlier today) with the DJIA at 10,080. Within an hour the index added 80 points to break back into positive territory to an intra-day high of 10,162. The big news that turned stocks around was a break in the oil price as it fell $1.32 a barrel to settle at $42.38. Just when you thought you could make some money shorting stocks the miracle bull rally gores the bear once again.

Reuters reports, “Oil prices fell from fresh 21-year highs (really all-time highs) on Wednesday after U.S. gasoline supplies jumped and the president of production cartel OPEC reversed previous statements and said the group could immediately boost output to help cool prices.” He sure changed his mind quickly with impeccable timing to keep the NASDAQ from falling off the proverbial cliff! One must certainly question inventory data with discrepancies between the API and the Energy Department, and I’m wondering if the sudden new supply has anything to do with the Strategic Petroleum Reserve. Well, well…some exciting times we live in! By the closing bell the Dow Jones Industrial Average gained six points to close at 10,126, the NASDAQ Composite held on by only losing four points to close at 1,855 and the S&P 500 shed one point to close at 1,098.

Interest Rate Arena

Bond prices ended the day fractionally lower with the announcement from the Treasury that we have some big new supplies totaling $51 billion of Treasury debt to hit the market next week. On Monday the government plans to sell $22 billion three-year notes, Alan Greenspan should announce another 25 basis point increase to Fed Funds on Tuesday, then Wednesday $15 billion of five-year notes will hit the auction block and Thursday $14 billion in ten-year notes will hit the market. I closed out my short bond position today at a loss of less than 1% to simply get out of the way and increase my cash position.

I have said that Treasury prices tend to fall prior to significant government auctions making the offerings more attractive, but what I believe is more functional is that Treasury prices move higher once the debt auctions are complete. When the notes are sold, the big buyers are foreign central banks and the 22 primary bond dealers that conduct business directly with the Fed. I will assume the central banks will hold the Treasury paper for an extended period, but the bond dealers will want to move them out of their inventory. If I am correct, bond prices will move higher immediately after the auctions to give the primary dealers an outlet to move the inventory. I just have a tough time believing they will be forced to buy the Treasury Notes and then get stuck holding the bag as prices decline.

Consider this as a plausible scenario. Stocks are currently getting “a little help from a friend” to keep the broad indices from a technical breakdown that would trigger some big selling. If stocks break down at the end of next week, it would surely inspire a flight to safety as stocks are liquidated with the cash in a flight to safety in the bond market. The lower interest rates would also help the mortgage market and if interest rates go low enough it could even kick-in another fresh round of mortgage refinancing that would put more cash in consumers hands making them smile in the months leading up to the elections. An analyst interviewed on CNBC this morning suggested Mr. Greenspan would stick to the 25 basis point increase next week, but hold off on the expected increase scheduled for September.

By holding off in September, the stock market will be pleasantly surprised and begin its rally moving into the November elections. Politics are a very big deal right now and our financial commanders have both the motive and the means to “influence” the investment climate on a short-term basis. Powerful people with a vested interest in financial markets will do whatever is required to accomplish their agendas. Obviously this is pure conjecture on my part, but it helps to explain some of the peculiar behavior that many analysts have observed with the dollar, precious metals, sudden stock rallies and continued rationalization for historically low interest rates. From all the recent buzz on the internet, the question is not so much whether or not we are witnessing intervention in the markets, but rather if it is legally or ethically the right thing to do. Oh, the tangled webs we weave!

Can’t Resist!

I’m a bit short on time today due to earlier trading and contact with clients, but I’m compelled to make a few brief comments on silver and the dollar. Don’t be surprised if we see some short-term bashing in the gold and silver pits with the short-sellers getting a tad heavy handed…they too have their “vested interests.” What I enjoy watching is to see how silver gets beat around as an everyday commodity while it is classified as a precious metal. In this case, precious means RARE. With a rare commodity it will not be easy to come up with added supply when investment demand begins in earnest. The world is finding more and more uses for the shiny metal whose physical properties cannot be duplicated or synthesized in a laboratory. If you haven’t done your homework on the fundamentals of supply and demand for silver, it’s not too late.

Even considering the dollar strengthening fractionally today, silver continued to march higher. In the last six trading days, silver has moved from a low of $6.11 to an intra-day high today of $6.83, a gain of nearly 12% in just a few days! Last week I said not to blink or you’ll miss sliver blowing through $7.00. It’s a volatile precious commodity that has been taken for granted for too many years. Watch out for near-term gyrations, but holding the metal can give an investor a greater sense of security and learning the paper market and mining companies can add to growing the digitals in your portfolio!

Have a Great Evening!

Mike Hartman

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